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OFFON

Romain
Fournier

Journalist
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Yuan: What do Beijing and Washington want?

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02/28/2019 | 10:56am EDT

The dispute between the US and China is easing after the latest round of talks. Donald Trump has delayed the March 2 tariff increase due to “substantial progress”. However, there is one important issue that still needs to be resolved and has just been mentioned by Trump: China’s exchange rate policy. This difficult topic has mostly been left out of talks...Until now.

While the value of most currencies is set by the market, it is not the case for China’s currency, the renminbi (RMB) or yuan. Instead, it is China’s central bank that sets it, by directly intervening on markets to maintain the exchange rate artificially weak. The goal is to make Chinese exports cheaper, while makig imports more expensive. This has of course contributed to increase the trade deficit between the two countries.
 

Donald Trump has asked China to stabilize the value of the renminbi. This would be a first step towards a free-floating currency. The US and China are alledgedly trying to include a commitment to stability in the renminbi into a Memorandum of Understanding (MoU) on trade relations.

However, financial giant ING doubts that the People's Bank of China would be “backed into a corner” by committing to keep the trade-weighted CFETS Renminbi index stable. In a report, it notes that it would be difficult to establish what the fair value of the renminbi is the IMF’s annual report suggested the renminbi in real terms was anywhere between 13% undervalued and 7% overvalued.

ING also gives an interesting insight into what it believes Beijing and Washington really want. It suggests that the PBOC “would like to have a currency policy that looks like a floating exchange rate. The central bank is trying to fulfil this ambition by allowing the USD/CNY to follow the dollar index in general.”

As for the US Treasury, it suspects that a stable yuan “means a stable USD/CNY – or at least a USD/CNY bilateral rate that doesn’t trade substantially higher. Certainly, the core objective of Washington is to shrink the US$400bn+ bilateral goods deficit with China, suggesting the US Treasury will have more interest in the bilateral rate than any CNY trade-weighted index.“

Romain Fournier
© MarketScreener.com 2019
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