Political choices about value of renminbi tempered by consequences for growth
Delphine Strauss in London
China let the renminbi weaken to under Rmb7 to the dollar on Monday, shaking markets around the world © EPA
Beijing’s decision to let the renminbi fall below the symbolic level of 7 to the dollar was a political choice — but it would not be in China’s economic interests to “weaponise” its currency, economists say.
Monday’s move to increase the renminbi’s trading band came as a retaliation against the latest US threat of fresh tariffs. And although China’s central bank took steps to stabilise the currency on Tuesday, investors worry that the authorities could seek to put pressure on Washington by allowing a bigger devaluation.
While political calculations might dictate that decision, concerns over the impact on China’s economy could act as a restraint, according to economists.
“I don’t see any upside for China,” said George Magnus, an associate at Oxford university’s China Centre.
A depreciation would boost trade at the margin, he said, but stability in the currency was far more important to Chinese policymakers, whose main concerns are to contain capital flight, avoid a domestic debt crisis and pursue a rebalancing of the economy from exports to consumption.
Using the exchange rate as a tool “is a double-edged sword, potentially hurting both the US and China”, said Alan Ruskin, a strategist at Deutsche Bank.
Has China been manipulating its currency?
No. The renminbi lost about 10 per cent of its value against the dollar last year, as the first rounds of US tariffs took effect. But given the scale of the penalties the US has imposed, a bigger adjustment could have been expected.
The IMF said last month that the exchange rate was in line with economic fundamentals and economists dismissed the idea that China had intervened to drive the currency below its fair value, saying that if anything, Beijing had recently been keeping the renminbi artificially high.
Would a much weaker renminbi boost the economy?
It would help Chinese exporters compete overseas, and it might prop up growth to an extent.
Bo Zhuang, at the consultancy TS Lombard, said a worsening economic outlook had made the Chinese leadership more open to a market-driven depreciation; and Jian Chang, an economist at Barclays, said policymakers might consider it as an alternative to cutting interest rates as a tool to stabilise growth.
Mr Magnus said a much larger, sustained devaluation — in the order of a 20 per cent fall against the dollar since the outset of the trade war — would “bestow some competitive advantage”, although it could also spark tit-for-tat action in the region.
But a weaker exchange rate does not make as much difference to trade patterns as it did in the past.
Global supply chains mean exporters’ gains are offset by the higher price they pay for imported components. The widespread use of the dollar in global trade invoicing may also limit the gains, at least initially.
The IMF argued in its latest external sector report that when a country’s currency weakened, there would often be a rapid hit to imports, but only a tepid boost to exports at first — because other trading partners also saw their currencies fall against the dollar.
“Exchange rate changes have muted effects on the trade balance in the short-term,” the IMF concluded.
“Currency movements may not be passed through to final prices and may well be more than offset by higher tariffs . . . at least for exports to the United States,” said Stephanie Segal at the Center for Strategic and International Studies.
Economists at Morgan Stanley said that if Chinese policymakers wanted to do more to support growth the most likely response would be a fiscal stimulus, focused on infrastructure projects.
What are the downsides for China?
One risk of a renminbi devaluation is that it could trigger defaults on domestic dollar-denominated debt, especially in the property sector.
Analysts at the consultancy Pantheon Macroeconomics noted that while these debts were not a high proportion of total Chinese debt, they were “non-negligible and will put the screws on developers”. However the government has already taken action to rein in excesses in the real estate sector, where bankruptcies have risen recently.
A bigger concern is capital flight. When the renminbi last came under sustained pressure in 2016 net capital outflows over the year reached $725bn, and although China held foreign exchange reserves of more than $3tn, it depleted them at an alarming rate to stem the tide.
“The danger now, for China, the United States, and the rest of the world, is that market forces overwhelm the official sector’s ability to respond,” Ms Segal said.
However, Bo Zhuang argued, outflows would be more manageable now, because of China’s tighter capital controls, less “panicky” households and companies, and a lower level of speculative pressure from markets.
The main problem is that a weaker renminbi would hurt Chinese consumers — who would pay higher prices for imported goods — more than it could help exporters.
The UK’s experience since the EU referendum in 2016 helps to illustrate this: the resulting fall in the pound drove up inflation, leading to a two-year squeeze on living standards, but made very little difference to the volume of exports.
The recent thrust of Chinese policy had been to move away from export-led growth and orient the economy towards consumption, Mr Magnus noted, adding: “If you make imports more expensive, you’re frustrating that process.”
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