Over the past week there’ve been some curious fluctuations in the value of China’s currency that could create yet another flashpoint in the escalating tensions between China and the US.
Early last week China’s renminbi was trading at 7.1965 to the US dollar, its weakest level since 2008. On Friday The People’s Bank of China acted to support the currency, setting the mid-point for the band in which it allows it to trade at 7.1316.
The fact that the RMB is trading above a ratio of 7:1 against the dollar is by itself significant. When the currency broke through that level last August, during the most intense period of the trade war with the US, it ignited a US response.
The US declared China a currency manipulator and was considering more sanctions until the trade truce late last year that ended with the ‘’Phase One’’ agreement by China to buy an extra $US200 billion ($297 billion) of US goods and services.
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With that trade deal under pressure, whether because of the impact of the coronavirus or the renewed outbreak of friction – China is tracking well behind the rate of purchases needed to make good on its commitments – the three per cent depreciation of the RMB since March would normally cause convulsions within the Trump administration.
It hasn’t yet.
The administration has had some other China-related priorities and distractions, notably another crack down on China’s technology companies, the prohibition on a plan by the pension fund to invest against an index that includes Chinese companies, the decision to force audits on Chinese company listed in the US and, of course, the US response to China’s decision to impose security laws on Hong Kong.
The PBOC intervention late last week to prop up the RMB may be an attempt to defuse the risk that the currency could further worsen the relationship with the US but is more likely to flow from China’s own domestic concerns.
The depreciation does generate some benefits for China at a moment where the coronavirus has all but wiped out its economic growth and appears likely to continue to weigh on its economy for at least the rest of this year.
The shrinkage in the economy, at a time when the pandemic has sparked a flow of capital to the perceived safe haven of the US, strengthening the US dollar, would explain most of the RMB depreciation.
A weaker currency, however, also helps make its exports more competitive, blunts the impact of the US tariffs and the effects of the pandemic on global growth while making imports more expensive.
The increased competitiveness and the reduced effectiveness of the tariffs is what the US will focus on.
There is, however, a limit to the extent and the rate of depreciation that the PBOC would be very mindful of.
In 2015, with growth slowing, China embarked on a series of devaluations that sent shockwaves through global markets. Its own sharemarket plunged and there was an exodus of capital. Ultimately, to halt the capital flight, China used up about $US1 trillion of its foreign currency reserves.
Its leadership would be even more mindful of that risk of capital flight today.
The reaction to its proposed security laws for Hong Kong, with the US decertifying the autonomy for the territory that US law previously recognised and the US threatening to impose the tariffs on China that Hong Kong has been exempted from (among other, vaguer, sanctions), provides the potential for another massive and destabilising outflow of capital.
Hong Kong has been the conduit for a lot of the western capital flowing towards China, whether for commercial or financial purposes. It’s also the repository for a lot of Chinese mainland capital, a perceived safe haven for the wealthy.
If there is to be further depreciation of the RMB it would make sense for the PBOC to try to ensure that it is controlled and incremental to avoid creating another front in the growing cold war with the US or causing a panic among its own citizens and Hong Kong investors.
If the US, which so far has threatened a series of unspecified actions after declaring Hong Kong is no longer autonomous, were to actually impose tariffs and sanctions the PBOC might not be able to stand against the tide of capital outflows without again having to throw throwing trillions of dollars of its reserves at a defence of the RMB.
RMB depreciation is likely to continue, given that currency encapsulates the effects of the confrontations between China and the US.
That’s not going to help defuse the tensions with a trade-obsessed US administration but neither is it helpful for the region or a global economy staggering from the pandemic-inspired lockdowns.