China lowers banks' forex reserve ratio to curb renminbi weakness

BEIJING (BLOOMBERG) - China has moved to limit the drop in the renminbi by cutting the amount of money that banks need to have in reserve for their foreign currency holdings.

The move came after the renminbi dropped to the lowest level against the US dollar in 17 months in reaction to a small but growing Covid-19 outbreak in Beijing.

Financial institutions will need to hold 8 per cent of their foreign exchange in reserve starting from May 15, the People's Bank of China said in a statement on Monday (April 25), lower than the current level of 9 per cent.

The cut is aimed at "increasing banks' capabilities of forex fund use" and will help liquidity management, the central bank said in the statement. The change will increase the supply of US dollars and other currencies onshore and relieve the renminbi's weakness.

This follows two hikes last year when the central bank was trying to limit a strong currency, the opposite of the situation now. The offshore renminbi retreated from 6.6092 after the announcement, the weakest levels since November 2020, with its daily loss against the dollar narrowing to 0.8 per cent from 1.3 per cent.

The move reduces the attractiveness for banks to hold foreign currency and will likely dampen the pace of the move higher in the dollar-renminbi pair, said Mr Mitul Kotecha, strategist at TD Securities in Singapore.

Still, it is worth noting that the move only partly reverses the 2 percentage point hike in the reserve ratio in December last year, so the impact could be less significant unless it is followed by other measures, including tightening liquidity or actual renminbi-buying intervention, he added.

The Chinese currency has been the worst performer against the US dollar among Asian peers in the past five days, with a 3 per cent loss, in sharp contrast with its outperformance as the best regional currency gainer in the past two years, according to Bloomberg data.

Banks, including JPMorgan Chase & Co and BNP Paribas, slashed their quarterly forecast for the currency last week, as the renminbi is seen increasingly dragged down by broadening Covid-19 disruptions that threaten the nation's growth outlook, and the deepening divergence in monetary policy between China and the United States that has stoked fear of capital outflows.

China is able to accommodate the impact of the US Federal Reserve's interest rate hikes, a senior foreign exchange official said last week, reiterating that the renminbi movements have been "stable and healthy".