For decades, China has been accused of currency manipulation. The reason for the Chinese Communist Party devaluing the yuan is to ensure that goods made in China are so cheap that other countries cannot compete. They dominate exports and bring a large amount of foreign currency to the country. But this guise is now completely nullified: the yuan has depreciated, money is flowing out of China, exports declined, and foreign exchange reserves were exhausted.

The yuan recently dropped dramatically against the dollar. The yuan-to-dollar ratio has hit 6.90 in 2 years, and is even likely to break 7. 

On August 29, the overseas yuan/dollar exchange rate fell to 6.92 and 6.93 against the dollar, respectively, which is the lowest figure in the past two years. It has depreciated by about 7.5% since mid-April. At the same time, the dollar index has not stopped increasing, reaching a new high of 109.20 since mid-July.

In the past two weeks, the exchange rate of yuan against the dollar has fallen by nearly 1,500 points.

The market thinks that the yuan may continue to fall, breaking the 7 level in the future. The reason is that on an international level, the U.S. Federal Reserve (Fed) will apply a policy of raising interest rates, plus the continued depreciation of the euro will make the dollar index continue to strengthen. In China, due to factors such as the re-emergence of the pandemic, all the financial risks, and the slow economic recovery, the PBOC will not be able to use tight monetary policy and the yuan will continue to weaken.

Analysts said that the monetary policy of China’s central bank and the fundamentals of the domestic market will become the decisive factors affecting the yuan exchange rate. But at a time of weak borrowing demand and dismal economic data, PBOC’s liquidity tightening momentum will not be strong.

Bloomberg forecasts that, by the end of this year, it may take 7 yuan to equal to 1 dollar.

Paradox: Yuan depreciates, exports decline

In theory and practice, a depreciation of the yuan would benefit China’s foreign trade exports, but the situation is far from ideal.

On August 30, according to China Times Finance and Economics report, a gentleman by the name of Zhang, who exports stainless steel kitchenware in Shantou, Guangdong, said that despite the devaluation of the yuan, it did not bring him much excitement because there were fewer orders. 

As far as he knows, in the last one month, orders in his industry have dropped 40% year on year, exports and domestic demand are also much worse.

Tan Yaling, director and chief economist of the China Foreign Exchange Investment Research Institute, said that the devaluation of the yuan is not enough to solve the difficulties of foreign trade exporters. “Before the yuan rose to 6.3, it exceeded the cost at which the company could make a profit,” she said. In addition, in the past two years, along with the continuous increase in the price of raw materials and goods, high transportation and labor costs, and a sharp decrease in orders, it is extremely difficult for small and medium enterprises.

Sun Xiao is a spokesman for the China Commission for the Promotion of International Trade (CCPIT) and secretary general of the China Chamber of International Commerce (CCOIC). At his regular monthly press conference on August 29, he said that CCPIT recently conducted a survey of more than 500 businesses. The results show that the main difficulties that businesses are facing today are slow logistics, high costs, and few orders. According to the survey, 56% of companies said that raw material prices and logistics costs are high; 62.5% of enterprises said that orders are not stable, small and short-term orders are many, and large and long-term orders are few.

Soochow Securities estimates, the inflection point [time of trend change] of net exports may appear in the fourth quarter of this year or early next year, mainly depending on the supply and demand inside and outside China as well as changes in the supply and demand. change in the country’s disease prevention and control policy.

Capital flows continue to flee China, foreign exchange reserves are worrying

Behind the devaluation of the yuan is also the risk of foreign exchange reserves.

Fed Chairman Jerome Powell released a hawkish message at the annual meeting of global central banks held in Jackson Hole, Wyoming, on August 26. He said that he would use all monetary policy tools to curb inflation in the United States.

Alicia Garcia-Herrero, chief Asia-Pacific economist at Natixis, said: “This is bad news for China because it narrows the room for cuts even further at a time when China’s economy needs it the most.” She followed up with: “The [People’s Bank of China], however, will need to tighten capital controls on outflows even further.”

China’s economic growth has slowed due to the implementation of strict zero pandemic prevention measures, a weak real estate market, and power shortages in Sichuan caused by high temperatures and droughts. Standard Chartered, Goldman Sachs, and Natixis earlier this month lowered their forecasts for China’s economic growth this year.

The People’s Bank of China cut the one-year medium-term lending facility (MLF) operation by 10 basis points earlier this month, from 2.85% to 2.75%, the second rate cut since January this year, hoping to use financial means to stimulate economic growth.

The monetary policy gap between China and the United States has widened, with China trying to stimulate the economy by cutting interest rates, while most central banks around the world have followed the Federal Reserve to raise interest rates. If the Fed accelerates rate hikes, funds will leave China and return to the United States for better pay. An SCMP report said that China is suffering the worst capital exodus in 7 years with $4 billion net outflow in June and experts said that this trend may accelerate in the second half of the year.

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