China's recent moves to liberalize its currency, along with other financial reforms it is undertaking, are signs that "financial repression" in the country is over, said Jefferies' chief global equity strategist Sean Darby.
On Monday, China took further steps to free up the yuan after it doubled the currency's trading band against the dollar over the weekend. The country's foreign-exchange regulator — State Administration of Foreign Exchange, or SAFE — said Chinese banks will now be allowed to hold long renminbi positions against foreign currencies, lifting a six and half year ban that was aimed at reining in excessive speculation on the Chinese currency.
While China has been known in the past to intervene in the currency markets and placing caps on deposit and lending rates as it steers its economy with an iron fist, Darby says Beijing is realizing that a much broader flexible monetary system is in the country’s interest, especially since China's real effective exchange rate has recently become quite overvalued.
"It was all down to just using interest rates in the past... have now evolved to reserve ratio requirements, and of course over the last five to six years, moved to a much more flexible exchange rate. I think this has been a broader liberalization of the whole capital flows for China," Darby said.
The recent series of experimental financial reforms being implemented in Wenzhou, Zhejiang province, which formalizes gray-market lending and allows for direct overseas investments by residents, is another sign of the end of this so-called financial repression, Darby added.
"Over the last three years, real rates in China, real deposit rates have been so low, that people have moved money out of the formal banking system into what’s called the shadow banking system, the informal system, which has offered higher rates, particularly in places like Wenzhou," he said.
While China's central bank has been trying to clamp down on this so-called “informal lending sector” over the last year, Darby said authorities now realize that the system provides an important source of funding for small and medium enterprises.
"It's almost similar to — you can go to a bank in Hong Kong or Singapore, or you can go to a pawn-broking shop where you can get a pawn-broker, a usury rate," Darby explained. ”There's going to be different avenues to obtain capital and of course rates of interests are going to reflect that risk as well.”