This weekend ironically marked the four-year anniversary of the 2015 yuan devaluation.
On the off chance anybody had forgotten how destabilizing a steep overnight drop in the currency can be, last week was a wake up call.
Where things go from here is anybody’s guess, and not because the PBoC is unpredictable – rather, because there’s no way of knowing what Donald Trump might do next.
“China wants to make a deal so badly. Thousands of companies are leaving because of the Tariffs, they must stem the flow”, the US president tweeted on Saturday, before again contending that Beijing may be angling to wait him out.
“At the same time China may be hoping for a Democrat to win so they could continue the great ripoff of America, & the theft of hundreds of Billions of $’s!”, Trump shrieked.
In its quarterly monetary policy report, out Friday, the PBoC said it would “stably deepen market-based reforms of the yuan rate [and] improve the managed, floating exchange-rate mechanism to maintain the flexibility” of the currency.
“We think the PBOC opened the door for further RMB depreciation should export and overall economic growth weaken more in light of higher tariffs and ongoing trade tensions with the US”, Goldman remarked, recapping the Q2 report.
In addition to irritating Beijing, it’s entirely possible that the decision to label China a currency “manipulator” will be trotted out as a justification for US intervention to bring down the dollar.
“USDCNY fixings, potential FX interventions, and any tightening in CNH-CNY spread will be key in guiding USDCNY expectations”, Barclays wrote Sunday. The bank recently revised their outlook for USDCNY to 7.25 in 2020.
This week, we’ll get the all-important retail sales/FAI/industrial production trio out of China. Activity data for June beat estimates handily, even as the simultaneous release of Q2 GDP data showed the economy grew at the slowest pace in 27 years during the second quarter. Donald Trump was quick to lampoon the Chinese the next day.
On Saturday, former PBoC officials warned about the escalating trade war and the prospects of the spat spilling over into other arenas.
Read more: Former Chinese Central Bankers Say Currency War Risks Rising, Official Warns Of ‘More Measures’
The July activity data won’t reflect the latest escalation in the trade war, so any sign of deterioration will likely be seen as particularly foreboding considering things aren’t likely to bounce in light of recent events. Last week, data showed PPI deflation coming to China for the first time since 2016.
At the same time, CPI continues to run hot, potentially putting the PBoC in a bit of a policy bind. On one hand, you’ve got factory deflation, which could serve as a drag on growth and profits. But on the other hand, you’ve got rising consumer prices and a falling currency, which gives the PBoC less scope to cut rates and/or deploy other easing measures.
But, as Bloomberg writes on Sunday, “having allowed the yuan to weaken past 7 per dollar, the PBoC has freed itself from an artificial constraint that it has been bound by for years, allowing borrowing costs to be reduced further without — in theory — the need to prop up the currency”.
When it comes to further easing in China, cuts of any kind would doubtlessly be seen as another escalation in the eyes of the Trump administration and the picture is complicated by the imminent overhaul of the country’s two-track rate regime.
Read more: As PBoC Warns Of ‘Market Chaos’, Here’s What’s Next For Chinese Monetary Policy
It’s likely that somebody in Washington knows when the next shoe is going to drop from the US side, even if the only such person is Trump himself.
Just as importantly, you can bet the PBoC has planned for every contingency and likely has a response at the ready.
Black swan- (or, at least, gray rhino-) watching in the dog days of summer.
