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Market expectation management and renminbi exchange rate policy under depreciation pressure

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  • Mei Li

Abstract

Motivated by the capital outflow episode after the 8/11 renminbi exchange rate reform, we establish formal models to study renminbi exchange rate policy under depreciation pressure with a focus on its effect on market expectations. In an economy where capital controls are imposed, a central bank aims both to discourage speculative capital outflows and to reduce exchange rate misalignment. We find that (i) both capital controls and speculators’ uncertainty about the central bank’s exchange rate target can effectively discourage capital outflows; (ii) Any action taken by the central bank will send a signal to speculators about the central bank’s exchange rate target, causing a change in speculators’ expectations and subsequently in capital flows. This explains large capital outflows triggered by the 8/11 reform. A key takeaway is that exchange rate policy should take into account its effect on market expectations to avoid unnecessary exchange rate and capital flow volatility.

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  • Mei Li, 2023. "Market expectation management and renminbi exchange rate policy under depreciation pressure," China Economic Journal, Taylor & Francis Journals, vol. 16(1), pages 63-79, January.
    • Handle: RePEc:taf:rcejxx:v:16:y:2023:i:1:p:63-79
    DOI: 10.1080/17538963.2022.2042066
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    Cited by:

    1. Chen, Chuanglian & Zhou, Lichao & Sun, Chuanwang & Lin, Yuting, 2024. "Does oil future increase the network systemic risk of financial institutions in China?," Applied Energy, Elsevier, vol. 364(C).

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