Interview With Guan Tao, Global Chief Economist Of Bank Of China Securities: RMB Exchange Rate Tends To Be Stable After Opening And Closing Or Normal

The US dollar index has a significant impact on the RMB exchange rate, but it can not fully explain the RMB exchange rate.

Since the beginning of June 2020, due to the impact of domestic and foreign economic situation and epidemic situation, the RMB exchange rate fluctuated and appreciated, which caused the market to pay close attention to the formation mechanism of RMB exchange rate.

In 2021, "uncertainty" is still the biggest certainty. The uncertainty of the development of the epidemic, the measures to boost the economy launched by the new U.S. government, the recovery of China's economy, and the direction of this year's macro policy will affect the market's judgment on the trend of exchange rate.

Recently, Guan Tao, the global chief economist and managing director of BOC securities, received an exclusive interview from the 21st century economic reporter, and made in-depth elaboration on the logic of the rise and fall of the RMB exchange rate, the future trend, the level of US inflation, and this year's macro policy.

Guan Tao served as the executive director of the China finance society, the world economic society, the international finance society, and the China chief economist forum. He has long been engaged in the research of currency convertibility, balance of payments, exchange rate policy, international capital flow and other issues, and participated in the design of a series of major foreign exchange management system reform programs from 1994 to 2014. His latest book exchange rate breakout analyzes the trend of RMB exchange rate in 2020, and points out that the weakening of RMB exchange rate in the early stage is mainly caused by bad news, and the factors that will benefit the stability of RMB exchange rate in the next stage are gradually accumulating.

Guan Tao, global chief economist of BOC securities

RMB breaking through "7" promotes the marketization of exchange rate

The 21st century: you have written such monographs as the game of exchange rate and the essence of exchange rate. Why does the new book exchange rate breakout use the word "breakout"? Does this mean that the current exchange rate environment is more complex and difficult?

Guan Tao: after the exchange rate reform on August 11, 2015, the exchange rate of RMB against the US dollar has dropped to around 7:1 for many times. Every time we fall near the "7", we have to debate whether to keep the "7" or break the "7", or to protect the exchange rate or reserve. "7" once became the red line of RMB exchange rate. It was not until early August 2019 that the RMB exchange rate fell near "7" for the fourth time, and this integer level was broken.

As I pointed out in my book, most people think that RMB exchange rate falling below "7" is RMB devaluation, but "mechanism is more important than level" is the essence of RMB exchange rate reform. The RMB exchange rate breaking through "7" not only breaks an integer gate, but also opens up the space for exchange rate to go up and down. The degree of marketization of exchange rate and the flexibility of two-way fluctuation are further increased. Therefore, even if the RMB exchange rate breaks through "7", it does not involve the adjustment of the quotation mechanism of the intermediate rate of exchange rate or the change of the floating range of the exchange rate, I still call the breaking of "7" in August 2019 as "reform not called reform". It was only four years after the "7" break that the predetermined goal of the "8.11" exchange rate reform was basically achieved, that is, to enhance the marketization and benchmarking of the middle rate of the RMB / US dollar exchange rate. This is an important consideration when I named this book exchange rate breakout.

There is another implication of "breaking through the exchange rate". Last year, in the face of the huge impact caused by the new crown pneumonia epidemic, the RMB exchange rate fluctuated around 7:1, becoming a "shock absorber" to absorb internal and external shocks. Only then did the RMB exchange rate weaken and then rise last year. Since June last year, the RMB exchange rate has continued to appreciate, and the market has even begun to debate the so-called new cycle of RMB exchange rate appreciation. If there is no full adjustment of the RMB exchange rate under the effect of the market in the early stage, it is likely that this wave of appreciation will not happen now.

Since the reform of exchange rate integration in early 1994, China has established the current market-based and managed floating exchange rate system. In the past 20 years, the reform of foreign exchange rate is to gradually let the market play a decisive role in the formation of exchange rate. Today, the RMB exchange rate has finally reached a "quasi free floating" state in which the RMB exchange rate can rise or fall, and the central bank has basically withdrawn from the normal intervention in the foreign exchange market. "It's hard to know what's going on.". The word "breakthrough" also indicates that achievements are hard won.

