China’s government-influenced currency is collapsing – and it’s about to take a somewhat sensitive step against the dollar.
Why is this important: The decline in the value of the currency, officially known as the renminbi but often referred to as the yuan or CNY, is symptomatic of the deep problems facing the world’s second-largest economy.
The big picture: Chinese policymakers who influence the currency have in the past drawn a line in the sand around the 7 to the dollar level and seemed reluctant to let it break above that price.
- The yuan has weakened up to 10% against the dollar over the past six months and was hovering around 6.96 to the US dollar on Thursday (although it strengthened a little on Friday to around 6.92) .
How it works: Unlike the US dollar, which floats freely in the market without day-to-day government intervention, China’s exchange rate is determined by a “managed float” system.
- Essentially, the government sets an official price each day, and market prices are allowed to fluctuate 2% above and below the government figure.
- If the government does not want the price to cross a certain level, it gradually moves the official price away from that figure. The last time the yuan broke through the 7 to the dollar mark was at the height of the trade war in 2019.
- At the time, the move was seen as a signal from Beijing that it would take strong action to counter the impact of the Trump administration’s tariffs – because a weaker Chinese currency makes Chinese exports cheaper for American buyers.
What they say : Currency analysts expect the yuan to rise above 7 to the dollar soon and say it’s a sign that Chinese policymakers are growing increasingly worried about the malaise in their economy.
- “A breakout of 7 is now the base case for the CNY given the sustained cyclical downturns,” JP Morgan analysts wrote in a note Thursday.
- “We remain bearish on the CNY and expect 7.00 year-end as China needs to ease financial conditions,” Bank of America analysts wrote last week.
- Translation: We think China will let its currency weaken further as its economy is in a real mess.
State of play: The Chinese Communist Party’s state-run economic system faces some of the toughest struggles it has ever seen.
Between the lines: A weaker currency essentially allows China to take advantage of this export strength since the United States is its largest export market.
- Yes, but: Chinese officials won’t want the currency to fall too quickly, as this could potentially scare off investors and spur efforts to get capital out of the country (something the country’s capital controls are trying to prevent).
What we are looking at: How China’s leaders are discussing the country’s economic challenges at its Party Congress next month.