China yuan devaluation: Let he who hasn’t sinned …
Today’s 2% devaluation of the Chinese yuan is bound to cause multiple conniptions around the world, not the least across the political establishments in Europe and the US where the subject of China’s “unfair” advantages never cease to find willing commentators and gullible audiences.
To recap the news, the People’s Bank of China which administers the exchange rate within a tight 2% trading band on a daily basis, today moved the CNY to the bottom of the band effectively signalling devaluation; there had been some musings about China’s surprise decline in exports (numbers for July came out at the end of last week), which may have led to a pre-emptive strike in the currency markets to help boost the relative pricing especially against industrial companies in Europe where the decline of the euro against the US dollar since the beginning of this year has allowed some breathing room for otherwise beleaguered manufacturers to tap the export markets.
The 2% devaluation is likely to attract comment on the following fronts:
- Overall China continues to retain a manufacturing edge on most products, and hence doesn’t need a 2% change in prices to effect any buyer shifts
- The government should be focusing on the consumption sector (which benefits from a stronger currency) and away from the industrial sector if it wants to rebalance the economy
- The move is likely to cause competing devaluations across Asia (this has already happened at least partially with most major Asian currencies declining against the US dollar today) and elsewhere
It misses though a bunch of key initiatives from the PBOC perspective:
- Real interest rates (nominal interest rates less inflation) in China are among the highest in the world, and have constrained consumption. Importing some inflation through devaluation isn’t a bad idea for reducing real interest rates thereby boosting the economy
- The country’s fragile recovery has an impact on markets far and wide. Any measure to stabilize growth in China can only be positive for a range of economies across the world from Australia to Brazil
- Chinese companies are major investors into the rest of Asia now, therefore a 2% devaluation isn’t going to change the trend of setting up new factories around the region
The move has many other important benefits for global markets, as mentioned below.
- Volatility was expected to rise in bond markets as interest rates may be pushed up, albeit temporarily, by the US Federal Reserve. The Chinese devaluation creates a competitive exporter who will almost inevitably re-circulate all surpluses into global government bonds
- By showing a clear focus on growth, the devaluation in addition to the various efforts aimed at easing the path to credit expansion within China, put the PBOC firmly in the camp of market stabilizers. This is counter to and even stands in sharp contrast to the US Federal Reserve’s premature move to raise interest rates, and the European Central Bank’s reckless adventures in the local government bond markets
- By devaluing, the Chinese essentially give breathing room for other countries like India to weaken monetary policy; these are countries where otherwise the debate had centred around inflation concerns only – the move by the Chinese essentially gives them headroom on this front
In theory though…
There are bound to be critics of the Chinese move today; primarily from economic commentators and politicians. There is of course the whole “pot calling kettle black” story which is what happens when European and US politicians start protesting about Chinese government “intervention in free markets.” That sort of statement is of course very rich when it comes from countries where there hasn’t been anything like a “free market” for a while now. Remember:
- Loose monetary policy post the 2008 financial crisis across major economies such as the US and Japan
- QE 1, QE2 … all the quantitative easing done by the US Federal Reserve over and beyond the dictates of mere monetary policy
- The “whatever it takes” mantra of the European Central Bank (ECB) which pushed it to buy dodgy government bonds all over Europe as it tried to keep a lid on borrowing costs; but this pushed the currency sharply lower due to the flood of new liquidity
- Easing efforts by other countries including Australia that sent their currencies sharply lower, accentuating the decline caused by weakening fundamentalsThis list really could go on for a bit longer if all the other policy makers are to be arraigned; but suffice to say that there aren’t a lot of folks smelling quite of roses amongst the world’s central banks.If anyone can point to a central banker (still employed) who hasn’t employed devious tactics to weaken their currency or shore up their banks or float the local economy on a tide of easy money; then sure – let that person step forward and take a shot at what the PBOC did today. Everyone else perhaps needs to keep the peace.
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