China faces yuan dilemma as foreign reserves dwindle

SHANGHAI - Investors are bracing for further downward pressure on the Chinese yuan, as foreign exchange interventions push the country's currency reserves to the lower limit.

China's foreign currency stockpile stood at US$3.2 trillion (S$4.3 trillion) as of the end of February, down about US$600 billion in about a year.

Granted, the reserves declined at a slower pace in February -- by US$28.6 billion. China had previously seen monthly decreases of around US$100 billion, stoking concerns about the coffers drying up fast. The figure for February was lower than many market watchers had predicted.

People's Bank of China Gov. Zhou Xiaochuan on March 12 assured reporters that the yuan had started to return to a normal. Indeed, the currency has slightly rebounded against the greenback after the US Federal Reserve on March 16 hinted that it might raise interest rates only twice this year. Still, the Chinese central bank apparently intervened in the market as well.

The PBOC is also trying a new approach. The central bank has started to use derivatives trading instead of simply buying yuan. This way, the dollars are not delivered until the contracts mature in a few months. The PBOC "can prop up the yuan in the meantime without digging into its dollar reserves," a market watcher noted.

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