MNI: Yuan Weakness Seen Resuming As Exports Slow Amid Outflows

A recent yuan rally looks set to reverse as export headwinds mount and amid signs the People’s Bank of China has reduced to use its so-called “counter-cyclical factor” in daily fixings, policy advisors and currency experts told MNI, anticipating a more volatile and broader trading range during the rest of the year.

A narrower gap between the PBOC’s fixing price and market estimates indicates the central bank has stepped back from supporting the currency, which saw its biggest one-day gain in 18 years on Nov 4 on hopes for the easing to the government’s Zero Covid policy, a Forex trader told MNI. But the yuan remains at risk from further capital outflows, slowing exports and sluggish domestic demand suppressed by ongoing pandemic outbreak and curbs, the advisors said.

The yuan, currently at 7.25 to the greenback, is set to swing between 7.0 and 7.5 over the rest of 2022 while the dollar index moves from 110 today within a range between 107 to 117. said Zhang Ming, deputy head of the Institutes of Finance and Banking at the Chinese Academy of Social Science. China will continue to suffer capital outflows as local monetary policy remains accommodative in an appropriate stance necessary to boost growth during the remainder of 2022 while the Federal Reserve tightens, though the PBOC has ample policy tools to prevent any sharp depreciation, Zhang said.

WEAKER DEMAND

China’s trade surplus is likely to expand at a slower pace in comparison to the last two years as external demand cools, said Wang Jinbin, economics professor at Renmin University, agreeing that the wide interest rate differential with the U.S. will continue to pressure the yuan.

Exports contracted by 0.3% year-on-year in October, on lower orders from the U.S. and Europe. As demand and prices fall, exports will contribute less to growth, market experts said.

ZERO COVID

While speculation of a relaxation of China’s strict pandemic controls has lifted the yuan, there are now renewed outbreaks all over the country including several big cities like Beijing and Guangzhou, which China Merchants Bank analyst Ding Muqiao said could pose a threat to both exports and imports. Former Bank of China vice-chairman Wang Yongli agreed, predicting more yuan weakness should pandemic controls restrain growth and employment and complicate property market recovery. (See MNI INTERVIEW: China Must Lift Growth To Curb Capital Outflow)

While the yuan should eventually find support as Fed tightening slows and China overtakes U.S. growth rates, it will be weighed upon both by the continuing pandemic and as China-U.S. relations move back into focus after U.S. midterm elections, trading in a wide band, Ding said.

Economic growth is more important for yuan performance than interest rate spreads, because the funding demand and investment plans by companies, particularly importers and exporters, will determine the direction of capital flows, said Zhang Bin, director at Institute of World Economic and Policies at the CASS. Improved economic fundamentals will decide the turning point for the yuan, he said, adding that the PBOC should further cut policy rates while government increases fiscal spending.