China's Yuan Aims To Befriend Global Markets
NEW YORK (MainStreet) On the heels of a softening economy, China took action to loosen control of its yuan currency, giving markets a greater say in the currency's valuation.
The Chinese central bank, the People's Bank of China (PBOC), expanded the yuan's trading band to 2%, effective Monday, compared to 1%, which was the level for roughly two years. This means investors can trade the yuan plus or minus 2% past the parity rate, determined by the PBOC each day.
"This is sign that Beijing is starting to react to what the world's been calling for," says Lennon Sweeting, corporate dealer and FX strategist at USForex, an online currency broker and payments provider. "China is trying to open doors to global trade and shake out speculators who have been taking advantage of the fact that the yuan has arguably been a one-way trade for a number of years."
Speculators have long benefited from the PBOC's tight control of the yuan, which has caused the yuan to strengthen against the dollar in recent years. The yuan rose 2.9% against the dollar in 2013. A wider trading band makes speculators more susceptible to currency volatility.
Aside from speculators looking to make an easy return, economic tension was also part of the equation. Chinese exports fell 18% in February, which highlighted the need for a weaker yuan to make exports more attractive. Since the start of 2014, the PBOC took measures to weaken its currency, causing the yuan to fall 1.6% against the dollar.
The yuan's movements come against the backdrop of measures taken by the U.S. Federal Reserve to scale back its bond stimulus program, which has started to cause global investors to flock to U.S. Treasury Bonds as a safe haven investment. "I think the trading band increase was also a reaction to the quantitative easing tapering in the U.S.," Sweeting adds.
While a wider trading band is evidence for investors that China is looking to normalize its currency based on markets rather than government intervention, the PBOC will still step in when needed and has a long road ahead to achieve its lofty goal of knocking the U.S. dollar off its perch as the world's reserve currency.
"The PBOC will still make necessary adjustments to keep the rate stable and will have a decisive factor in which direction the currency moves, but I don't see there being a big jump in the yuan's value for the rest of 2014," Sweeting says. "It's a positive story out of China and I wouldn't be surprised if we ended 2014 like 2013."
At the close on Monday, the yuan lost 0.5% against the dollar, closing at 6.1806.
- Written by Scott Gamm for MainStreet. Gamm is author of MORE MONEY, PLEASE