China’s yuan currency slides to fresh 11-year low, sparking fears of capital flight from Asia
- China appears to be preparing to offset the impact of Donald Trump’s new US trade war tariffs, increasing fears of regional currency declines and further equity exodus
- On September 1, the US is set to implement the first phase of a 10 per cent tariff on a wide range of Chinese manufactured consumer goods worth around US$130 billion
The value of the Chinese yuan fell to a fresh 11-year low against the US dollar on Friday, fuelling worries that China has given up on achieving any progress to end the trade war with the United States in the near term and so is moving to offset the effect of new tariffs with a weaker exchange rate.
The weaker yuan, in turn, dragged down regional currencies, aided by central bank interest rate cuts, that would lead to an acceleration of capital outflows from Asia this year.
Recent signs appear to indicate that China was preparing its economy for a scenario in which no progress is made at the face-to-face trade negotiations between US and Chinese officials expected to take place in Washington next month, analysts said.
“Perhaps the PBOC is sending a message to the US trade hawks that it will let the yuan gradually weaken as a policy weapon to neutralise the effect of increased tariffs,” said Stephen Innes, co-founder of Valour Markets.
The weaker yuan and prospects that other Asian currencies would follow, could exacerbate the sharp increase in capital outflows from Asia already underway, analysts warned.
Money has been fleeing stock markets almost across the entire Asian region this month, a trend that could worsen during the rest of the year, said Irene Cheung, ANZ Bank’s senior Asia strategist. Taiwan has seen equity outflows of US$2.4 billion so far this month, South Korea US$1.9 billion and Thailand US$1.6 billion, Cheung said.
While some Asian bond markets were attracting inflows because Asian issues still provide positive investment returns compared to the negative yields offered in Europe and Japan, the inflows were not big enough to completely outweigh equity outflows from the region, Cheung said,
“Investors are avoiding equities because of risk aversion. But we do see some bond inflows because the fixed income market is a place to go to when the economic outlook is negative,” Cheung said.
Given the worsening outlook for global growth and the escalating trade war between China and the US, a wave of rate cuts in a number of countries across the world have been exerting downward pressure on their currencies.
The US Federal Reserve, as well as the central banks from Australia, New Zealand, Thailand and the Philippines, have all cut rates in the last month. On Thursday, the central bank of Indonesia cut its benchmark interest rate for the second consecutive month despite the recent weakness of the rupiah exchange rate.
In Hong Kong, the foreign exchange market has been showing mounting fears of massive capital flight from the city in the future. Forward contracts, which bet on a currency’s value at particular point in the future, rose to their highest level since 2016, reflecting belief that the Hong Kong dollar would weaken below the key level of 7.85 per US dollar in a year’s time.
“There seems to be a new wave of depreciation pressure in the region given that the leading currency [,the yuan,] is falling,” said Ken Cheung Kin-tai, chief Asian currency strategist. “Expectations that central banks would keep cutting rates are also keeping the currencies weak.”
Jason Lui, head of equity and derivative strategy at the Hong Kong branch of BNP Paribas, said southbound inflow had been picking up since March, with an apparent acceleration in August as mainland Chinese investors net purchased more than US$3 billion worth of HK-listed shares during the first two weeks of August, on track for the fifth highest monthly inflow since the Stock Connect scheme was introduced.
So far China’s investors have been piling into Hong Kong shares via the Stock Connect channel in the longest shopping spree in 18 months.
Funds from mainland China helped Hong Kong’s capital market weather the turmoil in the global financial markets during the yuan devaluation in 2015 and amid heavy international betting on yuan depreciation in 1998, when the city faced down hedge fund tycoon George Soros with an unprecedented HK$118 billion (US$15 billion) stock-buying spree to prop up equity prices and defend the currency peg.
Gene Ma, head of China Research at Institute of International Finance, forecast capital outflows of US$150 billion from China this year, up from US$30 billion in 2018, but much smaller than the US$647 billion in 2015.
Outflow pressure from Chinese residents has been persistent, as US tariffs have encouraged both Chinese and foreign manufacturers to relocate their factories outside of Chinese, damping foreign direct investment into the country, Ma said.