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Rally in Dollar Poses New Challenge to China Recovery

Chinese one-hundred yuan banknotes are arranged for a photograph in Hong Kong, China, on Thursday, April 23, 2020. The People's Bank of China (PBOC) has cut short- and medium-term rates recently on top of liquidity injections, loan rollovers and easier regulatory rules. Photographer: Paul Yeung/Bloomberg

China’s already fragile economic recovery from the pandemic is facing a new challenge -- a relentless rally in the U.S. dollar.

The U.S. currency’s surge is helping the yuan record its largest gain in eight months on a trade-weighted basis in September, a Bloomberg replica of the official CFETS RMB Index shows. The gauge that tracks China’s currency versus 24 peers indicates the others weakened more versus the dollar than the tightly-managed yuan.

The yuan’s advance versus peers risks hurting the competitiveness of Chinese goods in global markets, according to HSBC Bank Plc, although demand for exports remains resilient for now. It adds to headwinds for the world’s second-largest economy already slowing due to a resurgence in Covid cases, a power crisis and regulatory curbs.

“Higher dollar index will make the CFETS basket passively stronger and hence hurt China’s export competitiveness, as well as make yuan bonds less attractive from a currency perspective,” said Ju Wang, senior foreign-exchange strategist at HSBC Holdings Plc. “In the end, the dollar-yuan rate will also need to move a bit higher to reflect the global dollar trend.”

CFETS RMB tracker climbs to five-year high as it breaches 100 level

The Bloomberg Dollar Spot Index has extended its rally this week to the highest since November, as yields on U.S. Treasuries punched through key levels across the curve after the Federal Reserve said it may start tapering bond purchases soon. Most Asian currencies tumbled as a result — the Thai baht was the worst monthly performer with a loss of 4.7% followed by the Philippine peso which slid 2.4%.

The yuan, however, has barely moved versus the greenback in both onshore and offshore markets, on expectations that the People’s Bank of China would support the currency in case of a selloff. The need for Beijing to keep the market stable is even more pressing now amid lingering concern over China Evergrande Group’s debt.

READ: Whatever Happens to Evergrande, Nobody Wants to Short the Yuan

The Bloomberg syndicate of the CFETS basket rose in all but six sessions this month and climbed to 100.11 on Friday — the highest level since early 2016. The official index was created by the PBOC in late 2015 after the central bank devalued the currency in a shock move.

The yuan’s resilience versus the dollar may be sustained, keeping the currency elevated against trading partners, said Zhou Hao, an economist at Commerzbank AG.

Some analysts recommend betting against the Chinese currency amid the nation’s narrowing yield spread versus Treasuries and potential central bank policy easing if the Evergrande crisis deepens.

Khoon Goh, head of Asia research at Australia & New Zealand Banking Group Ltd., likened the yuan to “teflon,” and said it could only tank versus the dollar in the event of a major escalation in U.S.-China tensions.

“Unlike past episodes of China-related worries, there are no signs of capital outflows this time,” Goh said, adding that the yuan could gain further versus peers.


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