Since last week, China’s central bank, People’s Bank of China, has been working on deprecating the value of the country’s currency, yuan. It says that the government is trying to eliminate the speculations on rising yuan as well as allow a wider trading range for the currency. In order to do that, PBOC is setting a weaker benchmark against which the yuan can trade, according to Wall Street Journal, which has a very obvious effect on the market. Last Tuesday, one dollar is equivalent to 6.11 yuan, increasing from 6.098 yuan a day ago. Since the beginning of this year, the currency has dropped 1.2% against dollar. At the same time, PBOC is buying more currency from other countries to depreciate the value of yuan. This process has been continued since last year and last December 45 billion dollars worth of foreign currency was purchased by Chinese banks.
The decline of yuan is beneficial to Chinese economy. The value of the currency has increased steadily during last 4 years. In May 2010, one dollar was worth of 6.83 yuans, compared to the lowest point about 6.04 yuans at the end of last year. The increasing yuan attracted enormous capital to China’s market, but this might not be a good thing. The influx of foreign capital worsened the China’s economy by increasing the property prices and made it even more difficult for the government to regulate the market. Therefore, a lower value currency could benefit the economy by squeezing out the “hot money” inflows. Moreover, we could also expect a better performance of the export. Since the yuan’s value is lower, Chinese products would become relatively cheaper and therefore more competitive in the global market.
However, the decline in yuan also raises concerns among investors. Some of the term structure products that betting on increasing yuan could bring lost to their owners. Since China allowed trading of its currency in 2010, the derivative market increases at a fast speed. Accoding to Deutsche Bank, the worth of executed contract has reached 250 billion dollars. Lots of financial institutions, especially foreign exchange hedge funds use yuan to hedge their risks because the trend of appreciation was so clear. “It was like free money, ” said Greg Matwejev, director of hedge fund of Newedge Group SA. Although the recent depreciation would cost a big lost, the expectation of further decrease would cause a huge disturbance in this derivative market. Not only hedge funds, some export companies also brought derivatives to manage the risk of yuan’s appreciation. In the past few years, their investment in derivatives compensated their lost caused by increasing yuan.
In a word, the decline in yuan would help Chinese economy to get rid of the effect of “hot money” and reduce the heat of investment. On the other hand, it could also become a lost to the investors who bet on increasing yuan to make money.