People close to the central bank said that this intervention, although costly, is necessary to maintain economic confidence and prevent the devaluation of the renminbi. Unordered depreciation may produce a ripple effect that far exceeds the renminbi itself.
In August last year, the People's Bank of China changed the way in which the daily parity of the RMB exchange rate was set, which shocked the global market. Since then, the People’s Bank of China has spent about $473 billion in foreign exchange reserves, according to official estimates by the Financial Times.
After the reform of the People's Bank of China, the fear that China may allow or actively encourage the sharp depreciation of the renminbi triggered a wave of renminbi selling.
A central bank official said: “Confidence is the most important factor for both the global and domestic China. The cost of using external storage intervention is high, but the value of this policy cannot be measured by numbers alone. It's hard to recover. There will be a lot of bad things happening."
According to analysts, Chinese central bank officials knew in advance that changing the way the yuan's middle price was set up might release the suppressed RMB depreciation pressure, but they underestimated the intensity of the market reaction.
The move, which was supposed to lead to a 5% cut in the exchange rate, quickly turned into a threat of a 10% to 20% exchange rate drop in a few days. This uncontrolled devaluation may spur investors to compete to sell RMB assets, thereby weakening the overall financial system.
Today, David Lipton, vice president of the International Monetary Fund (IMF), will release the IMF's annual financial stability report for China in Beijing. At that time, in addition to other financial risks, the agency may also mention exchange rate fluctuations.
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