In the 21st century, it has been the focus of domestic exchange rate policy debates in the past few years whether to keep "7" or break "7". What's your point of view?

Guan Tao: first of all, whether we keep "7" or break "7", each has its own advantages and disadvantages. The key is to make a good plan to deal with all kinds of situations that may happen in the future, especially for bad situations, and be prepared in advance. The initial pressure of "8.11" exchange rate reform is obviously due to the lack of psychological and measures preparation for depreciation expectation and capital outflow pressure. Breaking the "7" in August 2019 is not dangerous. On the one hand, it is because the market currency mismatch has been greatly improved, and on the other hand, we have a plan to deal with the foreign currency manipulation charges.

Secondly, there is no so-called best time window without risk for exchange rate reform. The biggest risk of RMB breaking through "7" in 2019 is that it may intensify economic and trade frictions and expand from trade to finance. However, if the "7" is not broken in 2019, the RMB will still face the pressure of breaking the "7" by last year due to the epidemic, economic blockade, financial turmoil and political game. In the face of the once-in-a-century epidemic, we will encounter more uncertainties, and it requires greater determination and courage to break through "7". However, if the "7" is not broken, it will bring external pressure on both monetary policy and foreign exchange policy.

Thirdly, the exchange rate reform mechanism is more important than the level. It is not a question of appreciation or devaluation that RMB can't break through "7". However, after breaking "7", the RMB exchange rate has opened up the space that can be up and down, and the degree of marketization of exchange rate has been enhanced. The rise and fall of RMB exchange rate has become a "shock absorber" to absorb internal and external shocks.

The policy logic and market logic influencing RMB exchange rate

21st century: you have always insisted that "logic is more important than conclusion" in exchange rate analysis. What is the logic of exchange rate fluctuation from the continuous unilateral decline in the early stage of exchange rate reform on August 11, 2015 to today's two-way fluctuation?

Guan Tao: because of my personal experience in the field of RMB exchange rate, I usually combine the logic of policy with that of the market, which helps us to see the issue more comprehensively, objectively, balanced and neutral.

From the perspective of policy logic, China's managed floating exchange rate system based on market supply and demand since the merger of exchange rates in 1994 belongs to the "intermediate solution" of exchange rate selection, while the fixed exchange rate and floating exchange rate belong to the "corner solution". These three exchange rate systems have both advantages and disadvantages, so the international consensus on the optimal exchange rate choice is: no one exchange rate choice is suitable for all countries and for all periods of a country.

Theoretically speaking, the "intermediate solution" has the problems of market transparency and policy credibility. After the "8.11" exchange rate reform, the RMB exchange rate insisted on adjusting with reference to a basket of currencies, which once faced the challenges of these two aspects, resulting in the depreciation of exchange rate and the decline of reserves. At the end of 2016, there was a heated debate on whether to protect the exchange rate or reserve. However, through the introduction of RMB exchange rate quotation mechanism at the beginning of 2016 and the introduction of counter cyclical factor at the end of May 2017, the relevant departments solved these two problems step by step and achieved the successful reversal of the "8.11" exchange rate reform. In 2017, the RMB exchange rate did not break through "7", but rose by more than 6%. Foreign exchange reserves did not break through $3 trillion, but increased by 100 billion US dollars. Since 2018, the RMB exchange rate has entered a new normal of two-way fluctuation and expected differentiation. Especially in the last year, when the new crown pneumonia epidemic hit, the RMB exchange rate first suppressed and then rose, and fluctuated in a wide range. The exchange rate leverage function of buying low (appreciating) and selling high (devaluing) played a normal role. It has withstood the test of extreme market environment, proving that the current exchange rate system is feasible and effective.

From the logic of the market, factors that affect the rise and fall of the exchange rate at any time exist at the same time, and there is no currency that only rises but does not fall or only falls but does not rise. In the case that the exchange rate is more and more determined by the market, it is inevitable that if the exchange rate falls too much, it will rise or fall if it rises too much. It is based on this logic that when I reviewed and summarized the RMB exchange rate trend in the first half of last year, I clearly pointed out that the favorable fundamentals in the second half of last year will gradually play a supporting role in the RMB exchange rate. This book was completed in July last year, earlier than September when the domestic dispute over the new exchange rate cycle began.

