- PBoC adjusts the USD-CNY fixing rate once more, triggering further depreciation
- Further moderate CNY weakness looks likely, as well as other forms of stimulus
- We do not think the yuan move will spark a currency war or a Fed delay
PBoC adjusts the USD-CNY fixing rate once more
After adjusting the daily fixing rate of the USD-CNY by 1.9% on Tuesday, the PBoC added just another ‘one-off’ adjustment of 1.6% yoy on Wednesday. Still, the second adjustment was in line with its Tuesday statement, indicating that the fixing of the reference rate would be based more on actual market movements. The move triggered a further depreciation of the CNY (and the offshore CNH). Although some reversal took place in the course of yesterday, the CNY developments had quite an impact on markets, leading to weakness in equities and Asian currencies, but supporting Treasuries and Bunds.
More CNY weakness ahead but not aggressive
In our view, the PBoC’s surprising twist serves two policy goals: 1) supporting and reflating the economy by boosting export competitiveness and 2) showing commitment to currency liberalisation in the run-up to the IMF’s decision on RMB inclusion into the SDR basket. The IMF recently indicated that further liberalisation is needed, while hinting it would postpone the SDR decision to 2016. Still, The PBoC will also continue to face constraints. The ‘stability-oriented’ authorities will likely not tolerate too much CNY weakness, as that may trigger more capital outflows and would raise the debt repayment burden of entities with high USD-denominated debts. Overall, we see further weakness, and have changed our forecasts to 6.55 by end-2015 and 6.75 by end-2016.
Weaker data could trigger other forms of stimulus
Meanwhile, recent activity, trade and PPI data point to ongoing weakness, particularly within China’s industrial sectors. Industrial production slowed in July. So did fixed investment and retail sales, although marginally. After rebounding to 6.9% yoy in June, Bloomberg’s monthly GDP estimate fell back to 6.6% in July. While we regard the recent CNY moves as a form of policy easing, we expect the PBoC to take further easing steps to keep growth close to its 7% target and prevent a hard landing. We have currently penciled in one more 25 bp policy rate cut and 100 bps in RRR cuts (next to ongoing fiscal stimulus), but should data continue to disappoint, we could see even more easing than that.
Yuan move does not look like triggering a currency war…
We do not think that the devaluation of the yuan will now trigger a currency war given that it is not too aggressive, while other countries also recognise that China’s economy faces challenges. Reactions from other countries so far are in line with this view. An EU spokesperson described the move as a ‘positive development’ to the extent that it better reflects market forces. South Korea’s Deputy PM for Finance said that greater Chinese export competitiveness will also benefit Korea. Even the normally hawkish US Treasury adopted a restrained tone, saying it was too early to judge the full implications of the move.
…or delay a Fed hike
Speculation that the Fed will now delay raising interest rates, which has weighed on the dollar, also look off the mark at this stage. The yuan devaluation will not have a big impact on the US economic outlook. Recent strong labour market data and FOMC member commentary point to a September increase in the Fed’s target range for the fed funds rate.