The one-month interbank offered rate for yuan in Hong Kong jumped 50 basis points in May to 2.48 percent, while Shanghai’s dropped 74 basis points to 3.86 percent amid monetary easing by the People’s Bank of China. Renminbi deposits in Hong Kong rose 15 billion yuan in April, the smallest gain since August, as the yuan fell for a record fourth month versus the dollar.
Depreciation is damping appetite for yuan just as offshore investors are getting improved access to the higher yields of the domestic market. Premier Li Keqiang is expanding quotas for securities investments and setting up a free-trade zone in Shanghai, threatening Hong Kong’s position as the global hub for renminbi trading and investment.
“Capital-account opening will indeed lead to convergence of yields,” said Tim Condon, head of Asian research at ING Groep NV in Singapore. “The authorities want increased convertibility as part of their economic reforms. Ultimately it will mean the end of the CNH market,” he said, referring to the trading code of the offshore yuan.
The PBOC released detailed rules on May 22 for a free-trade account system in the Shanghai zone that would facilitate conversion of the currency and allow Chinese companies to obtain financing from overseas. President Xi Jinping called the area an “important step” in China’s reform process during his visit to the city last month.
The rules “suggest there will be more competition for offshore yuan liquidity from corporates and financial institutions to be directly used in the FTZ or channeled back onshore under capital-account regulations,” Kewei Yang, a Hong Kong-based strategist at Morgan Stanley, wrote in a June 2 report. “There is a reasonable chance that fundamental change is happening.”
China is pushing to reduce capital controls after policy makers last year pledged to carry out the biggest expansion of economic freedoms since the 1990s. The government usually implements policy changes through pilot projects that begin on a small scale and are rolled out incrementally once they have been tested.
As of May 30, regulators had approved $55.7 billion in investment quotas for the Qualified Foreign Institutional Investors program, up from $42.6 billion a year ago. It cleared 236.2 billion yuan in investments by Renminbi QFIIs. The QFII program sets allocations for non-Chinese investors while RQFII allows the Hong Kong units of Chinese financial companies to raise yuan offshore for investment in domestic capital markets.
The average yield on government bonds in Shanghai fell 37 basis points this year to 4.12 percent yesterday, while renminbi-denominated sovereign notes in Hong Kong, known as Dim Sum, yielded 3.3 percent, down one basis point, according to HSBC Holdings Plc data.
“Investors are looking for yields and that’s why people like onshore bonds more than offshore ones as onshore interest rates are higher,” said Wee-Khoon Chong, Singapore-based head of Asian rates strategy excluding Japan at Nomura Holdings Inc. “Higher-yielding Dim Sum will be attractive for those who don’t have access to the onshore market.”
Yuan deposits in Hong Kong grew 1.6 percent in April to 960 billion yuan, slowing as China liberalized markets and the central bank weakened its currency to curb one-way appreciation bets and to help exports. This is causing a shortage of yuan offshore and driving borrowing costs higher, said Becky Liu, a Standard Chartered Plc. strategist in Hong Kong.
The yuan cross-currency swap rate in Hong Kong, which investors pay to borrow the yuan for one year, rose 70 basis points this year to 1.78 percent yesterday. One-year interest-rate swaps in Shanghai fell to a 12-month low of 3.33 percent on June 3 and traded at 3.49 percent yesterday, according to data compiled by Bloomberg. The yuan declined 0.07 percent to 6.2548 per dollar, taking 2014’s loss to 3.2 percent in Asia’s worst performance.
The economy is forecast to grow 7.3 percent this year, the slowest pace since 1990, according to the median estimate in a Bloomberg survey of analysts. Exports probably rose 6.6 percent in May from a year ago, compared with a 0.9 percent increase in the previous month, according to the median estimate in a Bloomberg survey before data due June 8.
The State Council decided to make “targeted” cuts in reserve-requirement ratios for banks that have lent money to rural borrowers and small companies, according to a May 30 statement on the central government’s website. That followed a reduction for some rural banks in April.
The authorities will expand relending facilities to smaller enterprises and increase the supply of bonds issued by policy lenders to raise funds for special projects, according to the statement. The PBOC has set this year’s relending quota at 50 billion yuan, China Central Television reported May 31.
“We expect more onshore-offshore interest rate convergence in the next six to 12 months,” said Standard Chartered’s Liu. “The opening of the onshore market by way of RQFII and other measures will continue to drive bond yields to converge.”