Economic Armageddon no reason to be down on Chinese currency
Last year, one of the great hedge fund trades was to borrow yen, lever those yen up to five times and invest in renminbi. Investors made money on the appreciation of the Chinese currency in addition to receiving a higher rate of interest than they could on most other currencies in a world of easy money and zero rates almost anywhere else.
Since February, that happy trade is a thing of the past. The government, citing its desire to end such one-way bets, has shifted course, driving the renminbi down about 3 per cent but still way above its level of a few years ago.
Currencies are always a reflection of both politics and the markets. At the moment, there are plenty of reasons to be down on the renminbi, though economic Armageddon is not among them, in spite of that deeply held belief of some of the more bearish hedge fund crowd.
Interest rates in China are going down, making the comparison with the rest of the world less stark. Property prices are dropping, making investment even in first-tier cities less attractive. The anti-corruption drive, which has emptied the luxury malls, high-end restaurants and upscale hotels in the capital, has led to increased outflows of tens of billions of dollars in bolt-hole money. At the same time, foreign direct investment is slowing.
The macro arguments are also compelling. As Chinese growth slows, it is natural to lower the value of the currency to make exports more competitive. After all, that is exactly what the first (and only really powerful) arrow of Abenomics has been all about, even though it no longer works as effectively as it once did. And indeed, China’s export performance has been a little more perky of late.
True, interest rates have come down. The rate paid on money market funds has gone from more than 6 per cent to less than 5 per cent. But that is still far more than the choices available almost anywhere else. China may be moving away from its earlier tightening stance. But compared with central banks in Europe, Japan and the US, which either deliberately try to drive asset prices up or ignore budding bubbles in asset markets, the People’s Bank of China remains a bastion of responsible monetary policy.
Moreover capital outflows, as Goldman Sachs notes in a recent report, have begun to stabilise. The money that wants to get out of China has mostly already left.
Finally, as the Japanese example shows, currency depreciation is not always a reliable way to stimulate exports. For the mainland, rising labour costs (adopted with the Beijing’s blessing) still far outweigh a small drop in the value of the currency in determining competitiveness. China has long been committed to using a rising renminbi as a means of forcing its companies to move up the value-added chain. That policy is still in place.
Go global campaign
In addition, since China remains dependent on imports of energy and other resources, an appreciating renminbi makes China more competitive in the long run because it lowers the cost of inputs. This year, for the first time ever, Chinese outbound investments will overtake inbound investments, according to a UN report. An appreciating renminbi also helps further the government’s latest go global campaign for enterprises such as Citic.
None of this may be immediately obvious. Nor does Beijing wish it to be so, for a mix once again of political and market reasons. For a start, it has no desire to be seen to be kowtowing to the wishes of the US, especially when these wishes are considered hypocritical given the US wants a cheaper dollar to support its own exports (of everything except the energy and technology China wishes to buy). And Chinese regulators are sincere in their desire for two way trading in the renminbi.
At the Ira Sohn hedge fund conference in Hong Kong in June, one popular recommendation was to hold bearish options in the belief that the renminbi will fall to Rmb7 to the dollar by the end of this year.
But as long as central bankers everywhere else do not care about supporting their currencies, any further fall in the renminbi is likely to prove temporary.
Copyright The Financial Times Limited 2014.