The US’s proposed currency deal with China is casting the spotlight on Beijing’s control of the yuan.
Ensuring China doesn’t depreciate its currency to soften the impact of US tariffs has become a sticking point in trade negotiations, with officials yet to agree on the issue of enforcement.
And as foreign-exchange traders know, monitoring what China’s doing isn’t straightforward.
The yuan is subject to a hard-to-understand system in which the central bank fixes daily reference rates, and is frequently cited as influencing intraday trading as well.
While the result is one of the world’s least volatile currencies, it can still shock with outsized moves. Any intervention isn’t directly disclosed.
The People’s Bank of China has pledged to allow the market to play a “fundamental” role and to make the yuan more flexible in both directions.
After weakening rapidly in 2018, prompting a rebuke from President Donald Trump, the currency has rebounded more than 2% this year.
There has been less “apparent manipulation” by China over the past year, said Xia Le, Hong Kong-based chief Asia economist at Banco Bilbao Vizcaya Argentaria. “Methods have become more subtle.”
There are still ways that the hand of the state may be detected. These are some of the most-watched:
Driving up the cost of betting against the currency in Hong Kong has long been seen as a favoured tactic. The overnight yuan borrowing cost, known as Hibor, surged to more than 20% on several occasions in the past few years, most notably in January 2016 when it climbed to almost 67%.
Another squeeze was seen in August, when the cost of bearish wagers on the Chinese currency, as reflected in the offshore yuan’s 12-month forward points, soared the most since 2011.
The move came amid speculation that China was restricting banks’ ability to lend yuan offshore.
Perhaps the most obvious way that the PBOC manages the currency is through the daily fixing, which is set each morning before onshore trading begins.
The rate is partly calculated depending on where the yuan was at 4.30pm the previous day, and the currency can move as much as 2% either side of that rate.
Since August, the PBOC made an adjustment in its fixing formula, known as the counter-cyclical factor, which allows it to mitigate the bias toward a weaker yuan.
The central bank also uses specific measures to influence the currency.
In 2015 and 2018 the PBOC imposed a reserve requirement on some trading of foreign-exchange forward contracts – effectively making it more expensive to short the yuan.
When introducing the 20% requirement last year, the monetary authority said the change was aimed at preventing macro financial risks because the foreign-exchange market showed signs of volatility amid trade frictions.
Chinese officials aren’t averse to talking up or down their currency when needed, though sometimes it’s through the repetition of usually-bland statements.
Back in July, the yuan rebounded after central bankers vowed to keep the yuan stable and to not deploy it as a weapon in the trade conflict with the US The following month PBOC officials urged banks in a meeting to prevent any “herd behaviour” and momentum-chasing moves in the foreign-exchange market, according to people familiar with the matter.
Controlling the flow of funds in and out of the country is one of the bluntest instruments the authorities have to influence the currency.
China tightened capital controls in the wake of the yuan’s devaluation in 2015, imposing restrictions on everything from overseas takeovers to purchases of insurance policies in Hong Kong, and there has been little sign of a let up.
Conversely, the government has been keen to encourage inflows, and this year considerably expanded the scope of the Qualified Foreign Institutional Investor program, one of the key channels into China.
Finally, China has its war chest of foreign reserves. Policy makers burned through billions of dollars in the aftermath of the devaluation to support the yuan.
More recently, the stockpile has stabilised, and ticked higher for three straight months through January.
While the data is closely watched, a caveat: broad gains in the dollar can lead to declines in reported reserves that aren’t a result of intervention.