From Bloomberg:

The yuan strengthened after China’s central bank raised its fixing for a fourth day and data showed a less-than-estimated drop in the nation’s foreign-exchange reserves.

The currency stockpile shrank by $28.6 billion last month, the smallest decline since June, to $3.2 trillion, the People’s Bank of China said on Monday. That’s lower than the $40.9 billion decrease predicted in a Bloomberg survey of economists, and compares with December’s record drop of $108 billion as the monetary authority supported the yuan.

Context

As previously noted, Chinese policymakers have been navigating the trilemma — the proposition that one can only fully achieve two of three goals of exchange rate stability, monetary autonomy and financial openness.

The exchange rate has depreciated over time against the reference basket of currencies, as shown in Figure 1.

Figure 1: “While CNY appreciated against USD it remained flat against the CFETS currency basket,” from Natixis Economic Research, March 1, 2016.

At the same time, the PBoC is attempting to stimulate the economy — by dropping policy rates and reducing bank required reserve ratios — without further depreciating the currency. These policy actions are shown in Figure 2.

Figure 2: “One more RRR cut to replenish liquidity from loss of FX reserves,” from Natixis Economic Research, March 1, 2016.

Achieving the goal of autonomous monetary policy (in order to sustain growth) can be accomplished by either further currency depreciation, or tightening capital controls. The extent to which a combination of these policies will have to be pursued depends in part on how much capital outflow persist, with some observers holding apocalyptic views (e.g., “people are panicked”). On this count, McCauley and Shu provide a more nuanced view of the source of outflows.