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China Dilutes Dollar Role in Currency Basket, Adds 11 More

NewsMax  |  Bloomberg News

China diluted the role of the dollar in a trade-weighted foreign-exchange basket and added a further 11 currencies as officials seek to project an image of stability in the yuan.

The weighting of the dollar will fall to 22.4 percent from 26.4 percent in the basket from Jan. 1, China Foreign Exchange Trade System said in a statement Thursday. Additions include the South Korean won, the South African rand, the United Arab Emirates’ dirham, Saudi Arabia’s riyal, Hungary’s forint, Poland’s zloty and Turkey’s lira.

While the yuan has tumbled to an eight-year low against the greenback, it’s trading near a four-month high against the CFETS RMB Index. Senior Chinese central bank officials have vowed to maintain stability against the basket as capital outflow pressures mount.

“The move is aim to reduce the impact of dollar strength on the overall performance of the basket,” said Christy Tan, head of markets strategy in Hong Kong at National Australia Bank Ltd. “It will also make it easier for China to manage yuan stability versus the basket, since the yuan will need to appreciate less versus other non-dollar currencies amid dollar strength.”

The weighting of the basket will be evaluated on an annual basis and updated at the “appropriate time”, according to CFETS. The new composition covers exchange rates of the nation’s main trading partners, it said, adding that the newcomers will take 21.1 percent of the overall weighting.

“The new basket is more comprehensive and a better reflection of China’s trade relations,” said Sim Moh Siong, a currency strategist at Bank of Singapore Ltd. “In the near term, the PBOC’s target would still be to keep the yuan stable versus the basket.”

The dollar and currencies that are pegged to the greenback, such as the riyal and the Hong Kong dollar, will take up 30.5 percent of the new basket, down from 33 percent currently. The won will have a 10.8 percent weighting when it’s added from next month.

The yuan is headed for its steepest annual plunge against the dollar in more than two decades, and when the year turns, policy makers will be faced with a triple whammy of the renewal of citizens’ $50,000 quota of foreign-currency purchases, prospects of further Federal Reserve interest-rate increases, and concern that U.S. President-elect Donald Trump may slap punitive tariffs on China’s exports to the world’s largest economy.

The basket was unveiled in December 2015 as a means to shift focus away from the yuan’s moves against the dollar in the wake of an unexpected devaluation. People’s Bank of China Deputy Governor Yi Gang said last month the yuan’s depreciation versus the dollar was largely driven by the strength of the greenback and the market should refer to its performance against the basket as the economy maintains stable growth.

“Adding a batch of emerging-market currencies into the basket will likely increase two-way volatility of the yuan’s fixing and the exchange rate,” said Ken Cheung, Hong Kong-based Asia currency strategist at Mizuho Bank Ltd. “If the dollar extends its rally next year, particularly against the emerging-market currencies under Donald Trump’s presidency, the onshore and offshore yuan will come under heavier pressures.”

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