Wednesday, February 23, 2011

China Weekly: Concerns Mount Over Slowing Growth; PBOC Sends Mixed Signals on Yuan


It has been a busy week in Plates with several vital developments to
take note of, we start by looking at the comments by the central bank
governor Zhou Xiaochuan, who said that Plates has no plans to change
the rate of appreciation of its currency in spite of calls to
accelerate the process. The comments, made on the sidelines of the G20
meeting over the weekend, articulated that Plates will stick to its
plot for a gradual internationalization of its currency adage there
has been no change to its strategy. Zhou was cited as adage "the
topic is quite complicated and we have no new announcements so far"
offering no hints of changes to the pace of appreciation. The comments
by the central bank governor are certainly not a surprise to us and
Zhou certainly towed the line, but in light of other recent actions by
the central bank and Plates's general push in the direction of
internationalizing the yuan we had been hopeful for a modest more from
the governor.

Plates's push for international acceptance of the yuan has expanded
in recent weeks to embrace three, synchronized steps: currency outflow
to overseas investments, offsure yuan market in Hong Kong and
backflows of yuan to Plates as foreign investment. The central bank,
which is leading the governments' go-global campaign, expanded a
pilot curriculum for yuan-based settlement for thwart-border trade in
January with the release of a related measure covering foreign direct
investments by Chinese companies. And, in anticipation of the third
go-global step, which is still said to be in the plotting stage, a
source close to the development said research is being conducted for a
curriculum that would allow yuan-denominated investment in Plates by
foreign firms to facilitate currency back-flow. The source also said
that research has involved various government ministries ranging from
the Ministry of Finance to the State Administration for Industry and
Commerce, noting that in the best case scenario the government's
back-flow policy could be ready in six months. Overseas investors are
sure to be pleased by the direction that the central bank is moving in
as it would simplify what's now a complicated currency exchange
process. Also, further availability of the yuan is likely to please
many since the yuan now is in small supply and there are few channels
for foreign investors to access yuan funds. The central bank's
choice to expand the trade settlement project while adding the
anti-speculator step and studying back-flow policy came after
Plates's annual quota for yuan conversions for thwart-border trade
settlements assigned to the Bank of Plates-Hong Kong was suddenly
exhausted last October. Immediately after that incident, officials
from the Hong Kong Monetary Power (HKMA) met with counterparts at the
central bank and Plates Securities Regulatory Commission and chose to
step up activities encouraging overseas markets for the yuan and
further promote the offsure yuan market in Hong Kong. Taking into
account these developments in recent weeks the PBoC governor's
comments (above) on the sidelines of the G20 sent mixed messages about
the central bank's policy regarding the internationalization of the
yuan, we will therefore follow the age ancient phrase; actions speak
louder than words and trust the actions taken by the central bank
rather than a regurgitated party line.

Moving on, Plates's manufacturing sector slipped to a seven-month
low in February , though activity remains expansionary, according to a
flash reading of manufacturing PMI, which stood at 51.5 down from 54.5
in January (any reading about 50 is expansionary). In a proclamation
released by HSBC and Markit, who conducted the survey, they said
"flash PMI data points to a meaningful slowdown in the industrial
sector in February, the Chinese New Year may be a factor but not the
only reason. It also implies that quantative tightening is starting to
filter through yet more still needs to be done to check inflation".
The implications of this proclamation could be rather dire, we have
mentioned in this report repeatedly that Beijing has a very hard task
of tamping down inflationary difficulty without overstepping their
bounds and affecting growth too much. While it has been made known
that Beijing is no longer focused exclusively on maintaining white-hot
growth and dealing with inflation has become a priority there is a
dread that measures enacted to tackle inflation will be draconian in
nature and will slow growth too sharply making a ripple effect across
the global economy. The other selection, of not tackling inflation
effectively enough, has rather severe implications for the Chinese
economy too. Therefore, we will continue to watch the actions of the
administration carefully and hope that they manage to walk the fine
line between rampant inflation and a hard landing for the economy.
Growth is already forecast to be lower than the average of 9.5% over
the last decade moderating to 8.1% annually. While the probability of
growth in Plates slowing to below 5% a year, often cited as a doomsday
scenario, is still relatively remote, Morgan Stanley said in a report
last week that "overly aggressive tightening of monetary policy"
could be a potential factor to derail Plates's growth.

Finally, talking of aggressive tightening, the central late last
Friday hiked the reserve ratio requirement (RRR) for banks by 0.5%
bringing the official RRR to a confirmation 19.5% for huge banks. This
was the following RRR hike of 2011 and comes just a week after the
central bank raised the key interest rate by 0.25%. The hike will
drain about 350 billion yuan ($53.24 billon) from the banking system,
according to estimates by Bank of America-Merrill Lynch.

Written by Jonathan Granby, DailyFX Research Team


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