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Decline In FX Reserve In China Signals Loss Of Confidence In RMB's Outlook Print E-mail
Special Reports | Written by | Sep 25 12 10:04 GMT

Decline In FX Reserve In China Signals Loss Of Confidence In RMB's Outlook

China recorded a fall in FX reserve in 2Q12, the first decline since 1998. Although recent global economic slowdown has affected China's exports while China's growth moderation also eased the country's demand for imports, the drop in FX reserve in the second quarter was not driven by narrowing current account surplus in the world's second largest economy. Instead, the details of the data set showed that the decline was mainly driven by the outflow of currency and deposits. By also considering the composition of China's FX deposits in banks, we believe that the decline in FX reserve signaled the loss of lost confidence by Chinese companies on Renminbi's strength, thus shifting their deposits denominated in RMB to USD.

China's State Administration of Foreign Exchange reported last week that the country's FX reserves decreased US$ 11.2B in 2Q12, the first decline since 2Q98. This drop has triggered a number of concerns. Some attributed it to the narrowing trade surplus, while others said it was due to losses in FX investments. 'Change in FX reserve' is a component of 'balance of payment', i.e.: if balance of payment is not zero, then there is official change FX reserve:

Balance of Payment = Current Account (CA) + Financial Account (FA) + Change in FX reserve = 0

Current Account (CA) + Financial Account (FA) = - Change in FX reserve

To analyse the true reason for the fall in china's change in FX reserve, we should better analyse the situation in China's current account (CA) and financial account (FA).

China's current account surplus rose to US$ 53.7B in 2Q12 from US$ 23.5B in the prior quarter which the financial account recorded an outflow of US$ 41.2B in the second quarter. The financial account is composed of 1) direct investment which slipped to US$ 41.1B from US$ 48.9B, 2) portfolio investment which climbed to US$ 11.1B from US$ 9.3B and 3) other investment which recorded an outflow of US$ 94.4B compared with a US$ 3.6B outflow in the first quarter. In this case, we believe the outflow of other investments was the main cause of the decline.

'Other investment' consists of trade credits, loans, and currency and deposits. The data showed that the biggest outflow was found in the last component, namely currency and deposits. Outflow of this component increased to US$ 62B in 2Q12 from US$ 53B in 1Q12. In the 'Summary of Sources & Uses of Funds of Financial Institutions' released by the PBOC, it can be calculated that FX deposits in financial institution rose about US$ 66B in 2Q11 on quarterly basis. Of which over 90% was contributed from corporate deposits. We suspect that companies were shifting its deposits from RMB to USD in view of future depreciation of the former and the impact of this eventually is unveiled in the change of FX reserve account.

US$ 100 M




Total Deposits of Financial Institutions

3162.20 3824.35 622.15

Corporate Deposits

2271.20 2890.19 618.99

Personal Deposits

678.34 704.53 26.20

Other Deposits

212.66 229.63 16.97

Source: PBOC, Action Forex

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