The CBC’s onshore FX deposits, a surprising mainland China connection & flighty hedging counterparties

The path of the Taiwan dollar since the previous post here last August was not quite smooth, yet it still likely understates the various pressures acting on the currency and the regulatory action seen in response.

This post will not attempt to provide a comprehensive summary of developments since last summer. Still, a rough sketch may provide a clearer context for the write-up to be discussed subsequently.

In light of mounting FX appreciation pressures during November and December 2020, the CBC decided to intervene heavily in what over stretches of time was a purely one-sided market. Once more, this forestalled a transition to a less undervalued currency, while also keeping the positive feedback loops stemming from large private sector FX risk taking at bay. Actual FX intervention was paired with at first clumsy attempts of public moral suasion, followed by more insistent private follow-ups along with numerous turning of regulatory screws (i.a., a clamp down on speculative forward transactions, greater scrutiny of small ticket remittances, restrictions of inter-company cross-border borrowings, upping lifers’ cap of FX policy sales).

These actions happened to coincide with substantial sales of Taiwanese equities by foreigners, slightly weaker trade surpluses than in prior months and a stronger US dollar across the board, which first halted upward pressure on the TWD and then allowed the recent depreciation back to mid-28 levels.

Despite the more tranquil environment in the past weeks, the structural forces and imbalances discussed at length previously seem largely unresolved. A returning focus on these seems likely with the next US Treasury FX report, in which Taiwan’s heavy intervention likely means it will receive full points in the Treasury’s three criteria quantitative assessment, thus opening the door to an even more thorough examination. Growing internal resistance at the CBC to the existing central bank direction further provides opportunity for the country to explore whether the decades-old policy it relies on is still appropriate going forward.

---

The note below, written during the volatile days in early December 2020, seeks to add three points to this discussion: