The People’s Bank of China today fixed the CNY exchange (reference) rate below 6.56 for the first time since early February. That means all the tremendous effort that went into erasing December and January’s “dollar†pressure (not devaluation) has been unwound, as the currency now trades just about where it was at the start of China’s Lunar New Year Golden Week. This downward trend has not been unexpected, of course, but even I figured there would be a little more variability and not so much of an exact countdown on the ticking clock.
The issue is forward intervention, either directly or as derivative cover for Chinese banks to do the same. In the parlance of wholesale finance, someone got “more short†the “dollar†in order to shift the funding disruption into the future. The only choices are those Chinese banks or the central bank, but in reality either path ends up in the PBOC’s lap. It is a difficult concept to grasp from the orthodox perspective because it is and has been assumed since the Asian flu episode of the late 1990’s that immense stockpiles of foreign “reserves†were proportional insurance against just this sort of problem. China had gathered by far the greatest hoard, therefore it has the most currency/dollar insurance?
China did what it was supposed to do in accumulating, purportedly, the largest stockpile of forex “reserves†in human history. In fact, the Chinese made that forex the very basis for their internal financial mechanisms with regard to money and market liquidity. And yet, for “some†reason, China was subjected to great strain and even open disorder anyway; forex reserves don’t seem to have quite the effect or give quite the ability economists have expected for nearly the past two decades. Instead, to try and quell outright hysteria in August, and surely starting before it, the PBOC certainly resorted to swaps, forwards and likely an entire array of wholesale re-orientations. For a time, they, like Thailand in early 1997, appeared to work; it was certainly enough to fool economists.
Indeed it was, as by September it did appear in the traditional accounting as if China had cut back on having to “sell UST’sâ€; by October, the FX supply was actually rising again. Rather than indicate that the worst was behind, almost three months after the massive and disruptive “devaluation†it all started again like regular clockwork. The rhythm of interbank derivatives is regular because everything is standardized. Even in Thailand in 1997 there was but one three-month “dollar†window before all hell broke loose for the final time.