It is also based on the logic of this market. At the end of last year and the beginning of this year, I made it clear that the foreign exchange market is driven by market sentiment and there are multiple equilibria. We should prevent "where to go, where to go" first to have opinions and then to find arguments. At present, the strength of RMB is multiple positive resonance, but when the factors affecting the exchange rate rise and fall, we need to be aware that the market may react passively to the good and be sensitive to the bad again. At that time, I frankly predicted that the RMB might rise above the "6" level, which was an adaptive expectation of simple linear extrapolation, and suggested that the market should pay attention to the possibility that excessive RMB appreciation in the short term might trigger spontaneous market adjustment or lead to more policy regulation. In fact, after the RMB rose above 6.50 at the beginning of this year, it fluctuated in a narrow range from 6.43 to 6.50 before the end of February. In mid March, with the rise of US bond yield, the shock of US stocks and the rebound of the US index, RMB fell below 6.50 again and fluctuated back and forth around 6.50.

21st century: you recently put forward a view that the appreciation of RMB is driven by the supply and demand of foreign exchange rather than market expectations. How do we view the impact of market expectations on the exchange rate?

Guan Tao: the goal of the reform of the RMB exchange rate formation mechanism is to let the market play a decisive role in the formation of the exchange rate. However, the exchange rate determined by the market does not necessarily depend on supply and demand. When the exchange rate is more and more determined by the market, it may also be affected by market expectations, which makes the foreign exchange market present multiple equilibrium states. That is, under the given fundamental conditions, if the market sentiment is too much and selectively believes in good news, the exchange rate may appreciate; if the market sentiment is empty and selectively believes in bad news, the exchange rate may depreciate. Therefore, we can not simply extrapolate the appreciation or depreciation of the RMB exchange rate from the basic fundamentals.

For example, people usually think of trade surplus and RMB appreciation. But it's not. With more market sentiment and stronger appreciation expectation, this will drive the RMB to rise more. However, if the market sentiment is weak and the depreciation expectation is strong, the market may think that this is the surplus expansion caused by the economic downturn and insufficient domestic demand, which may lead to the depreciation of RMB, for example, in 2019.

This point of view was put forward by me in the analysis of the data of foreign exchange settlement and sales of banks in January, the data of foreign collection and payment on behalf of customers and the transaction data of foreign exchange market. Relevant data show that in January, exchange rate expectations were basically stable and tended to be differentiated, market willingness to settle foreign exchange tended to weaken, motivation to purchase foreign exchange increased, and domestic foreign exchange supply continued to exceed demand. It can be seen that the inertia of RMB exchange rate at the beginning of the new year is mainly driven by the force of foreign exchange supply and demand rather than market expectation. Although many analysts predicted at the beginning of the year that the RMB exchange rate would rise above "6", this does not necessarily represent the thoughts or actions of market participants. This reflects that after the change of RMB exchange rate from unilateral decline to two-way fluctuation, market participants tend to be more mature and rational.

On the contrary, some analysts or observers are far away from the market or common sense of the market, which often confuses exchange rate fluctuation and exchange rate expectation. It is precisely after the increase of exchange rate flexibility that the pressure can be released in time and the accumulation of unilateral expectations can be avoided. This is the charm of marketization of exchange rate. Before 2013, it was we who adopted the way of increasing foreign exchange reserves to prevent the rapid appreciation of the exchange rate. On the contrary, it made the market have a long-term unilateral appreciation expectation, stimulated the capital inflow of risk-free arbitrage, and led to currency mismatch of asset localization and liability dollarization. The unexpected devaluation of RMB triggered the adjustment of increasing the allocation of foreign exchange assets and repaying the US dollar's external liabilities, resulting in a vicious circle of "exchange rate devaluation capital outflow reserve devaluation". It was not until 2017 that this spiral decline was interrupted and the situation was reversed.

