While in recent months, the PBOC had tried to mask the real pace of reserve outflows, covering up the accelerated selling of US-denominated assets to defend its rapidly devaluing currency, we noted in October that using more accurate calculations, China's capital outflows are once again surging, having hit $78 billion in September. Overnight, China, unable to continue "covering up" its reserve state, disclosed that, as we warned, FX reserve liquidation had soared with total reserves falling by nearly $70 billion last month as the country’s central bank burned through more of its reserves in the fight to defend the renminbi from greater depreciation on the back of accelerating capital outflows. This was the largest decline since January.
PBOC's total reserves declined by $69.1 bilion to $3.051 trillion in November, a decline of 2.2 per cent from the previous month and the largest drop since January’s fall of 3 per cent. A median forecast from economists had predicted a fall of only 1.9 per cent from October.
After adjusting for currency valuation effects, the reserves fall would be about US$34bn.
As the FT notes, this "fifth consecutive monthly fall indicates growing difficulty for policymakers. Since the renminbi’s sharp depreciation in August 2015, Beijing has sought to combat more severe softening against the greenback by selling dollars from the central bank’s foreign exchange reserves."
The yuan's weakness has helped to continue driving the outflows that began plaguing China after the one-off devaluation in August 2015. In the first ten months of 2016 capital outflows from China rose to $530bn, with October’s level exceeding the year’s monthly average.
A separate dataset, called "PBOC's FX position" (usually released around the middle of the month), would give a useful cross-check on PBOC's FX sales net of valuation effects. This data shows the amount of PBOC's FX assets at book value. Partly reflecting the uncertainty of the size of valuation effects, there is sometimes a significant gap between this data and the reserves data after adjusting for estimated currency valuation effects (e.g., in the last few months since June, the former suggests that the monthly average of PBOC’s FX sales was about US$25bn more than implied by the latter)
The latest reserve figure come amid signs that ramped-up efforts to curb heavy capital outflows have begun to interfere with foreign businesses in China. Several European firms have been unable to remit dividends due to new foreign exchange controls that the EU Chamber of Commerce in Beijing called “disruptive to business operations”.
Media reports over the past couple of weeks suggest that the authorities would be tightening outflows through administrative means, including on outbound FDI, gold imports and cross-border net RMB payments. The impact of such measures will not be fully visible until December forex levels are released, but after November’s drop they look unlikely to be the last.
There has not been any concrete official confirmation or detail of the reported rules and implementation, so it is difficult to assess the potential effectiveness. In general, a stronger capital control could help mitigate excessive volatility in outflows driven by temporary sentiment factors. However, outflows may also reflect structural diversification demand. We have previously estimated that there could be a substantial amount of Chinese wealth to be allocated to foreign assets over time given that Chinese residents have been under-diversified. To the extent that diversification is an important driver, control measures could be effective in dampening short-term outflows but may be less so in reducing the fundamental pent-up pressure on the exchange rate.