China's gordian policy knot

  • The renminbi will appreciate 2-3-% per year on average over the next five years. A stronger currency is the only way to limit the high cost of forex sterilization.
  • The PBOC will widen the currency bands whenever hot money flows reappear until they are +/- 5%.
  • The principal drivers of the currency will be China’s current account surplus and China’s status as one of the world’s largest creditors.
  • Greater renminbi flexibility will be accompanied by continued strides to develop local debt instruments.
  • In contrast with other interest rates, deposit rates will not be deregulated anytime soon.
  • The ongoing internationalization of the renminbi should be viewed as means for lowering the cost of trade transactions rather than a driver of the currency per se.
  • The final phase of China’s financial evolution will lead to substantial overvaluation by as much as 25% to 30%.
  • Complete convertibility including financial flows will be among the last of the financial reforms.

Full PDF