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Anomaly in China's Dollar–RMB Forward Market

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  • Yi David Wang

Abstract

Newly‐established data on onshore deliverable US dollar–RMB forwards and the Shanghai Interbank Offered Rate from October 2006 to April 2009 reveal significant violations of covered interest rate parity. This paper explains the cause of this anomaly. Deviations in the forward market are caused by an increase in US dollar‐to‐RMB conversion restrictions. Given that Chinese monetary authorities want to prevent market participants from taking advantage of the predictable appreciation of the RMB, China's State Administration of Foreign Exchange has to tighten up the control on US dollar‐to‐RMB conversions. Under the tightened conversion restrictions, similar deviations will resurface in the forward market whenever hot money inflow increases. One way to avoid covered interest rate parity violations in the forward market is to decrease hot money inflow into China by maintaining a stable and credible exchange rate policy.

Suggested Citation

  • Yi David Wang, 2010. "Anomaly in China's Dollar–RMB Forward Market," China & World Economy, Institute of World Economics and Politics, Chinese Academy of Social Sciences, vol. 18(2), pages 96-120, March.
    • Handle: RePEc:bla:chinae:v:18:y:2010:i:2:p:96-120
    DOI: 10.1111/j.1749-124X.2010.01191.x
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    References listed on IDEAS

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    1. John C. Williams & John B. Taylor, 2009. "A Black Swan in the Money Market," American Economic Journal: Macroeconomics, American Economic Association, vol. 1(1), pages 58-83, January.
    2. John B. Taylor & John C. Williams, 2009. "A black swan in the money market," Proceedings, Federal Reserve Bank of San Francisco, issue jan.
    3. Ronald McKinnon & Gunther Schnabl, 2009. "The Case for Stabilizing China's Exchange Rate: Setting the Stage for Fiscal Expansion," China & World Economy, Institute of World Economics and Politics, Chinese Academy of Social Sciences, vol. 17(1), pages 1-32, January.
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    Cited by:

    1. Yanping Zhao & Zaghum Umar & Xuan Vinh Vo, 2021. "Return and volatility connectedness of Chinese onshore, offshore, and forward exchange rate," Journal of Futures Markets, John Wiley & Sons, Ltd., vol. 41(11), pages 1843-1860, November.
    2. Wang, Yi David, 2012. "Convertibility restriction in China s foreign exchange market and its impact on forward pricing," BOFIT Discussion Papers 28/2012, Bank of Finland, Institute for Economies in Transition.
    3. Wang, Yi David, 2015. "Convertibility restriction in China’s foreign exchange market and its impact on forward pricing," Journal of Banking & Finance, Elsevier, vol. 50(C), pages 616-631.

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