Currency war risks revived as yuan slides

 Source: CNBC

Five months after China shocked the world by devaluing the yuan, sparking widespread fears of a currency war with its Asian neighbors, investors are finding themselves with a case of deja vu.
As the yuan, also called renminbi, trades at four-month low this week, expectations for further deprecation have been resurrected.
The currency weakened for two consecutive sessions amid lower fixings from the central bank. On Thursday, the People's Bank of China (PBoC) set the official midpoint rate at 6.4236 per dollar, 0.15 percent weaker than the previous fix, prompting the currency to open at its lowest level since


China's central bank lets the yuan spot rate rise or fall a maximum of 2 percent against the dollar relative to the official fixing rate.

"The recent sharp rebound of USD/CNY back above the 6.42 levels last seen after the 11 August surprise devaluation is elevating speculation of a PBoC-managed depreciation of the yuan," said Chang Wei Liang, FX strategist at Mizuho Bank.
Should that materialize, Asian emerging markets could weaken their own currencies in response in order to maintain trade competitiveness, according to some analysts.
"Implications for Asia foreign exchange and more broadly the entire emerging markets (EM) universe are clear - further renminbi depreciation risks a currency war, either directly by policymaker actions or indirectly by investors shorting Asian currencies as a proxy trade. These factors risk destabilizing the EM FX universe," said Jason Daw, Societe Generale's head of Asian FX strategy, in a Thursday note.
Central banks who have recently intervened in markets to prevent their currencies from sliding further, such as Malaysia and Indonesia, could refrain from doing so going forward. In addition to the PBoC, domestic factors could also influence central banks' actions.

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"Overall, Asian central banks are aren't too averse to currency slides. They are heavily dependent on exports so a lower currency isn't always a bad thing. While China's move may not be the sole driver for further weakness, it basically validates their proclivity," said Nizam Idris, Macquarie's head of strategy, fixed income and currencies.
Export-oriented economies like South Korea are typically flagged as the most vulnerable to a weaker renminbi Beijing's August devaluation but at a news conference on Thursday, Bank of Korea governor Lee Ju-yeol dismissed any large impact.
"I don't think the weakness in the yuan will continue for a long time. The negative influence from a weaker yuan will not be big as we have a free trade agreement with China."

However, not everyone buys into the prospect of further renminbi weakness and a renewed currency war. Mizuho believes said markets may have misread the PBoC's intentions, pointing to PBoC deputy governor Yi Gang's statement last week in which he said there no basis for continued yuan depreciation.
But China's economic state and flailing producer price inflation mean the central bank may have little choice.
"Additional depreciation is necessary for balance of payments adjustments, and for the authorities to recapture control over domestic monetary conditions and end the deflation cycle," explained Jeremy Stevens, Asia economist at Standard Bank, in a note.
Data out on Wednesday showed the producer price index slumped 5.9 percent on year, the 45th straight month of contraction.
At any case, rapid weakness isn't likely given the central bank's "intervention fatigue" and its goal to achieve a floating regime, according to Daw, who foresees the yuan at 6.80 per dollar by the end of 2016.
It should be noted however that the PBoC's lower fixings wasn't entirely unexpected-many anticipated Beijing to allow the yuan to depreciate after entry into the International Monetary Fund's reserve currency basket.