Why did China change its policy?

The release Friday of the IMF's Article IV consultation on China offered some further insight on Tuesday's announcement. The report contained the usual call for greater exchange rate flexibility and noted that "Steps over the next few months could include a further widening of the band and changes to how the central parity is set". This suggests that the one motivation for China's policy change may have been to increase the odds of the CNY's inclusion in the SDR. An additional advantage is to preemptively "de-peg" the CNY from the USD ahead of any Fed tightening and thus prevent further unwanted appreciation the CNY on a trade weighted basis. 

However, of the idea that China aims for a big competitiveness gain via the CNY. As a rule of thumb, a 10% depreciation of the trade weighted CNY boosts Chinese GDP growth by 0.5pp in the first year after the shock. When debating attempts by Japan and the euro area to boost exports via sharp currency depreciation, it is doubted that such strategies are effective for large economies in a world of still lacklustre demand and structurally weaker global trade. And all the more so in the case of China, where the domino effect on commodities and other emerging economies could trigger financial stress and where this is significant risk of political retaliation from other major trading partners. None of this would be good for China (or for that matter anyone else). 

In shifting the FX regime, Chinese policymakers did, however, knowingly enter a war of attrition against capital outflows and speculators. Adding up the numbers, China is well armed with its $3.7tn of FX reserves; but the process is nonetheless likely to be volatile.