China’s cross-border WMP connect - another step to liberalization

China’s cross-border WMP connect - another step to liberalization 

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  CNY: Following the announcement of the cross-border wealth management product connect (WMPC) pilot scheme last June, a MOU among various regulators in Hong Kong, Macau and Mainland China has been signed. Citi analysts expect this pilot program to encourage some capital outflow to lessen upside pressure on RMB though the high-yield wealth management products component onshore may offset this to some extent by attracting capital inflow.   

• CNY: Citi analysts note that amid RMB appreciation pressure, Chinese policymakers have unveiled a series of measures since late 2020 to encourage capital outflow that include – (1) lowering cross-border financing parameters in their macro-prudential assessments (MPA) to enable financial institutions to limit their ability to borrow abroad; (2) lifting the MPA parameter for corporates engaging in intra-company loans with their offshore entities to discourage domestic conversion of foreign currencies to RMB and instead directly on-lend the FX holdings to their offshore entities; and (3) making cross-border RMB settlements for individuals under current account transactions more convenient.

• CNY: Citi analysts expect further liberalizing measures to encourage capital outflows to ease pressure on RMB. That said, such policies may not work to the full extent for now, as zero and negative interest rates in key developed economies economies are leaving Chinese capital outflow with limited investment opportunities. Therefore overall, capital inflows into China may still continue to outweigh capital outflows this year, albeit at a reduced pace even with the announcement of the cross-border wealth management product connect (WMPC) pilot scheme.

• Citi analysts also view this initiative as an important step in liberalizing China’s capital markets and help accelerate RMB internationalization — since early 2018, Chinese authorities have been relaxing certain capital controls, including – (1) resuming QDII, (2) relaxing investment restriction on offshore RMB clearing banks, and (3) allowing qualified foreign investors greater latitude to invest in domestic securities. The current RMB strengthening and monetary policy easing cycle outside China provides a great opportunity for RMB internationalization, and Citi analysts expect this to accelerate markedly this year. The team expects RMB to become the third-largest global payment currency in 2030.     

Tactical/ structural outlook for USD more complicated   

• USD: The reduction in recent stock market volatility, coupled with further vaccine progress, has helped support US equities to record highs and the VIX has found itself once again in the low 20s, eyeing to break a level that has not been breached since February 2020. Despite the positive risk backdrop, USD continues to de-couple from the reflation trade as nominal yields rise leading to increasing discussion about US exceptionalism to lend tactical support to USD. 

• USD: However, Citi analysts add one more variable to watch that could see a reversion to USD weakness - gyrations in the US Treasury General Account (TGA) at the Federal Reserve that could boost bank reserves by some USD1-1.5tn to April – roughly tripling the USD120bn monthly increase in liquidity from Fed’s QE program – before reversing later. This means that that the US Treasury is set to release an extra $1-1.5tn in liquidity to the markets by April – end before reversing mid-year.  Investors have been puzzled by recent $ strength and € weakness, as in general, the sheer size of US stimulus relative to euro area stimulus should argue for additional $ weakness – if measured in terms of relative QE. But if stimulus is measured by the overall stimulus impact on bank reserves, much of this puzzle on €/$ disappears. But it remains to be seen whether the decline in TGA over the next 2 months (releasing $1-1.5tn in USD liquidity), will likely provide some of the impetus towards $ weakness. This is because TGA liquidity could potentially be used to fund President Biden’s fiscal spending instead, subject to Congressional approval (Citi analysts expect the size of the fiscal package to be the same as TGA release of $1.5trn). A fiscal program funded by TGA liquidity would likely succeed through the budget “reconciliation procedure” as it would seek not to expand the US budget deficit and would therefore allay market concerns about US twin deficits (USD positive) but at the same time, would put downward pressure on US real yields – a USD negative.          

Week Ahead           

• USD: US CPI MoM – Citi: 0.3%, median: 0.3%, prior: 0.4%; CPI YoY – Citi: 1.5%, median: 1.5%, prior: 1.4%; CPI ex Food, Energy MoM – Citi: 0.1%, median: 0.2%, prior: 0.1%; CPI ex Food, Energy YoY – Citi: 1.5%, median: 1.5%, prior: 1.6% - Citi analysts expect a slightly firmer increase in core CPI, consistent with a slightly stronger rise in core PCE.   

• USD: University of Michigan Sentiment – Citi: 79.4, median: 80.9, prior: 79.0; University of Michigan 1Yr Inflation Expectations – Citi: 3.0%, prior: 3.0% - sentiment survey should reflect increased optimism over recently falling virus cases while inflation expectations are likely to remain relatively more-elevated - a key factor the Fed will watch to assess inflationary pressures.

• GBP: UK First Quarterly GDP Estimate, 4Q Forecast: 0.7% QQ 3Q: 16.0% QQ; GDP Monthly Estimate, December Forecast: 1.8% MM Prior: -2.6% MM – the December’s GDP print will likely be buffeted by - (1) deterioration in public health outlook due to tightened restrictions; (2) Brexit stockpiling effects; and (3) acute border disruption associated with the closure of the Channel crossing between 20-23 December. From here, Citi analysts think the outlook for Q1-2021 remains highly challenged, with timelier indicators pointing to a level of services output similar to that observed in June.           

This is an extract from the Daily Currency Update, dated February 9, 2021. Please approach a Citigold Relationship Manager if you would like more information.