RMB exchange rate equilibrium after the opening and closing or normal

21st century: since June last year, the RMB appreciation against the US dollar has been so fierce that the market did not expect it. What are the main driving forces of this round of appreciation? So far, have the drivers changed? Therefore, how to judge the future trend of exchange rate?

Guan Tao: in June last year, I pointed out that the devaluation of the RMB exchange rate in May was mainly affected by the news, and the supporting role of the basic exchange rate stability in the next stage will gradually appear. Later, it basically verified my point of view.

The appreciation of RMB since June last year is mainly due to the fact that the good fundamentals have overcome the bad news, including China's taking the lead out of the epidemic blockade, the first economic recovery, exports exceeding expectations, the depreciation of the US dollar, and the widening interest rate gap between China and the United States. At present, the factors affecting the RMB exchange rate have not changed, mainly including the development of the epidemic situation, economic recovery, export prospects, Sino US interest rate spread, US dollar index, financial risks, and relations between major countries. It is just that the connotation of each factor will constantly change, and at the same time, it will drive the expectation of market investors to change. Exchange rate not only depends on the specific driving factors, but also depends on how investors interpret and judge.

Since the beginning of the year, the yield of us 10-year Treasury bonds has risen rapidly from less than 1% to 1.6%. US stocks have also experienced a more drastic adjustment, and the US dollar index has rebounded from 89 to around 92. The main reasons for market analysis are that the US reopened its economy well, the vaccination speed has been accelerated, and the stimulus package has made progress. In addition, inflation expectations have pushed up the yield of US debt, which has led to the strengthening of the US dollar and the adjustment of US stocks, and RMB has become a "victim".

In fact, this is one of the potential paths for me to look forward to the RMB exchange rate in 2021 at the end of last year. Under the benchmark situation of vaccination, control of the epidemic situation and restart of the global economy, with the rebound of the US economy, although the Federal Reserve will not necessarily raise interest rates, the marginal convergence of monetary easing and the rise of inflation expectations may still push up the yield of US Treasury bonds and narrow the interest rate gap between China and the United States; with the improvement of market risk preference, the US dollar is expected to further weaken, but the time and extent of US dollar devaluation will be determined by If investors' risk preference reverses, the global financial market will be under pressure again, and asset prices will easily fall sharply, which will test whether RMB is a safe haven or a risk currency.

If the equilibrium exchange rate determined by fundamentals has not changed greatly, the factors of rise and fall must be one and the other, which will cause the exchange rate to fall when it rises too much and rise when it falls more, showing a two-way fluctuation with rise and fall. Especially when the exchange rate tends to be balanced, under the influence of long and short interwoven factors, it is easy to appear the trend of big ups and downs and wide opening and closing.

The 21st century: the negative impact of RMB exchange rate appreciation is reflected in the exchange gains and losses of export enterprises. Some A-share enterprises have exchange losses as high as hundreds of millions. Do you have any suggestions on how to avoid exchange rate risk for export enterprises?

Guan Tao: last year, the rapid appreciation of RMB may not have a significant impact on China's export competitiveness. On the one hand, because of the dislocation of the global epidemic situation, China took the lead in getting out of the epidemic blockade, and overseas production was in short supply; on the other hand, the US dollar index fell last year, and the non-U.S. currency appreciated significantly against the US dollar, and the rise of the RMB multilateral exchange rate was far less than that of the US dollar.

The financial impact of RMB appreciation on export enterprises is greater than the impact on export competitiveness. There are two factors involved in this. One is that there is usually one to three months' time difference from export declaration to collection. Some enterprises are not professional organizations and may rush to produce and deliver goods, only to find that the appreciation of RMB is so fast afterwards; the other is that enterprises lack the awareness of neutral exchange rate risk.

