China is facing increasing pressure on its currency, the yuan, as prolonged high interest rates in the United States contribute to capital outflows from Asian economies. The Bank for International Settlements (BIS) has warned of uncertainty in the monetary policy outlook for emerging economies, including China. Since the Asian financial crisis in 1997, central banks in these economies have adopted flexible or inflexible inflation targeting regimes. China's yuan is experiencing its highest level of capital outflow in eight years, with the currency's real value depreciating by 13% between early 2022 and early 2024, according to the BIS. China's post-Covid recovery has been uneven, with weak consumption and falling prices. The country's inflation has remained low, with the consumer price index (CPI) hovering around zero since April 2023. Falling prices in China have also led to reduced import price increases in other major economies, potentially impacting the average CPI inflation rate [5fef445a].
China's policymakers are grappling with the dilemma of a weakening yuan. While a weaker currency could boost exports and stimulate the economy, it risks undermining President Xi Jinping's goal of establishing the yuan as a global currency. Foreign investors are anticipating a softer yuan by the end of the year, as expectations for a U.S. Federal Reserve interest rate cut diminish. The depreciation of the yuan has significant implications for China's currency policy and the country's economy as a whole. A weaker yuan can make Chinese exports more competitive in international markets, potentially boosting trade and economic growth. It can also help to offset the impact of additional tariffs on Chinese imports, as a weaker currency makes these goods relatively cheaper for foreign buyers. However, a depreciating yuan can also lead to capital outflows, as investors seek to move their money out of the country to protect its value. This can put pressure on China's foreign exchange reserves and create challenges for the country's monetary authorities in managing the currency's stability. China's policymakers must weigh the potential benefits of a weaker yuan against the risks it poses to their broader economic and geopolitical objectives. President Xi Jinping has been working to elevate the yuan's status on the global stage, aiming to reduce China's reliance on the U.S. dollar and increase the international use of the yuan. A weaker yuan could undermine these efforts and erode confidence in the currency. However, if China allows the yuan to depreciate further, it could provide a short-term boost to the economy and help offset the impact of trade tensions and tariffs [14dbe42d] [f03e6a2a].
Despite the challenges, Hong Kong has played a role in preventing significant depreciation of the yuan by facilitating offshore yuan remittances to mainland China. The currency's foreign settlement ratio has dropped to 60%, the lowest level since 2017. Factors contributing to this trend include large differentials between the US and China, weak confidence in China's economic outlook, and perceptions of geopolitical risk. Hong Kong has observed a sizeable level of foreign currency conversion into the yuan and increasing remittances of yuan into mainland China. Monthly yuan remittances from Hong Kong to mainland China surged 117% from US$588 billion in September 2023 to US$1.28 trillion in April 2024. Huang Yiping, dean of Peking University's National School of Development, has highlighted Hong Kong's role as an international financial center and an apt platform to help the yuan go global. Huang also emphasized the need to uphold financial stability and security in developing and promoting Hong Kong's offshore market. The People's Bank of China (PBOC) has expressed support for the development of the offshore yuan market and the interconnection between the financial markets of the mainland and Hong Kong [ddccaaf1].
The implications of a weakening yuan extend beyond China's borders and have relevance for CFOs of global corporations. The depreciation of the yuan can disrupt supply chains and competitive dynamics in various industries, impacting the profitability and operations of multinational companies. CFOs should closely monitor these developments and incorporate them into their currency risk management strategies. By staying informed, conducting scenario planning, implementing contingency measures, and collaborating with industry peers and policymakers, CFOs can position their organizations to navigate challenges and capitalize on opportunities [f03e6a2a].