Well it would probably effect the Yen USD, but I think the response by Japan et al will not be as pronounced as you’re thinking.
Yes, but the moves by Japan and Europe were by their central bank, not market forces. So both were manufactured policy moves. What’s the difference?
I think the difference is that people knew going into it that the central banks have a history of pushing here and there on the exchange rate and so previous investment decisions had been analyzed knowing this possibility exists. With China, it’s much more likely that a large number of investors had never seriously considered a large exchange rate change, or had relegated that to the “if that happens, we’ll have much larger problems” bin which in practice seldom gets seriously addressed until times like now, in which case tons of people are addressing them instantaneously.
I really don’t buy that. I’ve been following China pretty closely as it pertains to the commodities sector and at least some level of devaluation is baked into nearly every base case commodity view. I think this has more to do chicken littles mistaking the que as a sign of weak growth.
Right, but enough chicken littles can cause problems, yes?
And then what wasn’t a problem suddenly is, right?
Anyway, I am just shooting from the hip here anyway, but to me, China’s decision to let the peg fall is bigger news than the idea that Western and Japanese banks might intervene in one direction or another. And if it’s bigger news to me, it’s probably even bigger news to a bunch of others.
if the rest of the world is depreciating in response to a falling growth outlook and this results in lower growth/inflation/employment growth in the U.S. which in turn results in lower U.S. interest rate expectations, the dollar will also depreciate (in a sense), helping nullify the effect of Japan et al’s moves to devalue currency. Japan and China are a little different in that Japan is still seen as a sort of Asian currency safe haven but China most certainly is not, so the dynamic between JPY/USD and CNY/USD will be very different for this reason.
BChad, I don’t agree with your assessment that it can cause underlying economic problems because investors throw a 10% hissy fit. We went through this in September with the devaluation and do you remember what the economic and market implication was? I can remind you, it was nothing. Markets rallied over the next three months and those chicken littles lost their money because they panicked and sold.
If you don’t follow the Chinese macro then I don’t think it is odd that this is that surprising to you and I don’t think that speaks to the view of institutional investors. It does just seem you’re shooting from the hip on the explanations here.
Again, I’m not saying China doesn’t have major concerns, I’ve outlined them in the past and don’t need to repeat myself on those. But I am saying this devaluation has been massively blown out of proportion.
i’m siding with BS here. China MUST devalue. everything in the world is telling them to devalue. devaluation should be seen with relief by the broad market. i don’t see Yuan devaluation being the issue here as that is a given. yes, Yuan devaluation is tied to the Chinese economy in a way but not the way a free float currency is. the Yuan probably should have been well over $7 two years ago, if not 4 years ago. if they don’t devalue consistently going forward, they’ll be forced to unpeg, essentially causing an acute Asian currency crisis.
the real issue has always been about the complete and utter insolvency of China’s commodity complex, the rapidly deteriorating credit situation related to commidity sector debt and the likely cascading defaults we will see over the coming years. they need to keep their forex reserves intact for bailing out their banks who’ve made massive loans to now virtually bankrupt commodity sector companies.
Matt, I’ve seen these things linked together before but hadn’t been able to connect the dots. I’ve heard people say that China’s currency weakening is a sign that their nonperforming loans are getting worse or getting away from them. Is the idea that they need to stop using currency reserves to keep the Yuan strong and instead save that to cover these loans?
I admitted that I’m shooting from the hip here, and basing it on a longer history of market behavior than solid knowledge of the the specific fundamentals. I’m also probably looking at it more from an equity (and to a lesser extent a credit) angle than a commodities angle, which may make the situation look different, even if they are interrelated.
I’m in this thread mostly to stimulate conversation and learn from the responses than to force anyone to accept my view. I’ve been out of macro for a bit and now wanting to get back in, so am participating more.
Too add to it, the party has been stating they were going to allow the Yuan to float more freely repeatedly over the past six months and with reserves being burned it should have been clear to even a casual observer that meant a devaluation.
The PBOC is likely managing against a basket of currencies now rather than USD alone. They introducted the CFETS currency index on December 11th. It has 13 different currencies in it. They also said market participants should watch it.
If you index everything to 100 for January 1st 2015, here are the1Y performanaces of different currencies/indexes:
Trade weighted CNY (Westpac): +2.78%
Trade weighted USD (Fed): +9.25%
USD Index (DXY*): +10.59%
CNYUSD: -4.4%.
*I use both trade weighted and DXY because the weights in DXY haven’t been updated in forever (barring the introduction of the Euro).
One can conclude the USD strength is respsonsible for most of the CNY depreciation and not yuan devaluation.
If you want a chart, shoot me a PM.
Also, here is some further commentary on my earlier post: http://www.chinamoney.com.cn/fe/Info/15851090
What’s also interesting is that the CNY has been devaluing against its Westpac TWI benchmark since mid November at a steady rate, but suddenly in the last few days it’s a panic?
as China has a state-controlled economy, major bankruptcies are basically impossible, both because of the employment effects and the negative image that has for the Communist party. if they use all of their forex fighting for a peg, they will have less to fight Yuan depreciation sparked by massive stimulus packages, which will include bailouts of many commodity businesses and banks/lenders with loans tied to these businesses. your forex reserves should be your last resort. if you have to use forex reserves to defend a peg, the market is telling you your currency is priced incorrectly. unless you’re facing some short-term, transient event, which China clearly isn’t as this has been ongoing for 5 years, fighting the market is ridiculous and dangerous.
So Matt, the theory would be that declining economic activity in China is adding pressure for Yuan devaluation. The Chinese government, viewing the Yuan as over-valued, would rather allow devaluation now because they know they can’t hold current levels down the road when stimulus and bailouts will be needed. When that occurs, they’ll need their current reserves to defend the Yuan and hopefully avoid a bigger crisis.
If they were to continue defending the Yuan today, they’d burn through too much in reserves over the coming months and if/when a more serious crisis comes (stimulus/bailouts) their reserve balance would be much lower and their ability to defend the Yuan at that point would be impaired.
Have I got that right?
Yes. That and why would they want to spend their money fighting to appreciate the Yuan to begin with at this stage? It only hurts their exports. Devaluation for them right now is a no brainer.
So then my takeaway is that this isn’t the crisis, this is a first step at fending off a crisis. Should these actions spur a rebound in manufacturing, along with continued strength in the services sector, China may avoid the crisis all together.
MLA, you suggested that commodity sensitive companies are perhaps the weakest area of the Chinese economy, are there additional areas that you’d be concerned or data points that you’re watching?
Do you have bloomberg?
If so, the ECO screen filtered for China gives you a good flow of daily economic releases like factory orders, manufacturing activity, etc.
While the commodity companies (Steel, iron ore, coal) and most manufacturing is the most sensitive you have to remain aware of the bigger picture. Defaults have been occuring and will likely pick up substantially in 2016 in those sectors. I think the magnitude will likely surprise people, but you also have to be aware of the government’s financial system and overall strength as well as keep an eye on the retail space as a controlled economy like this operates as one unit, proping itself up. The most important information out there is the stuff we can’t see, like the debt and financial situations of many of the smaller municipalities and SOE’s. It’s also complex in that their situation is largely dependent on the strength of demand in the US and Europe, so you have to watch those economies very closely as well. Because MFG has been under so much pressure in the west, consumer and retail strength in the US and Europe has become increaseingly important given its role in the demand pull equation.