Financial institutions will no longer need to set aside cash when purchasing foreign exchange for clients through currency forwards, effective from Monday, according to a statement from the People’s Bank of China on Saturday. Banks previously had to hold 20% of sales on some foreign exchange forward contracts, a move imposed two years ago when the currency slumped toward 7 per dollar.
The yuan surged about 1.6% on Friday when the currency traded for the first time this month following National Day holidays. While the move was partly a catch-up with the offshore exchange rate, which continued trading during much of the holiday period, there’s little doubt gains in the yuan have been accelerating. Last quarter was the currency’s best in 12 years.
The step by the central bank is likely to prompt bullish traders to pare back optimism, at least for now. Back in September 2017, when the PBOC similarly cut the cost to zero following sharp gains, the yuan slumped about 2.5% in the next three weeks. The move also shows how the PBOC continues to pull on levers to influence the currency, undermining the yuan’s potential as a haven.
The PBOC will continue to maintain flexibility in the yuan exchange rate and stabilize market expectations, according to Saturday’s statement. Officials will also keep the yuan basically stable at a reasonable equilibrium level, it said.
The yuan is the top performer among Asian peers in the past three months, climbing about 4.5% against the dollar. It closed on Friday at about 6.69 per dollar, its strongest level since April 2019. A recovering economy, a hefty yield premium in sovereign debt over Treasuries and the prospect of a U.S. presidential victory by Democrat nominee Joe Biden are all providing tailwinds.
How far authorities will go to limit the currency’s strength remains to seen. The more influential signal will be seen on Monday, when the PBOC sets its daily currency reference rate, according to Khoon Goh, head of Asia research at Australia and New Zealand Banking Group Ltd. in Singapore.
The reserve requirements are typically removed when there is no longer any concern about currency weakness, he said. “The fixings will be a more important clue as to whether the authorities deem recent strength to be too much,” he said.