Analysts divided in their bearishness on yuan
CLSA gloomier than AXA and Macquarie
Mainland China’s economic data rebounded in March, with improved fundamentals, but that hasn’t changed the yuan’s medium-term depreciation outlook, although analysts vary in their level of bearishness.
Aidan Yao, senior emerging Asia economist at AXA Investment Managers, said he remained comfortable with the call of a mild and gradual medium-term depreciation of the yuan on a trade-weighted basis, although the economy would accelerate in the coming quarters based on policy support.
The mainland’s March economic data, including exports and imports, was better than expected.
“In a pure economic world, the currency performs stronger with strengthened exports,” Yao said. “But we are living in a world that’s much more complicated; policy changes from the US and Chinese authorities affect the currency outlook even more.”
Yao said he expected the yuan would depreciate 3 per cent this year on a trade-weighted basis, with its 10 per cent overvaluation expected to unwind in the next three years.
Hong Kong-based brokerage CLSA is much more bearish on the outlook for the yuan, citing the overhanging pressure of capital outflow.
Amar Gill, CLSA’s head of Asia Research, said capital outflow from the mainland had not eased, due to the continued impact of declining interest rates, low returns on yuan-denominated assets and the mainland’s anticorruption drive.
Gill said that in order to avoid drying up its foreign exchange reserves, Beijing was likely to abandon
the yuan’s unofficial peg to the US dollar in the second half of next year, leading it depreciate to 8 to the US dollar by the end of 2017, before it found its floor and rebounded to 7 against the greenback in 2018.
The mainland’s foreign exchange reserves have shrunk by US$800 billion since mid-2014, to US$3.21 trillion.
Despite strengthening slightly against the US dollar since this year, the yuan has depreciated by some 2 per cent on a trade-weighted basis.
The mainland’s economic data in March seemed to present “a sweet spot moment”, analysts Larry Hu and Jerry Peng with Macquarie said a research note issued on Friday.
Gross domestic product growth for the first quarter came in at 6.7 per cent year on year in real terms, in line with market expectations. The purchasing managers’ index moved above 50 for the first time since July, indicating a rebound in the manufacturing sector, while industrial production, investment and trade figures beat consensus estimates and inflation was weaker than expected.
Exports surged 18.7 per cent year on year in yuan terms last month, the biggest increase in more than a year. Imports declined by 1.7 per cent, with the year-on-year shrinkage narrowing since February.
Moreover, the property sector rebounded sharply in the first quarter, with investment, sales and new construction starts all rebounding.
“Policy wise, monetary policy is accommodative while fiscal policy is quite expansionary,” Hu and Peng wrote. “Capital flows also improved in March, as yuan appreciated 1.2 per cent against US dollar and foreign exchange reserves increased by US$10 billion.”
However, the rebound was a “mini up-cycle” and was likely to last only for around three months because the major drivers were policy easing, property investment and inventory restocking, they said, adding that headwinds might soon return.
“First, the strong data in March is partly due to the low base. Even the parts due to inventory restocking and policy stimulus will not last long,” the note said. “Second, the top two challenges facing the Chinese economy have not really been fixed: lack of growth engines other than investment and weak global economy.
“Third, the external risk is still there. US dollar has weakened after G20 and provides a benign environment for emerging markets including China, but stability could easily lead to instability. If improved market sentiment and better data prompt the Fed to consider hikes again, the US dollar would likely strengthen and put pressure on yuan again.”
However, the Macquarie analysts do not expect drastic capital flight and a sharp yuan depreciation this year.
“The overarching theme this year is power transition in 2017,” they said. “Therefore, policymakers both at the central and local levels will do whatever it takes to deliver a stable economic and social backdrop. That’s why we stick to our positive views during the market downturn and refute gloomy views such as a hard landing, capital flight and sharp RMB depreciation.
“We also do not think that top leaders will overstimulate because they will run the country for another six years. If growth stabilises, the focus will shift from demand-side stimulus to so-called supply structural reform, which aims to boost long-term growth potential.”