Tags: china | yuan | deflation | commodities

Chinese Devaluation Drama Isn't Over Yet

Chinese Devaluation Drama Isn't Over Yet
(AP photo)

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Friday, 14 August 2015 08:11 AM Current | Bio | Archive

The People’s Bank of China set the official (reference) exchange rate of the yuan against the dollar at 6.3975, which is practically unchanged (-0.05 percent!) from Thursday’s 6.4010 fixing and up 3.1 percent since Monday when it was fixed at 6.2097.

The “offshore” yuan (CNH) as quoted in Hong Kong and which is not subject to the restriction of the 2 percent trading band that applies to the CNY is at present priced around 6.40 per dollar.

Moody’s stated the Chinese shift in the mechanism for determining the daily fixing rate of the renminbi/yuan against the dollar is credit positive because it will increase currency flexibility and support steps to liberalize China’s capital account.

It also said there could be further downward pressure on the exchange rate, but it doesn’t expect a sharp depreciation of the yuan in the foreseeable future.

Interestingly, Moody’s concludes its report by saying for restoring sustained growth of China’s exports it will rather need a more robust recovery in demand from the developed market economies than currency depreciation.

The question remains where is that robust growth going to come from? Eurostat informed the seasonally adjusted GDP for the eurozone came in at 0.3 percent, down from 0.4% in Q1.

From its side, Goldman Sachs said: “China's yuan devaluation signals that global economic conditions have taken a turn for the worse, creating more downward pressure to come for commodity markets.”

By devaluing its currency, China has now joined the negative feedback loop between commodity “deflation,” growth and delivering trends.

Complementary to Goldman’s opinion, the Australia and New Zealand Bank (ANZ) said from its side about the oil price: “The lowest crude prices in six years might not be enough to put the brakes on the U.S. supply growth. U.S. shale players are actively cutting cost and some players are profitable at less than $30 per barrel.”

In the meantime, and certainly not only because China has started lowering its CNY exchange rate (No, I don’t believe it’s a one-off move!), but nevertheless important enough for taking notice of, we saw on Thursday, U.S. oil hitting a more than 6-year low.

U.S. September futures for crude oil traded in the $42 per barrel zone while Europe Brent crude oil was below the $50 level. I personally still believe there is a serious possibility we’ll go well below the $40 dollar mark for WTI crude oil.

To put all this in global context, the “investable benchmark” Bloomberg Commodity Index hit its lowest level since 2002 and was down by 61 percent from the high it made in June of 2008.

In my opinion, long-term investors shouldn't take the Chinese devaluation lightly.

You can argue whether the People’s Bank of China (PBoC) is trying to gain competitive advantage for Chinese exports by devaluing the CNY, or it’s all nothing more than taking the necessary steps towards what’s called a more “market-determined” exchange rate against the dollar which is an absolute requisite for becoming a Special Drawing Right currency of the IMF. I think this is a completely irrelevant debate because the real story lies much deeper.

Please keep in mind that even during the height of the pre-Lehman Brothers debacle dollar-index tumble, which touched the bottom in April 2008 at 71.37, there was never a 3.1 percent downward move over a 3-day time span.

There is no doubt this has been a ferocious downward move of the CNY, which doesn’t bode well for what could come.

As of today, we can see where the ripple effects of China’s devaluation (first phase?), intentionally or not, by exporting its deflationary pressures (look at the PPI that is negative since Q2 of 2012)  really have started to show up. The regional, but also the global, stock markets and currencies took a strong hit.

Also the U.S. Treasury market has been distorted as Treasuries became once again flight to safety havens and, maybe more tellingly, on Thursday, the simple perception of possible incoming dis-inflationary forces spooked the 2-year German Bunds, which yields reached negative -28 basis points (-0.28 percent!), which was only a few basis points above the historic lows we have seen in April this year.

There are already some signs emerging the PBoC might have become somewhat worried about the volatility the CNY devaluation has unleashed as it has ordered State banks to buy CNY at pre-established rates on behalf of the Chinese authorities, and all that in the same week.

The Chinese devaluation story isn’t over yet. Be prepared for further deflationary pressures on commodities.

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HansParisis
By devaluing its currency, China has now joined the negative feedback loop between commodity “deflation,” growth and delivering trends.
china, yuan, deflation, commodities
755
2015-11-14
Friday, 14 August 2015 08:11 AM
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