On June 25 (Monday), the exchange rate of the RMB against the USD continued its previous decline. As of 11:07 am on the 25th, the decline of the exchange rate of onshore RMB against the USD continued, falling nearly 400 points to 6.5337 comparing with the official closing price of the previous trading day. Offshore RMB fell below the 6.54 mark against the USD, and fell more than 300 points in the day, hitting a new low since January 10. The offshore RMB has fallen against the USD for eight consecutive days, the longest losing streak since 2016, and the RMB has depreciated against the USD by more than 1%.
So far, the trend of the devaluation of RMB has once again taken shape, and it has attracted the attention of the official authorities. Financial News, the official newspaper of the Chinese central bank issued a statement mentioning that the continuous strength of the USD is the main reason for the depreciation of the RMB; it also claimed that the economic fundamentals of China still form an effective support for the exchange rate; currently the supply-demand and expectations of the foreign exchange market are basically stable, and the RMB exchange rate will not fluctuate significantly. However, since the actual trend of the RMB exchange rate is inconsistent with the official media statement, the market tends to interpret this reversely, believing that it is precisely due to market problems that the official media released statement like this. According to the latest Citibank analysis report, due to rising trade risks and disappointing economic statistics in China, the global environment still requires cautious attitudes toward emerging markets. Citibank has adjusted its tactical and emerging market bond portfolio to reflect these disadvantages, establishing long position in USD/offshore RMB.
The depreciation of the RMB exchange rate and its seriousness have not surprised us. In fact, since April this year, Anbound's research team has repeatedly warned about the trend of RMB depreciation and such trend will put pressure on China's financial opening-up policy. Anbound has also stated in multiple occasions that for the financial decision-making department, they should be wary of the worst-case scenario of "RMB depreciation + capital outflow + foreign exchange reserve reduction". China has experienced such a scenario in 2015; its impacts on the Chinese market are still remembered by the regulatory authorities, business community and common people.
What is worrying is not the depreciation trend of RMB, but the confusing views on the exchange rate issue in China. If some misjudgments affect the decision-making authorities, it is likely to cause decision-making mistakes.
Currently, some views on the RMB exchange rate issue in China that could be problematic. First, "RMB has good fundamental support". This view believes that although the USD is depreciating, the RMB exchange rate against the CFETS basket has continued to appreciate. When emerging market currencies depreciate, the RMB can even act as a safe haven. Second, "RMB exchange rate is now in a stable range". This view states that China should let the market to decide the RMB exchange rate; it does not matter if it is moderately depreciated. Third, "China's current policy focus should be protecting foreign exchange reserves" and it is necessary to limit capital flight strictly. It should not only protect the RMB exchange rate, but also allow the RMB exchange rate to depreciate. The fourth is to look at the RMB exchange rate from a trade perspective. It is believed in the current trade war, the depreciation of the RMB is conducive to China's exports.
Anbound's researchers believe that there are misjudgments in varying degrees in these views, and they all seriously underestimate the significant impact of the continuous devaluation of RMB. If decisions are made based on these views, the RMB exchange rate policy will undoubtedly see major deviation, resulting in an out of focus policy. Regarding the RMB exchange rate issue, Anbound's chief researcher Chan Kung clearly sees that the exchange rate should be the main focus. China faces many development issues, but among these intertwined and complicated issues, the exchange rate is the main one. So long as the exchange rate is stabilized or formed into an acceptable state, China will be in better conditions to resolve other issues.
Why should the exchange rate be the main focus? The reason is not complicated. We will only need to look at the impact of the sharp depreciation of RMB and we will see the seriousness of the issue.
First of all, the internal and external environment faced by RMB is not easy, but rather it is somewhat difficult. Internally, the downward pressure on the economy continued to increase; economic statistics showed a downward trend in the economy in May. Externally, the global trade environment has deteriorated significantly. China is the main target of the U.S. trade war. The deterioration of the economic fundamentals and the external environment is not a partial adjustment to RMB, but an overall systemic pressure. This means that once the RMB begins to depreciate, it is likely to be a continuous and substantial depreciation process.
Second, if the RMB exchange rate falls sharply, it may trigger chain reactions. Anbound has previously analyzed that China needs to be wary of the devaluation of RMB that would trigger massive outflow of capital, resulting in a bad combination of "RMB depreciation + capital outflow + sharp reduction of foreign exchange reserves". This situation is likely to trigger systemic risk. The depreciation of RMB and the outflow of capital will put pressure on China's stock and property market, as well as other large assets. This means that all assets denominated in RMB might shrink sharply.
Third, the depreciation of RMB will pose challenges to China's financial opening-up policy. It should be objectively acknowledged that the recovery and stability of the RMB exchange rate over the past year or so, in addition to the economic fundamentals and the depreciation of the USD, have a lot to do with China's policy adjustments. China has tightened control over capital projects and reduced capital outflows. However, this has also caused market criticism and is contrary to policies such as the internationalization of RMB and the opening-up of the financial market. On June 12 this year, the Chinese State Administration of Foreign Exchange (SAFE) has just commenced a "more thorough reform," and "in the future, in addition to the macro-prudential management of quotas, no restrictions will be imposed on the remittance of funds". This happens to be time of the devaluation of RMB; the implementation of the opening-up policy will face serious challenges, there is even the possibility of re-implementing capital control. However, what needs to be emphasized is that China must be extremely cautious about re-implementing capital control. For many years, China's reform and opening-up has to maintain the "outwardness". If capital control really happens, the years of hard-work for "outwardness" will be wasted. From the history of reforms and opening up, this would bring more losses than gains. In addition, once capital control is implemented, the potential impact on the Belt and Road Initiative cannot be underestimated.
Final Analysis Conclusion:
As the current domestic and international markets are in turmoil, China's macroeconomic policy should be based on maintaining stability as its core goal, and the RMB exchange rate should be as stable as possible. Facing the complicated situation in which many problems are intertwined, it is therefore vital to stabilize the exchange rate.
