Bloomberg News

China Sees Renewed Capital Inflows, Yuan Gain Expectations

February 16, 2012

(Updates with economist’s comment on yuan in ninth paragraph)

Feb. 16 (Bloomberg) -- Capital flows into China have rebounded this year, the central bank said, bolstering the case for officials refraining from any immediate cuts in banks’ reserve requirements.

Expectations for a decline in the value of the yuan against the U.S. dollar have also reversed, with non-deliverable forward contracts now forecasting no change or some appreciation, the People’s Bank of China said in a quarterly monetary policy report posted on its website yesterday. It didn’t specify when the document was prepared.

China reduced the amount of money banks must set aside as reserves for the first time in three years in December as capital inflows dried up amid Europe’s debt crisis, exacerbating a domestic credit crunch. UBS AG and Nomura Holdings Inc. have scaled back forecasts for cuts after liquidity increased and the trade surplus surged.

“Large foreign-currency inflows may exert great influence on Chinese central bank monetary policy, and may reduce the likelihood of a cut in reserve requirements,” said Liu Li-Gang, head of Greater China economics at Australia & New Zealand Banking Group Ltd. in Hong Kong, who previously worked at the World Bank. Inflows this year, including a higher-than-forecast trade surplus, may also put “relatively large” appreciation pressure on the yuan, he said.

China’s foreign-exchange reserves, the world’s biggest at $3.18 trillion, dropped for the first time in more than a decade in the fourth quarter as foreign investment moderated, the trade surplus narrowed and Europe’s crisis spurred investors to sell emerging-market assets.

‘Closely Monitor’

The country will see net inflows of capital this year, albeit at a lower level than previous years, as the nation maintains a trade surplus and the “vast potential” of its domestic market draws funds, the PBOC said. It didn’t provide a forecast.

The central bank said it will “closely monitor” the trend of rising capital inflows, including financial institutions’ purchases of foreign exchange, and improve the flexibility of its policy adjustments.

Twelve-month non-deliverable forwards traded at 6.2798 per dollar in Hong Kong yesterday, a 0.3 percent premium to the onshore spot rate, according to data compiled by Bloomberg. The contracts traded at a discount from mid November to early January.

Increase Yuan Flexibility

China will “increase two-way flexibility” of the yuan, the central bank said. The change in wording from the previous report’s “increase flexibility” points to a “clear slowdown in the pace of yuan appreciation,” Yao Wei, a Hong Kong-based economist with Societe Generale SA, said in a note to clients late yesterday.

The yuan closed at 6.30 in Shanghai yesterday compared with 6.2996 the previous day, according to the China Foreign Exchange Trade System.

A cut in banks’ reserve requirements is “unlikely in the near future and may not even happen at all this year” provided market liquidity is “adequate” and foreign-exchange reserves increase, Wang Tao, Hong Kong-based chief China economist at UBS, said in a Feb. 10 note. She previously estimated two or three reductions in the first half of the year. Zhang Zhiwei, chief China economist at Nomura in Hong Kong, said last week the central bank may postpone a cut until March.

Reduced Chances

ANZ’s Liu said he expects two or three reductions this year, based on the central bank’s expectation of a 14 percent growth in M2, the broadest measure of money supply. Capital inflows may be around $369 billion this year and if they turn out to be larger, that may reduce the chances for a reduction, he said.

The PBOC said yesterday it will improve the use of differentiated reserve ratios, a mechanism where individual lenders hold different percentages of deposits as reserves according to their capital adequacy levels and lending growth. The levels will also be adjusted on economic and credit conditions, it said.

The government will still need to control the “magnitude and pace of macroeconomic policy” to prevent a rebound in consumer prices, according to the report. Inflation expectations haven’t stabilized and prices could rebound as global liquidity is “loose” and upward pressure on oil costs remains, the PBOC said.

‘Appropriate Growth’

Inflation unexpectedly accelerated to 4.5 percent in January, quickening for the first time in six months, as prices climbed ahead of the Chinese New Year holiday.

M2 will probably grow by about 14 percent this year, the central bank said. That compares with a 13.6 percent increase in 2011. The central bank also pledged to maintain “appropriate growth” in lending this year, without giving more details.

The report suggests “cautious monetary easing in the near term,” Societe Generale’s Wei said. “The overall tone was not particularly dovish, due to concerns over inflation and financial stability.”

The central bank’s preliminary M2 growth target would be consistent with an 8 trillion yuan increase in bank lending this year, she said.

--Victoria Ruan and Li Yanping, with assistance from Huang Zhe and Nerys Avery in Beijing. Editors: Nerys Avery, Joshua Fellman

To contact Bloomberg News staff for this story: Victoria Ruan in Beijing at; Li Yanping in Beijing at

To contact the editor responsible for this story: Paul Panckhurst at

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