China poised amid looming U.S. Fed tightening, policies stay in lane
China will be able to cope with the potential impact from the shift to monetary tightening in major economies like the United States, economists and officials say.
The U.S. Federal Reserve signaled after a policy meeting in late January that the central bank is ready to raise interest rates as soon as March to combat surging inflation as it exits from the ultra-loose monetary policy enacted at the start of the COVID-19 pandemic.
Concerns grew whether the Fed’s tightening moves, like interest rate hikes and balance sheet cuts, will trigger capital outflows and currency depreciation in emerging markets and developing countries, weighing on their recoveries.
Analysts say that global volatility caused by the U.S. Fed policy shift is unlikely to rattle China’s markets because the country’s industrial chain competitiveness, stable financial system, and long-term growth prospects will help keep cross-border capital flowing and the yuan exchange rate steady.
“The Chinese economy is resilient against external fluctuations,” said Wang Chunying, deputy head of the State Administration of Foreign Exchange.
Forex holdings of Chinese companies, mostly coming from export, is relatively ample, Wang said. From 2020 to 2021, forex deposits on the Chinese mainland expanded 160 billion U.S. dollars in total. With a currently low leverage ratio due to the tepid growth of cross-border loans or trade financing, forex flow in and out of the real economy will remain stable, she added.
Yuan-denominated assets are gaining more traction among overseas investors as the country’s financial market opens wider, Wang added. Official data showed that overseas holdings of bonds and stocks together registered a net increase of over 700 billion dollars during the 2018-2021 period, with an average annual growth rate of 34 percent.
While overseas investors remain upbeat about China’s long-term prospects, overseas capital accounts for roughly 3 to 5 percent of China’s bond and stock markets, which is a relatively low level compared with economies such as Japan, the Republic of Korea, and Brazil. This indicates potential for further inflow, according to Wang.
The generally “limited effect” the looming U.S. Fed tightening could have on China is not enough to sway monetary policy, analysts believe.
“The determinant of China’s monetary policy is the status of economic operation,” said Bai Xue, an analyst with Golden Credit Rating. The downward pressure facing China in the first half of this year calls for effective pro-growth measures to maintain stability, Bai said.
Strengthening the yuan in 2021 also provided wiggle room for monetary policies without breaking the reasonable and equilibrium level of the exchange rate, according to Bai.
Instead of resorting to a massive stimulus, China has made full use of cross-cyclical adjustment and maintained reasonable and ample liquidity in the market, said Sun Guofeng, an official with the People’s Bank of China.
Since the second half of last year, the central bank reduced the reserve requirement ratio (RRR) for financial institutions twice, with the two cuts injecting a total of 2.2 trillion yuan (about 345 billion U.S. dollars) of long-term funds into the economy.
It has also increased the re-lending quota for small businesses by an additional 300 billion yuan, cut the interest rates of its medium-term lending facility loans and reverse repos, and lowered the loan prime rates.
Going forward, China’s policymakers will continue to use facilities like RRR, open market operations, and the medium-term lending facility (MLF) to maintain a reasonable abundance of market liquidity, said Wen Bin, the chief analyst at China Minsheng Bank, adding structural monetary policy will also be adopted to lower borrowing costs for companies.