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The worst capital outflow in China in years is putting more pressure on the yuan

(Bloomberg) — China is witnessing the biggest capital flight in years, worrying authorities as pressure mounts on the beleaguered yuan.

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The currency is being hammered from all sides as money leaves financial markets, global companies look for Chinese alternatives and a revival in foreign travel hits trade in services. All this is reflected in the latest official data, which showed a capital account outflow of $49 billion last month, the largest since December 2015.

The exodus, fueled by sputtering growth in the world’s second-largest economy and a widening interest rate differential with the US, helped push the yuan to its lowest level in 16 years. The risk is that the currency’s weakness further undermines the market’s appeal and results in an acceleration of outflows that could destabilize financial markets.

That was the case in the aftermath of a shock devaluation of the currency in 2015 and during China’s trade war with the US under the Trump administration, when Beijing had to tighten capital restrictions and raise the borrowing costs of the yuan in Hong Kong. Although authorities have also taken several steps this time to stem the currency’s weakness, the outflow trend seems difficult to reverse.

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“Due to the differences in monetary policy and the current macro environment, it is unlikely that China has reached the inflection point with sufficient incentives to withdraw capital,” said Gary Ng, a senior economist at Natixis SA.

An exodus of $188 billion shows that China’s weight in global markets is decreasing

Of the $49 billion that flowed out of the capital and financial account last month, $29 billion came from investments in securities, according to data from the State Administration of Foreign Exchange. While inflows have increased, an even larger amount has fled to push the balance sheet deeper into the red.

The flight comes as Beijing risks missing its economic growth target of around 5% for this year, amid an ailing real estate market and slumping exports. Foreign investors’ holdings of Chinese government bonds fell to a four-year low in August, while they lost a record $12 billion in mainland equities in the month.

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Direct investment fell to a deficit of $16.8 billion in August, the worst since early 2016. The balance has been negative since mid-2022 as the country’s Covid restrictions and crackdown on the private sector kept investors away. China’s fragile recovery since the corona restrictions were lifted and a decline in consumer confidence mean that investments are returning slowly.

China faces an ongoing trade deficit in services as the number of mainlanders traveling abroad exceeds the number of visitors to the country. That trend has been exacerbated as foreign tourists are still not returning in large numbers even though the country has completely cast aside its Covid restrictions. The shortage worsened last month due to a jump in outbound tourism during the summer holidays.

The Chinese currency has depreciated by more than 5% both onshore and offshore this year, marking the worst performance in emerging Asia after the Malaysian ringgit.

Still, capital outflows may slow somewhat as the Chinese economy shows some signs of stabilization, although much depends on the interest rate trajectory in the US and China, said Edmund Goh, investment director of Asia Fixed Income at abrdn Plc.

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“Much of the money that was bearish on Chinese growth and the yuan has left China over the past 12 months and we should see some stabilization in capital outflows,” he said.

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