A little patience with the Chinese regulators should probably be warranted.
After all, their last landmark attempt at currency framework reform, introduced almost exactly two years ago, backfired spectacularly. That reform by the People’s Bank of China aimed to introduce greater flexibility to the daily fixing mechanism of the renminbi against the dollar but ended up ushering in some 18 months of violent currency swings and a sharp drop in the value of the RMB, which lost 6.7% against the greenback in 2016.
Faced with depreciation and capital outflows, Beijing took a giant leap backwards — re-introducing capital controls and intervening heavily in the onshore and, brazenly, offshore markets to keep the exchange rate where it wanted.
This year, however, is proving good to the Chinese authorities. The economy is chugging along, growth is solid, and the currency is up 4% against the dollar in the year so far. And most of that has happened without the need for more of the draconian measures seen last year.
On the back of that, the authorities have once again made clear their commitment to reforming the currency policy and progressing towards the ultimate goal of basic capital account convertibility. But, as the IMF points out in its China country report published on Tuesday, there has been little in the way of concrete steps.
The launch of Bond Connect in July is, no doubt, the obvious counterpoint to that argument. The launch of the scheme, after all, made the $10tr onshore bond market available to global investors in one swift move.
Yet, the connect had been in the works for at least three years, making its launch more about the delivery of past promises and less as a shining example of renewed commitment to reform.
The IMF takes China to task on its failures, and rightly so. The paper notes that by at least two academic measures of capital account openness, China, the second largest economy in the world, trails not only most advanced economies but many emerging markets too.
The cross-border capital flows that China did see recently were of the wrong kind, and reflected unbridled capital flight as Mainland citizens fled what they saw as a sinking ship.
Those flows have stopped thanks to two reasons. A solid economic performance this year is one, but chiefly because China has locked down the exits.
Even more worryingly, the IMF points to the whole sad affair of window guidance measures.
Bankers squirm every time a journalist brings up the topic. The concept is basically that when the authorities decide certain transfers of funds — typically outbound — are unwelcome, they simply pick up the phone and tell local and foreign banks in China to stop doing whatever it is they are doing.
While effective (no one wants to make Chinese regulators angry), the practice is nothing but opaque, and impossible to picture in any open economy.
Such window guidance has never been followed by rules making the restrictions official. That way, the regulators get what they want without having to lose face which, as anyone familiar with Chinese culture is aware, is a major no-no.
It is refreshing to see the IMF take a stand, albeit somewhat buried within a 100-page academic paper.
“CFMs [capital flow measures, aka window guidance measures] should be enforced in a way that does not result in a breach of China’s obligations to the IMF to not restrict current international payments and transfers,” the paper’s author said.
While the worst is likely over, much damage has been done, particularly to the RMB internationalisation agenda, with the global usage of the renminbi a clear victim of the heightened controls on cross-border transactions.
The authorities have recently mooted the possibility of expanding the trading band of the renminbi against foreign currencies from 2% to 3%. It’s a start, but markets will be expecting much more to re-establish confidence.
With China’s Party Congress around the corner, however, even the IMF’s preaching may well remain wishful thinking.