TAIPEI – China devalued the yuan by the most in two decades, ending a de facto peg to the dollar that has been in place since March and battered exports.
The People’s Bank of China (PBOC) cut its daily reference rate for the currency by a record 1.9 percent, triggering the yuan’s biggest one-day loss since China unified official and market exchange rates in January 1994. The change was a one-time adjustment, the central bank said in a statement, adding that it plans to keep the yuan stable at a “reasonable” level and will strengthen the market’s role in determining the fixing.
“It looks like this is the end of the fixing as we know it,” said Khoon Goh, a Singapore-based strategist at Australia & New Zealand Banking Group Ltd. “The one-off devaluation of the fix and allowing more market-based determination takes us into a new currency regime.”
The PBOC had been supporting the yuan to deter capital outflows and encourage greater global usage as China pushes for official reserve status at the International Monetary Fund. The intervention contributed to a $300 billion slide in the nation’s foreign-exchange reserves over the last four quarters and made the yuan the best performer in emerging markets, eroding the competitiveness of Chinese exports.
The currency dropped 1.4 percent to 6.2980 per dollar as of 11:12 a.m. in Shanghai, and slid 1.6 percent in Hong Kong’s offshore trading. The onshore spot rate was 1.1 percent weaker than the reference rate of 6.2298, within the 2 percent limit allowed by the central bank.
The currency’s closing levels in Shanghai were restricted to 6.2096 or 6.2097 versus the dollar for more than a week through Monday and daily moves has been a maximum 0.01 percent for a month. The devaluation triggered declines of at least 0.9 percent in the Australian dollar, South Korea’s won and the Singapore dollar, while Hong Kong’s Hang Seng Index of shares rose 0.7 percent.
China has to balance the need to boost exports with the risk of a cash exodus, Tom Orlik, chief Asia economist at Bloomberg Intelligence, wrote in a research note. He estimates a 1 percent depreciation in the real effective exchange rate boosts export growth by 1 percentage point with a lag of three months. At the same time, a 1 percent drop against the dollar triggers about $40 billion in capital outflows, he wrote.
“The risk is that depreciation triggers capital flight, dealing a blow to the stability of China’s financial system,” Orlik wrote. The calculation from China’s leaders is that with their nearly $3.7 trillion of currency reserves “they can manage any risks from capital flight,” he said.
The PBOC cited a high effective exchange rate as a factor behind the devaluation, which was announced after the monetary authority said earlier Tuesday that a strong yuan puts pressure on exports. Overseas sales fell 8.3 percent from a year earlier in dollar terms in July, well below the estimate for a 1.5 percent decline in a Bloomberg survey.
Operational requirements of the yuan entering the International Monetary Fund’s reserves may also have played a role in the PBOC’s move, according to Commerzbank AG.
“While the weak trade figures should have pushed the fixing to the weak side, this move is still quite out of consensus,” Zhou Hao, an economist at Commerzbank AG in Singapore wrote in a report. From the perspective of IMF requirements, “the yuan exchange rate will be more market-oriented going forward, and the volatility of both the onshore and offshore rates will pick up significantly.”