A dramatic change is taking place in China's liquidity supply mode as capital flows out of the world's second-largest economy amid calls for the monetary authorities to look for new ways to inject money into the economy, said analysts.
For a long time, Chinese banks' yuan holdings for purchasing foreign exchange have been a major channel for the central bank to create money. Now the old pattern is about to change, which means the central bank needs to find new ways to issue currency if it wants to maintain stable money supply growth, said Cao Yuanzheng, chief economist at the Bank of China Ltd.
China posted a monthly capital outflow in August for the third time in 2012, as the growth of the world's second-largest economy fell to a three-year low and softened for the sixth consecutive quarter.
Yuan holdings among banks for purchasing foreign exchange, a key measure of capital flows, declined by 17.4 billion yuan ($2.75 billion) in August to 25.64 trillion yuan, marking the second straight monthly fall.
It widened from a decline of 3.8 billion yuan in July as the nation's economic growth slowed to its lowest rate in three years.
Foreign exchange has become a main source of the country's liquidity over the past two decades as the central bank sterilized its fluctuation to stabilize the yuan exchange rate.
Yuan holdings of foreign exchange purchases started to increase at the beginning of the year after three consecutive monthly declines in the fourth quarter of 2011. But the hikes ended in April, when a 60.6 billion yuan monthly fall was reported.
In the first eight months, the average monthly increase of yuan holdings was only 35.2 billion yuan, far from the average monthly gain of 231.6 billion throughout last year.
In August, despite the significant drop in international market hedging demand, banks' yuan holdings still declined. This proves that pressure for yuan devaluation will remain in the medium and long term, said Liu Yuhui, director of the financial lab of the Chinese Academy of Social Sciences.
This year, offshore non-deliverable yuan forwards have been higher than the onshore spot exchange rate, and the spread between the two is likely to become much greater, which indicates that expectations remain that the yuan will depreciate, said Cao.
But we tend to believe that the conditions do not exist for the yuan to depreciate further, as the Chinese economy is still in a stable and controllable range, and foreign reserves remain very large.
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