Last week, we witnessed a truly epic short squeeze in Hong Kong.

Soaring deposit rates, dramatic spikes in CNH HIBOR, and harrowing moves in forward points accompanied the biggest two-day gain for the offshore yuan on record as liquidity evaporated faster than a democrat’s lead in a Presidential race against a reality TV star.

As one trader recently told FT, “renminbi developments never happen because of offshore speculators; it’s all about people onshore having confidence in the signals they see in the offshore market.”

That’s an important point. Markets have watched the spread between the onshore and offshore spots with great interest since the August, 2015 deval. The difference between the two rates is seen as a kind of proxy for how much depreciation pressure the RMB is under at any given time. Therefore, controlling the offshore rate is crucial for the PBoC when it comes to maintaining public trust in the currency. The more divergence there is between the onshore yuan and the offshore yuan, the more nervous people get (assuming CNH is weaker than CNY, which hasn’t been the case over the past several days, and indeed that’s the whole point).

Well, if the goal was to drive CNH higher to shore up confidence in CNY, then the Politburo’s actions have worked in 2017. Bouts of dollar weakness haven’t hurt either. When the broad dollar falls, China has more leeway to set the fix in a manner that projects stability (and even RMB strength) via the CFETS basket.

Still, persistent capital outflows and the strong dollar regime (which I think the market still expects despite YTD weakness) do not bode well for the RMB. Below, find some new color from Credit Suisse that serves to confirm everything I’ve been discussing for weeks on end.

Via Credit Suisse:

The recent intense CNH funding squeeze has several key implications, in our view. Specifically:

• Combined with the recent tightening of implementation of capital controls, the Chinese government is signaling that it has no intention to devalue the CNY. Its focus seems to be to limit the pace of any rise in USDCNY to something that avoids stimulating onshore speculative long USD positioning.
• Market positioning in CNY and CNH is now probably much cleaner than it has been over the past couple of months
• The role of the CNH in hedging and positioning is likely to diminish in favor of a return to the CNY NDF market to some extent.

Although the funding squeeze seems to be moderating, potential for new bouts of sharp rises in funding costs will persist (Figure 17 and 18). Unlike the intervention driven squeeze of January 2016 and even the September 2016 episode related to PBOC swap maturities, the recent squeeze is more fundamental. The shift in market expectations in favor of a trend rise in USDCNY have led to a fall in offshore demand for CNH deposits (Figure 19). Crucially, against this background, the PBoC’s changes in policy in Q4 last year to restrict cross border yuan outflow is restricting supply of offshore yuan. We think both trends are likely to continue as long as markets expect USD-G10 to continue rallying. The Chinese government has demonstrated that it prefers to sacrifice its erstwhile objectives to internationalize the yuan and liberalize its capital account to ensure its control over the yuan.

Nonetheless, we continue to expect the CNY to depreciate this year and maintain our forecasts of 7.06 and 7.33 in 3m and 12m. We doubt that the Chinese government will want to get stuck in a clearly artificial regime of the CNY trading flat against its basket at the expense of persistent reserve drains. That would set it up for steadily rising expectations of a capitulation and devaluation vs. the basket.

(Charts: Credit Suisse)