With the yield curve flattening, emerging markets sliding, China’s currency tumbling almost as fast as its equity markets, and the global economy once again on the skid, comparisons between 2018 and 2015 are becoming increasingly louder. Indeed, with the Chinese renminbi losing 3.5% against the dollar over the past two weeks alone, and a sharp 5.5% since the middle of April when the PBOC first cut its Required Reserve Ratio, indicating a new easing phase has begun, this has been a steeper depreciation in the Yuan than the surprising August 2015 devaluation.
This in turn reinforced expectations that Chinese authorities are more willing to let their currency weaken to prevent the trade-weighted exchange rate, which has been trending upwards over the past year, from rising too much.
Compounding China’s paradox, the stealth devaluation comes at a time when Beijing had been forced into a tighter stance earlier in the year with rate hikes in lockstep with the Fed, an accelerating deleveraging process, regulatory tightening and a tacit acceptance of a stronger CNY in order to avoid provocations on the trade front.
Furthermore, as Goldman FX strategists wrote over the weekend , the calculus shifted with the crystallization of some of the trade war risks, coupled with an acute deceleration in the Chinese economy, leaving Chinese policymakers unable to rely on a positive external trade impulse to offset domestic tightening and have already taken steps to respond to the weaker credit and money data and soft activity prints such as fixed asset investment. As a result, rates moved lower, there has been media chatter suggesting an increase in bank credit quotas, and the PBOC enacted another cut in the reserve requirement ratio last weekend, the second for the year sparking further devaluation concerns.
Meanwhile, as China devalued sharply against the USD, it has also been devaluing against its three broader trade-weighted baskets (launched by the China Foreign Exchange Trade System, or CFETS, in late 2015 in an attempt by the PBOC to discourage investors from exclusively focusing on yuan’s fluctuations against the dollar) if by less. As JPMorgan shows in the chart below, the CFETS indices lost around 2.0% over the past two weeks, lagging the 3.5% depreciation of the yuan against the dollar. But as JPM’s Nikolaos Panigirtzoglou contends, “despite the depreciation over the past two weeks, the pressure on Chinese policy makers to let the Chinese renminbi decline further against the dollar remains given how elevated the CFETS trade-weighted indices are still.”
