China Reserves Falling Least in a Year Signals Outflow Eased

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China’s foreign-exchange reserves moderated in the second quarter, a sign capital outflows eased as the central bank held the yuan steady against the dollar and stocks climbed to a seven-year high.

The reserves fell by $40 billion to $3.69 trillion, the lowest since 2013, data from the central bank showed Tuesday. That followed a record $113 billion drop in the first three months. The holdings, which are more than triple the size of any other country’s, shrank in each of the last four quarters as the central bank bought yuan to stabilize the exchange rate. The currency’s 0.05 percent loss against the dollar over the past year is the smallest in emerging markets.

“The amount of capital fleeing China declined in the second quarter as the yuan remained stable,” said Banny Lam, co-head of research at Agricultural Bank of China International Securities Co. in Hong Kong. “The yuan faces mild depreciation pressures in the short-run as the economy is recovering at a slow pace, but that won’t cause serious capital outflows.”

China has been limiting yuan moves to encourage greater global use and deter outflows as it pushes for reserve-currency status at the International Monetary Fund. The exchange rate has held within 0.35 percent of 6.2 per dollar since end-March, a level National Australia Bank Ltd. described as a de-facto peg. The Shanghai Composite Index of shares rose in June to its highest since January 2008, and has since slumped 24 percent.

Euro’s Advance

The yuan fell 0.02 percent versus the U.S. currency in the second quarter in Shanghai, and retreated a further 0.13 percent this month during the equities selloff. The currency was steady at 6.2090 per dollar on Tuesday. The euro rose 3.9 percent against the greenback over the last three months, the first quarterly advance in more than a year. The gain helped lessen the drop in the dollar value of China’s foreign reserves, which include assets denominated in the 19-nation currency.

The smaller decline in reserves was largely due to stabilization in the yuan’s exchange rate, said Larry Hu, a Hong Kong-based economist at Macquarie Securities Ltd. “It also shows China’s capital flow picture has improved and we could even say it’s from outflows back to inflows,” he said.

China has a record of keeping the yuan steady at turbulent times. The currency traded at around 6.8 per dollar during the global financial crisis between 2008 and 2010. The central bank is likely to ensure the yuan is a source of stability rather than contributing to capital outflows for the coming months, Chris Turner, London-based head of foreign-exchange strategy at ING Groep NV, wrote in a July 10 note.

The size of China’s foreign reserves means it has an “expendable war chest” of $1 trillion to $1.5 trillion to support its currency, according to Mirza Baig, Singapore-based head of foreign exchange and interest-rate strategy for Asia at BNP Paribas SA. The remainder is sufficient to underpin market confidence and fund multilateral initiatives such as the Asian Infrastructure Investment Bank, he said.

Weak Exports

China’s exports rose 2.1 percent from a year earlier in June, according to official data on Monday. While that’s the first advance in four months, it’s still below the government’s annual target of 6 percent growth in trade.

The yuan may remain stable this year due to the discussion on the inclusion of the currency into the IMF’s Special Drawing Rights basket, China Business News reported on Monday, citing an unidentified person familiar with the matter. The country’s top decision makers are “very clear” about the difficulties that casts on trade, the paper said.

“PBOC should have depreciated the yuan when the Chinese stock market was rising,” said Baig of BNP Paribas. “Depreciating it now would only invite a speculative attack, as the market would speculate on more devaluation in both China and other regional countries. It would be an ill-advised strategy to depreciate the yuan when Chinese financial assets are already under pressure.”