China Will Probably Tighten Capital Controls, SocGen Says

Is China Running Out of Ammunition to Intervene?
  • $3.3 trillion of reserves not enough to defend yuan: lender
  • French bank forecasts 12% drop in currency if outflows quicken

China will probably have to step up capital controls as even the world’s biggest foreign-exchange stockpile won’t be sufficient to defend the yuan, according to Societe Generale SA.

QuickTake China’s Managed Markets

If 65 million residents, or about 5 percent of the population, each took the maximum allowed $50,000 out of China that would wipe out the $3.3 trillion of reserves, Jason Daw, head of Asian currency strategy at the French lender, said in an interview in Singapore. China needs a stockpile of at least $2.8 trillion to cope with a balance-of-payments crisis, Societe Generale estimates based on the International Monetary Fund’s methodology.

“Just because you have the world’s biggest foreign-exchange reserves, the domestic monetary implications of running down your reserves at a rapid pace shouldn’t be underestimated,” Kit Juckes, a global strategist at Societe Generale, said at the same interview. “They have a clear choice: tightening the capital account or allowing the currency to depreciate more quickly."

Chinese policy makers are trying to counter record outflows and prop up the yuan, while opening up the capital account and keeping borrowing costs low to revive economic growth. The balancing act challenges Nobel-winning economist Robert Mundell’s “impossible trinity” principle, which stipulates a country can’t maintain independent monetary policy, a fixed exchange rate and free capital borders all at the same time.

The yuan has weakened 2.8 percent since China won reserve-currency status from the IMF at the end of November to 6.5797 a dollarin Shanghai, according to China Foreign Exchange System prices. The currency could drop as much as 12 percent this year to 7.5 if capital outflows intensify, according to a note by Societe Generale’s Daw and Wei Yao, the lender’s chief China economist. The French bank estimates $657 billion left China in the six quarters through September.

China is increasingly resorting to administrative measures to quell capital outflows and calls are mounting for further restrictions as the defense of the yuan erodes foreign-exchange reserves. Yu Yongding, a former member of the PBOC’s monetary policy committee, said last week that controls should be strengthened. The nation has increased scrutiny of funds being transferred overseas and curbed the offshore supply of the yuan to make betting on the currency’s declines more expensive.

Societe Generale is advising clients to stay away from Chinese assets for now and be short on the currencies of Taiwan and South Korea, which count China as their biggest export market. The lender forecasts a 2.1 percent drop in the island’s dollar by the end of the year and a 1.8 percent decline in the won.

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