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CHINA: Could Expand Use of FX Tools as Part of Path to Negotiations (1/2)

CHINA
EM BulletAPACChinaEmerging Market NewsBulletMarketsFixed Income BulletsForeign Exchange Bullets
  • Should current tight liquidity conditions persist, the Chinese authorities could opt for alternative tools to support the FX rate, particularly if part of a posturing phase before negotiating with the US on trade.
  • In contrast with the YTD lows printed in the US 10y yield today, the Chinese 10yr yield traded through 1.80% for the first time since mid-December today - while the USD/CNH remains within the January/February range. In tandem, bank lending rates have climbed to sit comfortably above last year's average - even when excluding the pre-new year spike.
  • Most have pinned the run higher in Chinese yields this month on constrained onshore liquidity conditions - a spillover effect from the PBOC's net liquidity drain across February, in part designed to support the currency in the face of tariff pressure (USD/CNH is lower by ~1% this year).
  • The longer liquidity stays tight, the greater the risk to the real economy via constrained bank lending - meaning the authorities could lean more closely on other tools to support the FX rate, particularly if the PBOC are looking to contain markets before any potential negotiations with the US on trade. We wrote back in December: "Beijing would not be completely closed to discussing a new exchange rate settlement with the U.S. aimed at allowing a moderate appreciation of the yuan, particularly against the currencies of China’s other major trading partners"
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  • Should current tight liquidity conditions persist, the Chinese authorities could opt for alternative tools to support the FX rate, particularly if part of a posturing phase before negotiating with the US on trade.
  • In contrast with the YTD lows printed in the US 10y yield today, the Chinese 10yr yield traded through 1.80% for the first time since mid-December today - while the USD/CNH remains within the January/February range. In tandem, bank lending rates have climbed to sit comfortably above last year's average - even when excluding the pre-new year spike.
  • Most have pinned the run higher in Chinese yields this month on constrained onshore liquidity conditions - a spillover effect from the PBOC's net liquidity drain across February, in part designed to support the currency in the face of tariff pressure (USD/CNH is lower by ~1% this year).
  • The longer liquidity stays tight, the greater the risk to the real economy via constrained bank lending - meaning the authorities could lean more closely on other tools to support the FX rate, particularly if the PBOC are looking to contain markets before any potential negotiations with the US on trade. We wrote back in December: "Beijing would not be completely closed to discussing a new exchange rate settlement with the U.S. aimed at allowing a moderate appreciation of the yuan, particularly against the currencies of China’s other major trading partners"