The mystery deepens. China’s June reserve growth is surprisingly low.

July 29, 2008

China just indicated that its reserves reached $1808.8 billion at the end of June. That is obviously a huge sum — it is $126.6b more than China reported at the end of March. But the increase in June was surprisingly small — only $11.9 billion.

Moreover, the euro rose in June. After adjusting for valuation gains, China’s June reserve growth works out to something like $3 billion. That assumes that about 25% of China’s reserves are in euros — which may be too high. Still, the increase in China’s reported reserves in June is very low, both relative to the increase in past months and relative to China’s still-large trade and current account surplus.

The volatility in China’s reserve growth this year has been extraordinary. Reserve growth — without considering valuation gains - has gone from a high of $75 billion in April to a low of $12 billion in June. That is a bigger swing than the dip from close to $60 billion in January and February to $35 billion in March.

Adjusting for valuation effects (the dollar value of China’s euro reserves rises when the euro rises, and vice-versa) actually makes the swings bigger. After adjusting for valuation gains and losses, April’s reserve growth is close to $80 billion and June’s reserve growth is less than $5 billion.

Clearly the 100 bp rise in the bank reserve requirement - which may have subtracted $36 billion from June’s reserve growth — has something to do with the low total in June. But the reserve requirement also was hiked by 50 bp in April, so the bigger-than-usual increase in the bank reserve requirement in June is not the full explanation. Either hot money flows fell, or China has found a new way of keeping reserves from appearing on the central banks books.

Adding in the $36 billion in foreign exchange that China’s regulators likely pushed onto the banks in June brings the monthly total up to around $40 billion. The June trade surplus was about $20 billion, FDI inflows were a bit below $10 billion and interest income on China’s existing foreign assets were maybe $6 billion.

Sum it all up and everything roughly balances, implying modest hot money inflows. At least if the data that was reported captures the full picture. It is hard to know. China has cracked down on hot money inflows. At the same time, the huge swing in the very rough measure of hot money flows most analysts uses from April to June is a bit suspicious.

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