On Wednesday, the People’s Bank of China (PBoC) set the USD/CNY reference rate at 7.0753, a slight drop from the previous day’s rate of 7.0773. The PBoC aims to keep prices stable, including the exchange rate, while also supporting economic growth. The PBoC is a state-owned institution and is not independent. The Chinese Communist Party Committee Secretary, appointed by the State Council Chairman, has a significant say in how the PBoC operates. Currently, Mr. Pan Gongsheng holds both leadership roles. Unlike Western central banks, the PBoC uses various monetary policy tools. These tools include the seven-day Reverse Repo Rate, Medium-term Lending Facility, foreign exchange interventions, and the Reserve Requirement Ratio. The Loan Prime Rate serves as China’s main interest rate and affects loans, mortgages, and savings. China has private banks, but they play a small role in the financial system. There are 19 private banks, with WeBank and MYbank being the most notable, backed by Tencent and Ant Group, respectively. In 2014, a new policy allowed private capitalized domestic lenders to join the state-controlled financial sector. The PBoC’s decision to strengthen the yuan reference rate today signals a clear preference for stability. This comes after last week’s unexpected rise in November 2025 export data, showing a 3.5% year-over-year increase. This suggests that officials are okay with a less competitive currency for now. The move aims to influence the spot market and set expectations as we approach the year’s end. For those trading derivatives, this stability indicates that selling short-term USD/CNY call options or using range-bound strategies could be wise. Recently, one-month implied volatility increased to 4.5% from its October 2025 lows, making it attractive to sell options. We should, however, remain cautious because any sudden changes in policy could quickly alter these positions. The focus on currency stability also suggests that the central bank is unlikely to make aggressive cuts to its benchmark Loan Prime Rate (LPR) soon. The market currently expects the LPR to stay stable through the first quarter of 2026, making new interest rate swaps less appealing if a rate cut is anticipated. Instead, we will keep an eye on the PBoC’s daily liquidity operations for any signs of policy changes. The sharp depreciation we witnessed in 2023, when the USD/CNY rate broke above 7.30, is a stark contrast to the current environment. As a state-owned entity, the PBoC works to prevent capital flight and maintain financial order. Therefore, we should expect continued low volatility in the near term but be prepared to buy protection if Q4 2025 economic data, set to be released in January, does not meet expectations.

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