As China’s central bank brings out the big guns, the tide is turning in favour of the yuan
- Just as the pound plunged on the weak UK mini-budget, the yuan narrative is changing as Chinese authorities signal firm support for the economy and the yuan
- It’s a matter of time before China ends its zero-Covid policy. Once traders sense yuan weakness is running its course, there could be an avalanche of dollar selling
Indeed, the tide may be turning in the yuan’s favour as the narrative shifts.
Nor is the Fed likely to stop raising its interest rates just yet, unless – and this is not an immaterial risk – the pace at which it has been tightening monetary policy results in financial instability at home or, where this might adversely affect wider US interests, abroad.
As it is, with the US consumer price index still “unacceptably high”, Cleveland Fed chief Loretta Mester argued last week that “when there is uncertainty, it can be better for policymakers to act more aggressively because aggressive and pre-emptive action can prevent the worst-case outcomes from actually coming about”.
Elsewhere, like the United States, Britain too has been tightening monetary policy but the Bank of England, often referred to by traders as the Old Lady, has been raising its rates in smaller increments than the Fed.
The Bank of England clearly felt it had good reasons to act as it has, but adopting that position was hardly going to support the sterling and, as the old City of London foreign exchange mantra goes, the pound goes up by the staircase but down by the lift-shaft.
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Those tumultuous moves were not the result of feckless behaviour by out-of-control forex and gilt market participants, but were rational, if dramatic, market responses to new information.
Collective market rationality also applies to the prospects for the yuan and here too, the narrative is evolving, but this time, arguably in the renminbi’s favour.
Those who expect further marked renminbi weakness will certainly point to the challenges facing China’s economy, not least the impact of Beijing’s continued adherence to its zero-Covid policy, challenges that steady-to-accommodative Chinese monetary policy settings help to alleviate, while simultaneously referencing the Fed’s commitment to keep on raising US interest rates.
But with China’s zero-Covid stance, it’s surely not a matter of whether that policy is phased out, but when.
There is little to fear if China’s yuan depreciation is properly managed
If that puts a crimp in the rationale for further China-derived yuan weakness, then it’s also worth bearing in mind that information, available to the currency markets, clearly shows Beijing has precious little interest in seeing the renminbi fall further.
Information matters, and the narrative that markets have embraced to justify continuing yuan weakness is looking increasingly unpersuasive.
Neal Kimberley is a commentator on macroeconomics and financial markets