What is most certain about the RMB exchange rate this year is that the volatility of the RMB exchange rate will be improved due to many internal and external uncertainties and instability factors. For enterprises, we should base on the main business, pay attention to establish a neutral financial awareness of exchange rate risk, control the exposure as much as possible, and manage the risk. We can use risk aversion tools to manage risk, and spend a certain cost to change uncertainty into certainty. Of course, there should be different tools to weigh the cost and benefit of exchange rate hedging. To hedge risks with RMB foreign exchange forward or options, you can consult professional institutions and professionals. There is also a natural hedge. If an enterprise has both foreign exchange income and foreign exchange expenditure, it can use foreign exchange income to make foreign exchange expenditure. There is no need to settle or purchase foreign exchange, and there will be no exchange rate problem. Generally speaking, for enterprises, exchange rate fluctuations should be regarded as normal. When the exchange rate rises, we should buy more foreign exchange and less settlement; when the exchange rate depreciates, we should settle more foreign exchange and buy less foreign exchange. At the same time, there is another way, if the products of the enterprise have international competitiveness and bargaining advantage, they can use local currency to calculate and settle the foreign exchange rate risk, or incorporate the exchange rate fluctuation risk into the pricing terms to share the exchange rate risk with the foreign importers.

With the RMB exchange rate falling back to the 6.50 era recently, some media reports said that "many foreign trade enterprises which are still waiting to see the RMB exchange rate fall rapidly by more than 500 basis points in the past two days, take the opportunity to increase foreign exchange settlement efforts in exchange for more RMB." There is no right or wrong for an enterprise to operate in this way, but there is only a trade-off between the advantages and disadvantages. Obviously, after a long period of suffering from unilateral appreciation, enterprises eager to sell foreign exchange once the RMB fell in April and may of 2018 seem to have sold early. It's hard to say whether this will happen again. However, the exchange rate of the past week has shown that the RMB exchange rate may fluctuate in the event of the aforementioned anticipated situation. If the enterprise is based on risk neutral rather than gambling direction, the gains and losses will naturally be seen more clearly.

The basis of the shift of monetary policy is the improvement of real economy

21st century: US President Biden has signed a US $1.9 trillion economic stimulus plan, and the market's inflation expectations in the United States are rising. What's your judgment on the inflation level of the United States? Under this expectation, should China worry about the pressure of capital outflow? How will it affect the RMB exchange rate?

Guan Tao: at present, the $1.9 trillion economic stimulus plan of the Biden administration has passed the votes of both the house and the Senate. There will be different views on the issue of $1.9 trillion in different periods of time. At the end of last year, people were looking forward to Biden's $1.9 trillion economic stimulus plan, because at that time, the U.S. epidemic was very serious, and fiscal policy was needed to strengthen support. However, some people now believe that the current epidemic situation has been controlled and the momentum of economic recovery is beginning to show, and further stimulus will increase inflationary pressure. This is also an important reason for the recent rise in the real yield of US debt. In the long run, it will increase government debt and affect fiscal sustainability.

Moreover, in addition to the $1.9 trillion rescue plan, the Biden administration plans to launch a $3 trillion infrastructure plan. Biden believes that the U.S. infrastructure is too backward and needs to be renovated. I think this is also an important reason for the rapid rise in commodity prices in the near future. As commodity prices rose, inflation expectations rose, so did nominal yields on US debt.

Some people believe that after commodity prices rise, will it bring stagflation? I think it depends on whether the rise in commodity prices is sustainable. In recent years, due to more liquidity in the world, the trading of bulk commodities has increasingly deviated from the commodity attribute with financial attribute. However, different from general financial assets, commodities are mainly subject to the relationship between supply and demand, which is related to the economic prosperity of the world. At present, the growth of the market is mainly due to the low base last year. This year's recovery of the global economy will bring about a sharp rebound. However, the economy may fall back next year. There is even a saying that the world economy may enter a "three low" state: low growth, low inflation and low interest rates.

Another key factor here is how the Fed views inflation this year. US Federal Reserve Chairman Powell and other officials have repeatedly given the market "preventive injections". Inflation will rise briefly in the second half of this year, but it may not be sustainable. Some officials can accept an inflation rate of 2.5% or 3%. It is unacceptable to have a significantly high inflation rate. The impact of these key figures on inflation expectations may be more prominent. There is a process of self strengthening and self realization of expectations. For example, if the inflation rate rises to 3%, the market will trigger strong expectations of monetary tightening. Consumers have been listening to the Fed saying that high inflation is unacceptable, and there will also be expectations that inflation will peak and fall back. Therefore, from the perspective of the public trust of the Federal Reserve, it is difficult to see high inflation in the 1970s.

