China's SAFE Urges Banks to Boost Corporate Hedging Amid Rising Trade Volatility

China's State Administration of Foreign Exchange (SAFE) is quietly urging banks to promote currency hedging among their corporate clients. Specifically, SAFE wants certain banks to push client hedging ratios to around 40%, a benchmark being factored into regulatory performance assessments.

The target is ambitious: regulators want banks to increase hedging activity significantly, particularly in the country's export-heavy coastal provinces. China's national corporate foreign exchange hedging ratio has been climbing steadily, from 22% in 2020 to approximately 35.3% for the first half of this year.

The SAFE and People's Bank of China (PBOC) are using what's known as 'window guidance,' where regulators informally nudge banks towards desired outcomes without issuing formal mandates or published rules. This approach has driven record hedging volumes, with net selling of foreign currencies through forwards reaching $39 billion in January.

The PBOC cut the foreign exchange risk reserve requirement from 20% to 0%, effective March 2, making it cheaper for companies to hedge against currency swings. The move is seen as a two-pronged approach: banks feel pressured to promote hedging services, and clients face fewer reasons to say no.

Chinese exporters are particularly vulnerable to currency fluctuations, which can erode already slim profit margins. Regulators also have a practical reason for promoting hedging: unmanaged corporate exposure can amplify currency volatility, making the PBOC's job harder.