SHANGHAI -- The yuan has risen against the U.S. dollar as overseas investors grow hopeful of China's economic recovery and seize on its relatively high interest rates, prompting the Chinese central bank to step in Monday to put the brakes on the rapid appreciation.
The currency touched 6.69 per dollar, an 18-month high, on Friday. The surge reflected in part the currency's advance in the offshore market over the eight-day National Day break.
Alarmed by the rapid surge, the People's Bank of China on Monday cut to zero from 20% the risk reserve requirement ratio for financial institutions selling and buying currency forwards denominated in U.S. dollars. The yuan depreciated to 6.75 yuan per dollar in response.
China's economy began recovering around May from the slump caused by the novel coronavirus, ahead of other global economies, keeping its interest rate relatively high. Foreign holdings of yuan-denominated bonds continue to renew record highs, and anticipation for major stock debuts is also contributing to the currency's rise.
"The comparatively large spread in yields has drawn funds to yuan assets," Lu Lei, deputy director of the State Administration of Foreign Exchange, said in late September.
China's 10-year bond posted a yield topping 3.2% on Monday, up from the 2.5% range in May. Overnight interbank interest rates frequently sunk below 1% between March and May. But since June, the rates increasingly have hovered in the mid-1% territory to as high as the 2% range.
The U.S., meanwhile, is likely to maintain a near-zero interest rate policy for the next three years. China's rate margins are similarly substantial when compared with those of Europe and Japan.
International investors find high-yielding yuan-denominated bonds increasingly attractive. When Mitsubishi UFJ Morgan Stanley Securities surveyed about 60 clients, the Tokyo-based brokerage found that a majority expressed some interest.
The Bloomberg Barclays Global Aggregate Index began incorporating Chinese government securities last year. British index provider FTSE Russell announced last month that Chinese sovereign bonds would be included in its World Government Bond Index, fueling anticipation of international money flowing into Chinese debt.
Funds that reference the two indexes have an estimated $5 trillion combined under management. Chinese assets are expected to occupy 5% to 6% of the allocations, which would send $300 billion into China.
Foreign investors owned 2.94 trillion yuan ($439 billion) in yuan-denominated bonds at the end of September. The balance has nearly tripled since September 2017, when the Bond Connect program linking to mainland China launched in Hong Kong.
Major stock floats also appear to be driving investor enthusiasm. Ant Group, the financial arm of Chinese e-commerce leader Alibaba Group Holding, plans what could be a $35 billion dual listing in Hong Kong and Shanghai as soon as this month. Foreign investors clamoring for Ant shares would ratchet up demand for the yuan.
As with bonds, China is loosening access to yuan-denominated equities in phases. Foreign investors have bought 1.1 trillion yuan worth of yuan-denominated shares on a net basis through the Stock Connect scheme in Hong Kong.
Goldman Sachs forecasts the Chinese currency to appreciate as far as 6.50 per dollar over the next 12 months. But such a rapid rise by the yuan risks damaging the country's export industry.