“China will be pumping money into their system and probably reducing interest rates, as always, in order to make up for the business they are, and will be, losing”, Donald Trump mused, in his eleventh tweet of the day, just after 8:30 AM.
He proceeded to badger Jerome Powell. “If the Federal Reserve ever did a ‘match’, it would be game over, we win!”
It’s not clear what the president meant by “match”. China hasn’t cut benchmark rates since late 2015 although Trump very nearly succeeded in forcing the PBoC’s hand. At one point this year, Barclays’ Jian Chang (literally the only economist to predict cuts from China in 2014) called a benchmark cut “unavoidable“.
Of course, Trump doesn’t understand the intricacies of Chinese monetary policy and, to be fair, he doesn’t need to. He’s correct, in that China has resorted to a series of RRR cuts (with the most recent “targeted” move coming last Monday, just hours after Trump tipped the latest trade escalation) and various measures to boost liquidity over the course of the protracted dispute with Washington. Last summer, expectations of more easing from China in light of the worsening trade tensions marked a stark contrast to the Fed’s hawkish bent. That policy divergence was part of what pushed the yuan sharply weaker. It wasn’t all “manipulation”.
Indeed, expectations of looser policy and, now, another hit to the economy tied to more tariffs, have driven the yuan through 6.90. Last week’s spike in implied vol. was among the largest since the devaluation.
The market looks poised to test the PBoC’s appetite for currency weakness. Indeed, a reprieve for the yuan on Tuesday (green shaded box, top pane) was largely erased as traders likely worried that once Trump woke up, the aggressive rhetoric would start up again.
As noted Sunday evening, the PBoC is working to keep the currency from diving too dramatically. For five consecutive sessions, the fix has been stronger than estimates. Don’t be surprised if signs of spot market intervention start showing up. Remember, when it looked like a 7-handle was in the cards last summer (second red-shaded box in the bottom panel), Beijing slammed the brakes on with a four-pronged approach to stabilize the currency (specifically, China reinstated forwards rules – August 3 – chided onshore banks for selling RMB – August 7 – moved to squeeze offshore liquidity – August 16 – and reinstated the CCAF – August 24).
Last July, Trump explicitly tied the monetary policy divergence between the Fed and America’s trade partners to dollar strength and the effect a stronger currency has on watering down the tariffs. That’s just another manifestation of the Powell Fed’s penchant for being unpatriotic, Trump imagines.
The layers of irony here are myriad. While relative dollar strength does “hurt the cause”, so to speak, how the greenback behaves in an environment characterized by an all-out trade war will be a key factor in shaping inflation dynamics.
“If the currency does not offset the effect of tariffs, then the imported goods become more expensive and US consumers and production process carry the burden. In general, both output and inflation are affected –the effect is bearish for growth and supportive of higher price levels”, Deutsche Bank’s Aleksandar Kocic wrote Sunday, before painting things as a kind of Sophie’s choice. “On the other side, if the currency offsets the effect of tariffs, the US and DM consumer in general will not feel the effect [but] this becomes disinflationary as it causes global growth slowdown and stronger USD, which implies tighter financial conditions.”
One imagines Trump hasn’t had a chance to think through all of this just yet.
“In any event, China wants a deal!”, the president concluded, in the same tweet cited here at the outset.
Don’t let the absurdity of him pretending an overt call for competitive easing was nothing more than a passing thought be lost on you.