MNI China Money Week: China At Policy Crossroads In Trade Spat

--Beijing faces choice over whether to downgrade its deleveraging drive

By Stuart Allsopp

     LONDON (MNI) - A combination of verbal U.S. pressure on the PBOC to prevent

further currency weakness and the imposition of tariffs weakening China's

economy and yuan fundamentals is putting Beijing in a tough spot, with its

options looking increasingly binary at this stage.

     One path is to continue along the road of monetary accommodation and

associated currency weakness, kick the can of deleveraging further down the

road, and watch trade relations with its biggest export market deteriorate

further. Alternatively, China could adopt more prudent monetary and fiscal

policy aimed at encouraging deleveraging and supporting the yuan by preventing a

further widening of China-U.S. interest rate expectations, as well as adopting

measures to open up the economy to U.S. investment in order to assuage

Washington's concerns over trade imbalances. 

     The dilemma comes as President Donald Trump in an interview on Monday

accused China of manipulating its currency to make up for having to pay tariffs

imposed by Washington. Just yesterday, trade talks between the U.S. and China

failed to end with any agreement or even a future date for further talks. The

U.S. also added to its growing list of Chinese import tariffs, which was met by

a swift tit-for-tat response by Beijing.

     --VICIOUS SPIRAL

     Further monetary easing could create a vicious spiral which could even

threaten to create systemic financial risks. This was a view outlined in

Thursday's Securities Times, which noted that depreciating the yuan to increase

exports is not a smart choice.

     In contrast, the more conciliatory policy approach would likely result in

yuan and equity strength as investors would view the moves as supporting the

long-term economic outlook at the expense of short-term headline growth and

political posturing.

     Financial market trends may not only respond to the path chosen by Beijing

but may even help determine which path is taken in the first place. A

significant rally in the yuan and Chinese stocks, for instance, could improve

trade relations with the U.S. and give Chinese policymakers the confidence to

engage in more prudent external and domestic policies. In contrast, a

significant drop in the yuan and equities could prompt them to favour short term

external and domestic policy goals. Such a scenario would potentially lead to a

renewed rout in Chinese assets.

--MNI London Bureau; +44208-865-3829; email: Jason.Webb@marketnews.com

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