China: Fed, Treasuries, RMB, and the G-20 Meeting

Published on September 11, 2015

China’s Finance Minister Lou Jiwei and PBoC Governor Zhou Xiaochuan met with US Secretary of the Treasury Jack Lew for about an hour on the sidelines of last weekend’s G-20 meeting in Ankara, Turkey to discuss a range of issues including the Federal Reserve’s looming rate policy decision, China’s US treasury holdings, and RMB policy.


*** From what we understand, Chinese officials expressed concern a Fed rate hike in September could worsen Beijing’s capital flight problems and complicate its efforts to stabilize markets, while they clarified that their net sales of treasuries in August were in fact less than $20 billion, not the $100 billion or more that is being widely reported in the media. ***


*** On the RMB, the Chinese reiterated they have no intention of letting the RMB depreciate much further, and assured they would continue to support a “stable and strong” currency, not just in the long run, but also in the short term. They believe they also won US support, in principle at least, for eventual inclusion of the RMB in the International Monetary Fund’s SDR basket. ***


Beijing on the Fed and Treasury Sales


Probably the most sensitive issue that was discussed during the G-20 meetings was the timing of the Federal Reserve’s start to policy normalization. On the one hand, many officials from the Emerging Market member countries of the G-20 urged the Fed to remove the uncertainty hanging over global markets and economies for so long by moving on rates sooner rather than further delays.


But the Chinese officials expressed their concerns that an interest rate hike in September could pose a risk to Chinese growth, in particular, triggering more capital flight and international financial market anxiety.


The Chinese concern is not about whether a 25 basis point Fed hike would dent US growth, in other words, but that an imminent hike would lead to accelerating sales of emerging market assets, weakening the RMB as well as the other emerging market currencies, and potentially creating deeper instability as capital flees into the dollar.


With a heightened sense of sensitivity around their domestic markets, Chinese officials indicated they are clearly hoping for a December rather than September move from the Federal Reserve.


And despite reports of $100 billion or more of US Treasury bonds having been sold by Beijing, Chinese officials clarified to their US counterpart that the net reduction in its US bond holdings in August had in fact been no more than $20 billion, despite the PBoC’s large-size RMB buying and dollar selling in the onshore spot market to ensure the RMB did not slide below 6.4000.


In that spirit, Chinese officials have apparently agreed to inform the US Treasury, as suggested by Secretary Lew, if China were to sell more than $30 billion of treasuries in any given month.


RMB Policy and the IMF


The Chinese officials also emphasized and reiterated to Secretary Lew that Beijing has no intention of deliberately letting the RMB depreciate much further. They assured the government will continue to try and guide market expectations on the currency in a more positive direction from the current negativity, and will actively work to keep the onshore spot RMB relatively stable and strong for the rest of the year.


Lew expressed an understanding of Beijing’s efforts to let the RMB daily central parity rate meet the spot exchange rate, reflecting market demand. But the US Treasury Secretary again strongly urged China not to deliberately manage RMB depreciation from here, and in the long run to allow for the fundamentals to lead the RMB to presumably appreciate against the US dollar. In other words, Lew was asserting, if there is an upward market pressure on the RMB, China must keep its promise to intervene less in the markets and allow the markets to push the currency higher.


Indeed, even in the short run, for all the continued market expectations of a deep or deliberate depreciation of the currency, some Chinese officials believe as the economy stabilizes from here, that the RMB could appreciate from current levels to 6.3000 or more by the end of this year.


And when it comes to the fundamentals, China’s powerful NDRC (National Development and Reform Commission) continues to expect Q3 GDP growth to come in at or above the 7% level.


Officials furthermore acknowledge a certain degree of political sensitivity surrounding currency policy in the short term, in light of the upcoming IMF meetings in September, as well as the Oval Office summit planned at the end of September between Presidents Xi Jinping and Obama (see also SGH 9/8/15, “China: New Stability and Stimulus Measures”).


Lew, from what we understand, also expressed a willingness to discuss the inclusion of the RMB in the IMF SDR basket, which Chinese officials took to mean the US indicated it could in principle support the RMB joining the SDR basket even as soon as at the November IMF meeting.


In practice, however, it could take several years for the RMB to be fully convertible, a precondition for such a step. And indeed, Chinese officials, while repeating their commitment to boosting the internationalization of the RMB and moving toward RMB free convertibility in a step by step, orderly manner, affirmed China is not considering full convertibility until 2018 at the earliest.


And on Cyber security


The Chinese and American officials also discussed the sensitive cyber security issue.


Under direct instructions from President Xi, the Chinese economic officials delivered a message to Lew that Beijing seeks a solution through dialogue and cooperation on the cyber security issue, and warned that if the Obama administration were, as threatened, to actually impose sanctions over the hacker issue, it would heavily damage Sino-US relations and poison the atmosphere of Xi’s upcoming visit to the US.


And just to underscore that point, Beijing has warned it will take retaliatory measures if the Obama administration did impose sanctions over the hacker issue.


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