A Stronger Yuan in 2017

As of December 29, the last trading day in 2017, the Chinese yuan’s onshore exchange rate stood at 6.5120 against the U.S. dollar, strengthen- ing by 6.72 percent for the year, constituting the sharpest annual appreciation in nine years accord- ing to calculations by financial information provider Eastmoney. com.

Such a performance was a far cry from market anticipation only a year ago, when expectation for a weaker yuan was high.

A softening dollar against a bas- ket of currencies was a crucial part of the story, as shown by declines in the dollar index over the past year, but the yuan also demonstrated strength against other currencies as well.

The yuan exchange rate com- posite index released by the China Foreign Exchange Trade System, which measures the yuan’s strength relative to a basket of 24 currencies including the U.S. dollar, euro and Japanese yen, came in at 94.37 at the end of November, firming from 94.22 at the end of January 2017.

With sound economic funda- mentals, improved regulation, a relatively tightened monetary envi- ronment and increased global use of the currency, the yuan’s stability has been justifi ed and looks set to stay well supported. “The yuan will hold steady against a basket of currencies in 2018, with two-way move- ments becoming the norm,” said a research report from the China Everbright Bank. A robust Chinese economy has helped the yuan stage a turnaround by bolstering investor confi dence in the currency.

China’s GDP expanded 6.9 percent year on year in the first three quarters of 2017, and 6.8 percent in the third quarter, the ninth straight quarter for China to see eco- nomic growth of at least 6.7 percent, adding to the wealth of evidence that the economy is on a steady footing.

The World Bank raised its forecast for China’s economic growth in 2017 to 6.8 per- cent last December, up from the 6.7 percent it projected in October, citing stronger personal consumption and foreign trade as the reasons for the increase.

In addition to strong growth in GDP, China has also maintained a current account surplus, abundant foreign exchange reserves, sound fiscal conditions and stable financial systems, which have all helped to support its currency.

In the past year, China cracked down on illegal capital transfers disguised as outbound investment, stepped up the regulation of ir- rational overseas investment activities and strengthened scrutiny over irregular foreign currency purchases by individuals.

Authorities also introduced a “counter-cy- clical factor” to the existing pricing model of the yuan’s central parity rate against the U.S. dollar, aiming to moderate pro-cyclical fluctuations driven by irrational sentiment in the foreign ex- change market.

Thanks to these moves, cross-border capital fl ows have become more stable and balanced, contributing to a gradual increase in foreign ex- change reserves, which reached $3.1193 trillion at the end of November after dipping below $3 trillion in January 2017.

China pursued a prudent and neutral monetary policy in 2017, applying a full range of policy instru- ments to maintain basic stability in liquidity and hold interest rates at an appropriate level.

The U.S. Federal Reserve raised the benchmark interest rate three times last year, putting pressure on the yuan. China’s central bank refrained from following suit, and its open market operations saw interest rates go up as a result, mitigating the impact of the U.S. hikes.

Chinese policymakers will aim to continue with this monetary policy in 2018, according to the annual Central Economic Work Conference held from December 18 to 20.

China has also made strides in pushing the yuan to become an in- ternational currency and liberalizing its capital account, which has helped to attract foreign capital flows and reinforce the strength of the yuan. Authorities approved a bond connect program between the mainland and Hong Kong in mid- May, allowing investors from both sides to trade bonds on each other’s interbank markets. “Northbound” trade, which allows Hong Kong and foreign inves- tors to buy bonds issued on the Chinese mainland, started in July.

Following the launch of the Shanghai- Hong Kong and Shenzhen-Hong Kong stock links, which enabled foreign investors to buy A shares with fewer restrictions than previ- ous regimes, a similar program between Shanghai and London has been proposed. Global equity index provider MSCI decided in June to include a number of Shanghai and Shenzhen-listed stocks in one of its most trad- ed indices.

The move is estimated to bring about $15-20 billion into the Chinese capital mar- ket this year, according to Wang Hanfeng, an analyst with the China International Capital Corp.