If the upward inflation leads the market to think that the Federal Reserve will tighten monetary policy ahead of time, the US dollar may be stronger. However, China's economic size and market depth are no longer typical emerging market countries, so we need to constantly worry about the uncontrollable pressure of US dollar return and capital outflow. Moreover, the gradual opening of China's capital account can reduce transaction costs, enhance the confidence of domestic and foreign investors, and establish international credit. In the future, in order to further improve the degree of opening to the outside world, China must adapt to the increasing volatility of capital flow, just like breaking "7" and keeping "7".

The US dollar index has a significant impact on the RMB exchange rate, but it can not fully explain the RMB exchange rate. Other factors mentioned earlier are likely to move in favor of the RMB exchange rate.

The 21st century: the National People's Congress and the National People's Congress have just concluded. Fiscal policy and monetary policy are the focus of attention every year. How do you interpret this year's macro policy?

Guan Tao: from the quantitative indicators, the fiscal policy highlights the idea that the policy does not turn sharply, but will turn. In view of the effective control of the epidemic situation and the gradual recovery of the economy, the deficit rate is planned to be about 3.2% this year. This is slightly lower than last year's target of no less than 3.6%, but higher than the previous year's level of no more than 3% (the budget deficit rate in 2009 was less than 3%, and 3% is also the international warning line). The deficit budget is 3.57 trillion yuan, 190 billion yuan less than last year, but 810 billion yuan more than that in 2019. This not only reflects the overall positive fiscal policy orientation, but also releases the signal to avoid "flooding", and reserves policy space for dealing with new risks and challenges in the future.

Monetary policy has basically continued the keynote of last year's central economic work conference. But there are also some adjustments in the details. The macro leverage ratio in the government work report has not changed, but its position has been adjusted. For reasons well known to all, this goal was omitted from the main expected goal of development in last year's government work report. This year's government work report did not mention this goal, but put it into the monetary policy part. The specific formulation is "the growth rate of money supply and social financing scale basically matches the nominal economic growth rate, maintain reasonable and sufficient liquidity, and maintain the basic stability of macro leverage ratio". Obviously, the reference of "stable lever" is basically the same as that of previous years, but the importance may be reduced from the position. The reason for this may reflect the objective consequence of more domestic economic downturn and faster rise of macro leverage ratio due to the impact of the new epidemic last year. "Stabilizing leverage" is not a prominent contradiction and problem at present.

The government work report still emphasizes the function of monetary policy in serving the real economy. Previously, the market believed that the economic growth target of the government work report was conservative, and the focus of the central bank's monetary policy will shift from stable growth to risk prevention, and exit expectations are spreading rapidly. As long as we talk about asset prices and deposit and loan interest rates, the market will be shocked by three times a day. However, the report on the work of the government made it very clear in the part of monetary policy, and continued to emphasize the need to put the service of the real economy in a more prominent position. The foundation of economic recovery is not solid, and the policy will not be in a hurry to withdraw. But the financial system can no longer play money for money. The government work report not only has principle requirements for financial services to the real economy, but also puts forward specific measures and makes specific arrangements for deepening the reform of the financial system.

Another worry of the market about the rapid withdrawal of monetary policy is that the government work report has increased specific measures to prevent risks. China's monetary policy has two pillars, one is the monetary policy aggregate tool, the other is the macro Prudential Management. Therefore, financial stability is the central bank's responsibility, but not necessarily the goal of monetary policy, risk prevention does not necessarily require the use of interest rate policy tools. There is a typical procyclical behavior in the financial system, which is an endogenous behavior. It is very difficult to avoid it completely. That is, excessive leverage will be added in the stage of economic recovery and overheating, resulting in the continuous exposure of debt problems in the economic downturn, causing greater harm to the economy. This Law of financial instability is called Minsky moment in academia. Many scholars are studying how to reduce the damage caused by financial instability to the economic downturn. China has a very high demand for stability. The expected guidance of monetary policy is to warn the financial system to pay attention and be careful. The future currency shift will happen, but the basis is that the real economy will be better.