QE exit to tighten liquidity

Experts play down significance of US Fed's move

China is likely to see capital flight following a US move to drop a quantitative easing (QE) policy and tightened credit might slow down economic activity, while the appreciation of the dollar will lead to foreign exchange losses from enterprises, economists said on Thursday, as they dismissed short-term risks.

The US Federal Reserve said in a statement released on Wednesday after a two-day meeting that it would end its six-year quantitative bond buying program by the end of October, citing a substantial improvement in the labor market underlying a stronger recovery in the economy.

The Fed also retained its tone and guidance that the benchmark rate would be near zero for a "considerable time" following the conclusion of the bond purchase.

"The end of the US monthly bond purchase will not have short-term impacts on China's economy," Hua Changchun, China economist at Nomura Securities, told the Global Times on Thursday.

The Shanghai Composite Index, a benchmark index for China's A-share market, ended at 2,391.08 points on Thursday, slightly up by 0.76 percent, while another key indicator, the Shenzhen Component Index, closed almost flat from the previous trading day.

Hong Kong's Hang Seng Index fell 0.49 percent to 23,702.04 points on Thursday.

The impact on China's capital market is insignificant because the tapering of the US QE is within market expectations, Hua said.

The removal of the QE policy indicates that the US economy is now in good shape, showing a stronger external demand for Chinese exports, which is in fact bullish news for the Chinese economy, Hua said.

US Commerce Department said on Thursday that GDP grew at a 3.5 percent annual rate in the third quarter, beating expectations for a 3 percent pace.

The major impact of capital outflows could be triggered when the US completely withdraws from QE by raising the benchmark rate which has been pinned to near zero for almost six years, Chen Long, a China economist at Gavekal Dragonomics in Beijing, told the Global Times.

Not only China but also other emerging economies also face the challenge of capital flight, which usually leads to floating the dollar against other currencies, he said.

But the yuan is estimated to be stronger than currencies of other emerging economies, though a depreciation against the dollar seems most likely, Chen estimated, noting that a stronger yuan may also trim the competitiveness of its exports to these countries which suffer a weak local currency.

China has seen some signs of capital outflow in the third quarter with the surging value of the dollar against the yuan.

Net capital inflows totaled $159.2 billion in the first quarter of this year, however the surplus slumped to $29 billion in the second quarter and the country even witnessed a deficit of foreign exchange at $16 billion in the July to September period, indicating a capital outflow, based on Chinese banks' purchases and selling of foreign currencies.

A massive pullback of foreign capital out of China will lead to tightened liquidity in the market, and the credit squeeze will further slow down economic activities, Chen said.

With the sound recovery of the US economy and stronger job market, the Federal Reserve may raise the benchmark rate in June of 2015, according to analysts.

Capital flows happen to be what the Chinese monetary authorities want, which means less intervention from policymakers in the foreign exchange market, Liu Ligang, chief China economist at ANZ Banking Group, told the Global Times on Thursday.

As China has long been attractive for capital inflows in the past, the central bank has to purchase the inflowing foreign currency with the yuan, leading to overabundant liquidity and bubbling asset prices.

China's $3.89 trillion worth of foreign exchange reserves will also serve as a buffer adequate for a potential capital flight, Liu said.

However, the greater volatility of the yuan versus the dollar following the US exit of the QE policy could result in potential foreign exchange losses and heavier financing costs of Chinese corporations which have issued dollar-denominated bonds in the international market, Liu said.

Many Chinese firms sold dollar-denominated bonds with floating rates, which means they will have to pay higher interest rates to bond buyers in the event of a rate hike in the US, he said.

Some Chinese enterprises have already suffered losses due to greater volatility in the exchange rate.

The yuan depreciated against the dollar in the first five months by about 3.4 percent but the trend reversed in the middle of the year when the Chinese currency floated in the range of 2.2 percent, which has continued since then, and the greater volatility led to some firms experiencing losses.

Earlier media reports said that Chinese listed firms incurred foreign exchange-related losses of 11.7 billion yuan ($1.9 billion) in the first half of this year.