Yuan tumbles vs dollar, heads for biggest monthly drop

31 May, 2012

SHANGHAI: The yuan slumped against the dollar on Thursday, heading for its biggest monthly drop on record, hit by a continuously strengthening US currency in global markets and a conspicuous slowdown in China's economic growth, traders said.

The lack of a forceful US response to the 1 percent fall in the yuan in May surprised market participants after years of heavy pressure from the United States for the yuan to appreciate versus the dollar to help balance bilateral and global trade.

Many currency players, who even a couple of months ago suspected yuan depreciation would spark a US outcry, now appear to agree that weak global market conditions have persuaded US politicians to accept the trend.

This realization has given market participants the confidence to let the depreciation trend develop without fear of being caught out by a central bank decision to halt the trend in response to US pressure.

On the other hand, a sharply weakening yuan could harm China's economy by inciting capital outflow, and the Chinese central bank has acted to control the pace of yuan depreciation.

The People's Bank of China (PBOC) is likely to maintain its tight grip on the exchange rate in line with the performance of the world's second largest economy as well as the value of the dollar in global markets, traders said.

"Weak global market conditions appear to have already made US pressure on yuan appreciation negligible," said a senior trader at a Chinese commercial bank in Shenzhen.

"Now the PBOC's main task appears to shift to control the pace of yuan deprecation, not appreciation."

Spot yuan tumbled 0.25 percent to an intraday low of 6.3735 against the dollar in late morning, after touching a high of 6.3638, weakening from Wednesday's close of 6.3577.

The currency has shed 0.99 percent this month, its biggest monthly depreciation since the establishment of the domestic market, the China Foreign Exchange Trade System, in 1994.

PACE

The PBOC has recently set a series of midpoints stronger than the yuan's trading level as it tries to control the pace of yuan depreciation amid signs that funds flowing into China are slowing and Chinese firms are retaining dollars on hand.

A set of PBOC data, the "Position for Forex Purchases", showed the central bank and Chinese financial institutions sold a net 60.6 billion yuan ($9.6 billion) in foreign exchange in April.

Until very recently, the PBOC and banks typically bought large amounts of the dollar from domestic firms eager to trade for yuan but that has changed with the slowdown in the economy.

The central bank set the yuan's midpoint at 6.3355 against the dollar on Thursday, only slightly weaker than Wednesday's midpoint of 6.3297 but much stronger than yuan's trading levels.

"That is a clear signal that while China may let the yuan depreciate, it will allow the currency to fall only at a pace controlled by the PBOC," said a trader at an Australian bank.

The yuan has depreciated 1.25 percent so far this year, while the dollar index reached its highest level since September 2010 in early Asian trade, at 83.11, due to a slumping euro.

In addition, China's economic growth slowed to a near three-year low of 8.1 percent in the first quarter. Many economists expect GDP growth to fall below 8 percent in the second quarter.

A slow and steady pace of yuan depreciation will be in line with China's latest moves to boost its growth but avoid excessive stimuli.

Chinese academics have said that while the country needs to boost investment to spur economic growth, Beijing should shun aggressive fiscal stimulus.

Offshore one-year non-deliverable dollar/yuan forwards traded at 6.4360 in late morning, implying a yuan depreciation of 1.56 percent to Thursday's midpoint.

Offshore spot yuan was trading around 6.3710 in early trade, largely in line with the onshore spot yuan trend.

Copyright Reuters, 2012

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