The yuan fell against the dollar in the spot and forwards markets on Monday, and dollar/yuan volatilities shot up, as traders continued to price in China's apparent decision to slow long-term yuan appreciation. Implied 12-month yuan appreciation against the dollar in the offshore non-deliverable forwards market hit its lowest level so far this year.
"The yuan's fall in both the spot and NDF markets shows the market has reached a consensus that the yuan's uptrend is ending, and it may start to depreciate late this year or early next year," said a dealer at a US bank in Shanghai. The State Council, or cabinet, said in a statement late on Friday that it had decided to revise rules governing foreign exchange management, in order to promote a better balance of international payments.
It did not specify how or when the rules would be changed, but said it would alter provisions governing capital inflows and outflows, the yuan's exchange rate formation mechanism, foreign exchange management by financial institutions and supervision of cross-border capital flows.
Ding Zhijie, a professor with the University of International Business and Economics in Beijing, was quoted by the official China Securities Journal on Monday as saying the changes would let authorities impose emergency restrictions if cash started flowing out of China.
Traders said the news suggested China was preparing to end the continuous yuan appreciation of the past three years, which could halt and conceivably even reverse the monthly flows of billions of dollars into the country from investors seeking to profit from yuan strength.
Statements by the State Council and President Hu Jintao over the past ten days had already indicated China was shifting the focus of its economic policy to sustaining growth, which is slowing, from fighting inflation. The market thinks that because of difficulties faced by smaller Chinese exporters, part of the policy shift will be a slowdown or halt to yuan appreciation.
The Chinese central bank set the yuan's daily mid-point against the dollar lower on Monday for the fourth straight day, at 6.8471 against 6.8423, even though the US Dollar Index, which represents the dollar's value against a range of major currencies, had essentially been flat over the past four trading days. In response to the mid-point, the yuan hit a low of 6.8598 against the dollar in afternoon trade, its lowest level since July 9. It closed at 6.8515, down moderately from Friday's finish of 6.8425.