Smart investors shouldn’t ignore what’s happening to China’s yuan. Several state-owned banks have been stepping into support China’s currency by selling dollars, and it now may be reaching a fever pitch.
Yuan stabilization is key to China’s economic growth and expanding global footprint. A move from an export-led to a consumption-driven economy necessitates a stable yuan. I’d argue China would prefer a stronger currency all things considered to help consumers with their own purchasing power and encourage more domestic spending – something that’s been lacking in the country since the Covid-19 lockdowns ended. But it’s more than just that. If China wants to be perceived as an economic powerhouse, a stable yuan is key to its acceptance as a U.S. dollar alternative.
How does China stabilize the yuan when it keeps weakening? There are a few methods.
How China Will Try to Stabilize the Yuan
The primary means is to use foreign exchange reserves and interest rate adjustments to manage yuan valuations. This is a bit challenging because China is in a period of significant economic malaise, which means the People’s Bank of China would prefer not to raise rates. But make no mistake about it — the central bank is active in establishing a daily benchmark against a basket of currencies to guide the yuan’s value.
The PBOC’s interventions go beyond direct market actions. Indirect methods, such as instructing state banks to buy yuan and sell U.S. dollars (which appears to be happening now), play a crucial role. These operations often utilize swaps, allowing for intervention without immediately impacting the reported net foreign asset position. This nuanced approach underscores the PBOC’s commitment to a stable yet responsive currency policy, balancing domestic economic goals with the yuan’s position in the global market.
China’s strategic manipulation of the yuan has far-reaching implications, both economically and geopolitically.
As the world’s second-largest economy, China’s currency policies do not exist in a vacuum. They influence global trade balances, potentially fostering imbalances that can lead to economic friction, and ultimately crisis. The U.S., for example, is affected by China’s purchases of Treasury securities. What China does to the yuan has impacts on our own bond markets here at home.
The Bottom Line
What’s the bottom line here? The meticulous management of the yuan’s stability is not just an isolated financial effort but a pivotal component of China’s broader ambitions to enhance its global influence and advance its economic development. The significance of China actively intervening to manage the yuan extends beyond the borders of China, influencing international trade dynamics, and, ultimately, the global economy.
The U.S. dollar has gotten too strong for their liking, and between their steps to support the yuan and a potential yen crisis from Japan sparking a reverse carry trade, it would be wise to not get complacent. Currency movement can have enormous repercussions on margin and global volatility, and for all we know, we may have started a currency crisis that begins with Asia and ends with the U.S.
On the date of publication, Michael Gayed did not hold (either directly or indirectly) any positions in the securities mentioned in this article. The opinions expressed in this article are those of the writer, subject to the InvestorPlace.com Publishing Guidelines.
