Yuan’s drop against US dollar surprises analysts

‘NEVER HAPPENED BEFORE’: Although the greenback has strengthened on a global scale, this may only be part of the explanation of why the yuan has weakened

AFP, SHANGHAI
Monday, Aug 11, 2008, Page 10

At a time when the world’s top athletes are striving to set records at the Beijing Olympics, the yuan has unexpectedly put on hold its steady move towards new highs.

Over the past nine trading days, the yuan has declined against the US dollar six times, throwing into doubt the conventional wisdom that its strengthening was the inevitable result of China’s rise as an economic world power.

“The current noticeable weakening in the yuan has never happened before,” said Liu Dongliang, a Shenzhen-based foreign exchange analyst with China Merchants Bank (中國招商銀行).

“Previously, when the dollar rebounded, the yuan would either move sideways or appreciate more slowly,” he said.

As a result, the yuan has declined nearly 0.7 percent against the US dollar from a closing peak of 6.8113 on July 16, ending at 6.8588 on Friday.

The markets appear to be betting that this is more than a short-term phenomenon.

Non-deliverable forwards, which reflect expectations for future movements in the exchange rate, show a decidedly less bullish mood on the yuan.

In March, non-deliverable forwards still implied a forecast of an 11.5 percent rise of the yuan against the dollar, but that figure has fallen to 3.4 percent, said Capital Economics, a London-based consultancy.

Although the dollar has strengthened on a global scale, this may only be part of the explanation of why the yuan has weakened.

Subtle changes in the economic conditions facing China may be the real reason, economists said.

“We attribute it to the shift in domestic policy — the central bank has adjusted its policy for a slower speed in appreciation,” Liu said.

A central bank statement last month said it would “use various monetary policy tools to create good conditions for stable, relatively fast growth,” while mentioning in passing that “upward pressure on prices is clear.”

This was a change from the first-quarter report in which the central bank had placed its priorities squarely on fighting inflation.

China’s economy expanded by 10.4 percent in the first half and 10.1 percent in the second quarter, the National Bureau of Statistics said earlier this month, down from 11.9 percent last year.

Growth in the consumer price index peaked at 8.7 percent in February — nearly a 12-year high — but softened to a more manageable 7.1 percent in June.

This removed some of the rationale for strengthening of the yuan, which had been to ease inflation by lowering the prices of imports.

At the same time, a slowdown in the rise of the yuan might comfort the export sector, which is suffering.

“We do not believe the Chinese authorities will defy the law of gravity to engineer a sustained renminbi depreciation despite persistent forex inflow,” Morgan Stanley economist Wang Qing (王慶) said in a research note.

But “it is likely that the central bank may fine-tune its intervention policy to effect a slower appreciation in the short run,” Wang said.

However, amid the slowing appreciation, some economists see this as a minor bump on the road to new heights for the currency.

“The economy is still in good shape, with consumption spending and export growth both much stronger than almost anyone expected a few months ago,” Capital Economics analyst Mark Williams said in a research note.
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