Last week, the Chinese currency (yuan) depreciated all of a sudden against the U.S. dollar, following a range of trading at a stable level for two months. There is, of course, a background reason for this, given that many central banks have shown a dovish stance after regular meetings over the past week or so. However, such an abrupt magnitude of depreciation should never be driven by the market but by the government: on paper, the fixing rate is decided by banks, but in effect, these submitted rates are under strict window guidance.
My conjecture for such depreciation is an initial response to the potential tariff threat on the electric car market by the Western allies. To many Americans and Europeans, a car is a pair of legs that one can go nowhere without it. This is a huge market, whether in terms of revenue or quantity. Apart from the suspected dumping and, hence, market manipulation, the potential job losses of the industry in America are another concern. In light of this, anti-dumping actions are almost sure to follow, yet China cannot do much similarly in response. Thus, depreciation becomes the remaining weapon.
However, depreciation has pros to some but has cons to others. This stimulates exports but jeopardizes debtors, particularly those who have outstanding foreign currency debts. Although by now, China’s default has become so common that the Chinese government never regards this as anything serious, this will make debt rollover much more costly, if not impossible. Especially when Chinese senior government officials are meeting the CEOs of U.S. giant techs these days, the depreciation weapon might just be tapped on slightly as a threatening signal.
Although the invoicing currency of foreign trade can be made in yuan, these countries are reluctant to hold too much of it given the long-term depreciation expectations. Therefore, we often hear news about fire sales of yuan from time to time. Because such selling pressure is led by the depreciation move of the Chinese government, whether a vicious cycle will happen depends on whether the Chinese government intends to depreciate its currency persistently. Accordingly, whether the depreciation is one-off or gradual is a signal.
Thus, the Chinese government has sharper depreciations occasionally rather than on a prolonged gradual depreciation as last year. They still tend to depreciate but will avoid creating expectations. In the meantime, they can label this as a response to the Western trade war.
