The devaluation of the Yuan, near the end

The offshore Yuan closed Monday at a new high of 7.32 against the dollar, the highest since 2008.

This means that from April to now, the Yuan has depreciated by 13% against the dollar in six months.

Of course, compared to the yen, the pound, the euro, the Korean won or whatever, the Yuan is considered a pretty good performing currency, depreciating less than they all did relative to the dollar. In fact, since 2022, with the Federal Reserve taking the lead in setting off a huge wave of interest rate hikes around the world, the currencies of all but a very few countries that have gotten a big bargain from the surge in resource and energy prices (such as Russia, Mexico and Brazil) have depreciated across the board in the face of the dollar.

Some people are very worried that the RMB will continue to depreciate sharply next, which is not really necessary.

Although, from a year ago to six months ago, and even a month ago, I was emphasizing that I was afraid that the RMB needed to be devalued and that the RMB devaluation was not enough.

Renminbi: the appreciation has reached the end

Is there any depreciation pressure on the RMB?

Is the Yuan, this time, “no depreciation of the base”?

Why should the foreign exchange reserve be lowered when the Yuan is depreciating?

However, when the offshore Yuan touched the 7.3 mark, here I would like to remind everyone not to continue to bearish the Yuan, in the short and medium term, the depreciation of the Yuan is close to the end.

The currency is the root of a country’s credit, and the Chinese central bank has been, I think, a role model for other emerging economies in managing the RMB exchange rate.

Let’s put it this way: since China’s exchange rate reform in 2005, and especially since the global financial crisis in 2008, no other country’s currency in the world has been more stable against the dollar than the RMB.

In the last 15 years, the overall exchange rate of the Yuan against the dollar has remained between 6 and 7.3, and never exceeded this range, compared to other countries’ currencies, which are far more volatile than the Yuan.

If you ask, how exactly has the central bank managed the Yuan over the past 15 years to make it so stable?

This has to be interpreted from the name of China’s “managed floating exchange rate” policy.

Managed, that is, you have to have the means to manage, have enough capital. We all know that China has implemented capital controls and export settlement policies, so the central bank has accumulated huge foreign exchange reserves, the world’s largest foreign exchange reserves, there are countless private manufacturing export enterprises to generate foreign exchange, which is the bottom line of China’s “managed”.

As long as the world still recognizes the goods made in China, as long as China’s import and export trade is carried out normally, as long as China does not have a huge trade deficit, as long as China also insists on implementing capital controls, as long as the size of China’s foreign debt does not get out of control, the three words “managed” are not empty words, but a real influence and the ability to intervene.

The four words “floating exchange rate” are also very important, that is to say, the RMB exchange rate is not rigid and fixed, but will be adjusted according to the market situation, under the premise of “managed”, most of the time let the market float freely, and this free float basically follows the logic of the market to fluctuate.

What is market logic?

I’ll show you a chart of data to understand.

Obviously, the movement of the RMB exchange rate has a considerable relationship with the difference in US-China Treasury yields.

The relationship between the difference in Treasury yields and the exchange rate in a country with a stable overall economy and a manageable size of foreign debt is market logic, not only for the Yuan, but also for the euro, the yen and the British pound.

For example, why the yen has been depreciating this year, look at the difference between U.S. and Japanese Treasury yields to understand.

That is to say, the Chinese central bank, in the overall control of the general direction of the RMB exchange rate, let the market to determine the daily exchange rate fluctuations, and then, at some key stages, and appropriate expectations to guide, thus forming the RMB exchange rate.

For example, in 811 2015, the central bank suddenly announced a change in the RMB exchange rate mid-price quotation mechanism without more market whistle blowing, causing the RMB to depreciate by nearly 2% against the USD mid-price on the same day, and the market thus formed a unilateral expectation of RMB depreciation.

At the beginning, RMB depreciation could still basically follow the logic of treasury spread-exchange rate, but from the end of 2016, treasury spread was narrowing all the way, but RMB still depreciated all the way to the end of 2016, which was close to the mark of 7.

In order to reverse the market’s exchange rate depreciation expectations, on the last day of 2016, the central mom took out a large amount of foreign exchange to maintain stability in the offshore market, quickly suppressing the RMB currency value to a level within 7. In addition, a self-regulatory mechanism for the foreign exchange market was set up to strengthen statistical monitoring of cross-border capital flows, and a counter-cyclical factor was introduced to avoid the RMB exchange rate deviating too far in one direction.

By the first quarter of 2018, under the influence of trade frictions between China and the U.S., the RMB once again opened a depreciation route. As this depreciation basically followed the treasury spread-exchange rate model, the central bank entered with less intervention, only restarting the foreign exchange risk reserve and counter-cyclical factor during the most intense phase of depreciation, and stabilizing the exchange rate through relatively market-oriented ways such as issuing central bank notes in Hong Kong and enabling the foreign exchange market self-regulatory mechanism.

Although the RMB broke 7 in the fourth quarter of 2019, because it basically operated under the logical framework of the market, the central bank sat firmly in the market, and the market did not experience significant capital outflows or use foreign exchange reserves to intervene in the market, the RMB exchange rate then began to gradually recover and the market-based strategy ran smoothly.

The global epidemic broke out first in China in 2020, and the RMB plunged in early 2020 and broke 7 again due to concerns about the Chinese economy, but then, with the successful prevention and control of the epidemic in China, production activity resumed first in the world, and while other countries were in the midst of the epidemic, Chinese exports were almost alone, and the RMB continued to appreciate – a process that continued until 2022. -a process that continues until around the Chinese New Year in 2022

Then comes the wave of global currency depreciation that comes with the Fed’s rate hike

Clearly, history since 2015 shows that as long as the RMB exchange rate does not deviate too far from the market logic of treasury spreads, the central bank will largely not intervene down the road, but rather follow the market logic.

The current depreciation of the RMB is due to the fact that US Treasury yields have continued to rise while Chinese Treasury yields have largely maintained, resulting in an increasing spread between US and Chinese Treasuries, which has led to a continued depreciation of the RMB, especially in the last month as US Treasury yields have risen sharply, so the RMB has also depreciated significantly.

In this round of RMB depreciation, the central mom’s attitude is roughly similar to that of the 2018 round, tolerating RMB depreciation, plus the current Chinese overall foreign debt ratio is not high, so the central mom is a bit calm and relaxed in the face of the market this time, not even bothering to remind the market that “there is no depreciation base”.

We might as well assume that the Fed can raise interest rates to 5% and the US 5-year Treasury yield can reach 5%, so in this case, as long as the Chinese Treasury yield is maintained, then the difference between the US and Chinese bond yields is about 2.5%, and accordingly, the exchange rate model speculated above is about 7.6.

As long as there are no major problems in China’s economy in the short term, and as long as the central bank’s “managed floating exchange rate” policy remains unchanged, 7.6 is likely to be the limit of RMB depreciation in this round.

I have already judged that even if the Fed raises interest rates to 5%, the US 5-year Treasury yield is likely to be below 5%, not to mention that there is a possibility that the Fed will simply raise interest rates by less than 5%.

So, the RMB offshore exchange rate came near 7.3, which also roughly means –

The devaluation of the Yuan is nearing the end of the line.


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