China on Tuesday carried out the biggest devaluation of the renminbi in two decades to boost its slowing economy, marking an escalation of international “currency wars”, surprising markets and risking a political clash with Washington.
The 1.9 per cent downward move by the central bank was its biggest one-day change since 1993 — and since China abandoned its tight currency peg for a managed float in 2005. It pushed the renminbi’s “daily fix” to Rmb6.2298 against the dollar, compared with a Rmb6.1162 rate the day before. Before Tuesday, the biggest shift this year had been a 0.16 per cent adjustment.
The move, coming as economic growth has flagged and the currency has been under upward pressure from its informal peg to the rising dollar, is in sharp contrast to policy during earlier times of stress when Beijing resisted pressure to devalue. It should help combat an unexpectedly large fall in China’s exports fuelled by the renminbi’s relative strength.
It also came as China is pushing to have the renminbi accepted as a global reserve currency alongside the dollar, yen, euro and sterling by the International Monetary Fund, which this month cited the need for great exchange rate flexibility as a key requirement.
The downward adjustment opened China up to criticism of adopting a competitive devaluation and is likely to complicate President Xi Jinping’s September visit to the US, where politicians have long argued the renminbi is undervalued.
The US Treasury offered a cautious welcome to Beijing’s move. In a statement it noted that “China has indicated that the changes announced today are another step in its move to a more market-determined exchange rate”, something the US has long sought. It also said, however, that it would “continue to monitor how these changes are implemented” and warned that “any reversal in reforms would be a troubling development”.
But in a sign of the potential rancour in Washington, one of Beijing’s leading critics said it showed why the renminbi should not be allowed to become a reserve currency.
“Allowing the renminbi to be declared a reserve currency is akin to putting the fox in charge of the henhouse,” said senior Democratic senator Charles Schumer. “Unless and until China stops artificially devaluing their currency, the renminbi should be barred from consideration as a global reserve currency by the IMF.”
The devaluation caught markets by surprise, hitting commodity prices and mining company shares hard. Broader US and eurozone equity markets fell, led by energy, materials and industrials sectors.
Government bonds attracted haven demand from investors worried that a slowing China economy and lower currency fans disinflation and weaker global growth prospects.
Among commodities, copper, a barometer for global activity, fell 4 per cent to a new six-year low. Brent crude, the benchmark oil price, fell almost 3 per cent, back below $50 a barrel. Commodities giant Glencore fell 7.3 per cent to hit a record low, BHP Billiton dropped 5 per cent and miner Vedanta Resources fell 7.6 per cent in London.
The People’s Bank of China said the move was a one-time adjustment to reflect changes in the way it calculates the daily fix — the rate at which the central bank sets the currency every morning and from which the currency is allowed to move as much as 2 percentage points in either direction.
The PBoC said that in future the quotes reported to it by market makers should be “in conjunction with demand and supply condition in the foreign exchange market and exchange rate movement of the major currencies”.
Market observers said they expected that to leave the PBoC with a large degree of the control it had previously, while allowing it to respond to the IMF’s concerns.
Both the onshore and offshore rates moved sharply in response to the PBoC’s announcement, hitting their weakest points in almost three years. Onshore renminbi, the price that trades around the fix rate, traded at Rmb6.2986 against the dollar, while the offshore rate, which can diverge from onshore but usually tracks it, reached Rmb6.3035.
The Short View
While currency markets were looking for the renminbi to weaken, Tuesday’s move caught traders off guard.
Economists had expected China to boost its economy through other measures, such as cutting the reserves banks must keep with the central bank to boost lending.
“The markets were looking for [reserve] cuts, not this revaluation/depreciation,” said Annette Beacher, chief Asia-Pacific macro strategist at TD Securities. “This was a shock to otherwise sleepy summer markets.”
Data this week showed exports dropped 8.3 per cent in July from the same period last year — far more than the 1.5 per cent that had been expected.