China’s overnight interbank dollar lending rate hit a record 5.47% on March 29 after a steady climb, before easing to 5.42% Thursday, Bloomberg-compiled data show. That has pushed its gap with the US secured overnight financing rate, a global benchmark, to the widest since July twice in the past two weeks.
The tightening supply of the US currency in China has coincided with the dollar’s global rebound this year as a series of upbeat economic data weakened the case for the Federal Reserve to cut interest rates. If the trend persists, Beijing may have to resort to a familiar tool to ease dollar liquidity as well as pressure on the yuan.
“The gap hinting at an imbalance between supply and demand for dollar liquidity points to pressure on the yuan,” said Zhaopeng Xing, senior strategist at Australia & New Zealand Banking Group. “There is a chance that the PBOC might unleash some dollar liquidity via cutting the foreign exchange reserve requirement ratio.”
Despite the nation’s $3.2 trillion foreign reserves, the amount of foreign currencies that Chinese companies and banks can tap is subject to a confluence of factors, including supply from large state-owned lenders.
In a bid to defend its currency, China has slashed the ratio that sets the amount of foreign-currency deposits banks need to hold as reserves three times since 2022, with the last reduction in September.
Since then, China’s central bank has mostly relied on a strong daily reference rate and dollar sales by state lenders acting as its proxy to alleviate pressure on the yuan. After falling below a key support level in late March, the Chinese currency has extended its drop onshore to a five-month low against the greenback.
However, there’s only so much Beijing can do in the face of the dollar’s global strength.
While China might consider more tools to support the yuan, they “can only help to slow depreciation pressure as we have seen in the past and buy time until the broader market forces shift or fundamentals improve at home,” said Fiona Lim, a senior currency strategist at Malayan Banking Bhd. in Singapore.
