According to a report by McKinsey & Co., by the first half of 2014, the debt of Chinese government, companies and families had totaled 2.82 times that of the country's GDP. The debt issue is now a major focus point for the Chinese Government. If China cuts the interest rates to zero, the corporate debt load will be greatly relieved, but this will also seriously eat away at the value of the yuan, which will cause a massive depreciation of the currency. A 25-percent depreciation would bring immeasurable stress to the yuan that was recently added into the SDR basket. The yuan's internationalization would also be impeded, because the huge capital flow out of China could arouse expectations of depreciation.

Under current circumstances, any further depreciation of the yuan would cause a negative feed-back loop, wherein expectations of the devaluation could lead toward the decreased value of the yuan. The Chinese Government should stay vigilant against any crises that could stem from such negative speculation.

Since the mere 3-percent depreciation of the currency, following the central bank's announcement to improve the yuan's exchange rate formation system on August 11, had caused such global turmoil, what would a 25-percent fall in the value of the currency arouse? Would the global and Chinese markets be capable of surviving such a torturous scenario?

As for the conditions of China's real economy and financial market structure, even if the interest rates are slashed to zero, it won't be easy to alleviate corporate debt burdens. That is because many of those companies borrow a great amount of money from private lenders. Under a zero-interest policy, those most affected would mainly be in the real estate industry, since a huge amount of capital could be expected to flow into that market. Such an influx of capital would only serve to further inflate the housing bubble again, making it more difficult to reduce the number of unsold homes.

The market is now pessimistic while the yuan is facing severe depreciation pressure, but in the middle and long term, the huge demand encouraged by the yuan's internationalization, the new economic impetus stimulated by the 13th Five-Year Plan (2016-20) and the multiple government pro-growth policies will all support the yuan in remaining strong.

The tendency of moderate-to-high speed economic growth has not changed, the trade surplus in goods is still large, and both foreign and outbound direct investment are growing, which means there is no logical basis for the yuan to continue depreciating.

This is an edited excerpt of an article written by Yi Xianrong, a research fellow with Institute of Finance and Banking of the Chinese Academy of Social Sciences, and published in Shanghai Securities News

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