Caixin
Aug 27, 2018 07:06 PM
OPINION

Caixin View: Central Bank Laying Groundwork to Weaken Yuan Beyond 7-per-Dollar Barrier If Necessary

On Friday, the People’s Bank of China (PBOC) announced it had reintroduced the “countercyclical factor” (CCF) in calculating the yuan’s daily midpoint, as the central bank aims to prop up the value of the currency against the dollar and stabilize market sentiment. The original reasoning behind the CCF, which was first introduced in May 2017 and then suspended in March, is that “pro-cyclical” tendencies and “herd effects” can lead to irrational valuations of the currency that do not reflect economic fundamentals. The CCF is intended to hold back these tendencies, although the details of what goes into the calculation are somewhat of a mystery.

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The first time the CCF was introduced, back in May 2017, the yuan jumped in value and began a long-term upwards trend (see chart). The offshore yuan did surge more than 300 pips to trade at around 6.87 against the dollar in late night trading on Friday after the PBOC announcement; as of Monday afternoon, it was trading at around 6.80 against the dollar. But we don’t expect a repeat of 2017’s significant shift, which was also boosted by a falling U.S. dollar index at the time.

The reintroduction of the CCF instead signals that the PBOC will try to keep the yuan in a similar position to where it’s been for the last month or so — in the band around 6.7 to 6.9 yuan to the dollar. Reintroducing the CCF is an effort to strengthen market confidence that the PBOC will not, at least in the short term, allow the yuan to weaken past the important psychological barrier of 7 yuan to the dollar. This is intended to wade off fears that the slipping yuan will get out of control, leading to a torrent of capital outflows like those of 2016.

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