For Xi Jinping’s embattled economy, the yuan’s slide toward 7 to the US dollar couldn’t come at a better time. Or is it a worse time, just as Donald Trump intensifies his trade war?
The pros of the currency’s drop can be summed up with one number: 2.7. That’s how much in percentage terms China’s exports fell in April alone. That news last week dropped two days before US President Trump raised to 25% from 10% tariffs on some US$200 billion of mainland goods. China, in other words, was slowing markedly even before Washington upped the ante.
Iris Pang of ING, for example, warns gross domestic product may soon have a 5-handle. Looking at the downshift in fixed asset investment – to a 6.1% year-over-year pace – and soft industrial production and retail sales trends – sub-6% growth could be on the way.
At the margin, the stimulative effects of a weaker yuan will offer much-needed support.
Yet it also might provoke Trump just as he’s mulling ways to tackle China. On the campaign trail, the populist leader rarely missed a chance to accuse President Xi’s nation of “stealing” jobs and “raping” American living standards.
A currency Trump deems undervalued has been a particular sticking point. In tweets and speeches, Trump accused Xi of “playing the devaluation game.”
All of which makes you wonder how Trump will respond to the yuan at 6.9 to the dollar – and likely blowing past the psychologically-loaded 7 mark.
It’s plenty clear how Trump responds to retaliatory moves. On May 13, Xi announced plans to hike tariffs on $60 billion of US goods. Two days later, Trump’s administration effectively banned Huawei in the US on national security grounds. A coincidence? Doubtful.
Where that leaves China is anyone’s guess. What’s to keep Xi from threatening to bar General Motors, Boeing and Apple from shipping goods to China? Sure, it would be a pyrrhic victory.
The shockwaves a turbocharged tit-for-tat sends through world markets would shoulder-check Shanghai and Shenzhen, too.
The same goes for the “nuclear option” of dumping huge blocks of US Treasuries. Sure, it would ruin Trump’s 2019, pulling the floor out from under Wall Street. The chaos would boomerang back China’s way, though.
Xi’s government would sustain big paper losses on its $1.12 trillion of US government bonds. The surge in yields also would slam US consumers, crimping demand for Chinese goods.
A weaker yuan is its own wildcard. Trump, for example, might interpret it as a show of disrespect – of Xi trolling him. He might counter-punch on Twitter, amplifying his claims that Beijing is “killing us” via exchange rates.
Trump could go much further, getting Treasury Secretary Steven Mnuchin to label China a “currency manipulator” and impose damages.
Trump may see the yuan as a reason to ratchet up pressure on the Federal Reserve. There’s much about Xi’s position that Trump envies. Xi is president for as long as he chooses, exerts strong control over the media, holds military parades whenever he desires and has a pliant central bank at the ready to support growth.
Trump is becoming increasingly vocal about this last dynamic.
Tensions between Trump and Jerome Powell are the worst America has ever seen between a president and a Fed governor. And Trump is now even conflating China and US monetary policy.
“China,” Trump tweeted on May 14, “will be pumping money into their system and probably reducing interest rates, as always, in order to make up for the business they are, and will be, losing. If the Federal Reserve ever did a ‘match,’ it would be game over, we win! In any event, China wants a deal!”
That’s not true, of course. But a rising dollar may have Trump turning the Fed bashing to 11. Powell is likely to stand his ground, generating a confrontation sure to roil world markets.
Japan would step up its own moves to cap the yen. Any additional Bank of Japan easing also risks drawing Trump’s ire.
Xi can tamp things down by drawing a line at the 7-to-the-dollar mark. Any move beyond could cause more even more trade-war trouble, notes Julian Evans-Pritchard of Capital Economics. China, adds Chen Long of Gavekal, also should worry about the message markets might read into a sliding currency.
If Beijing allowed a 3% to 5% depreciation, Long says, “fears would grow that the stuttering Chinese economy was exporting deflation to the rest of world, and global markets – and the US stock market in particular – would likely take fright, just as they did following China’s devaluation in the second half of 2015.”
In April, Xi insisted that China will keep the yuan “within a reasonable range” and avoid any “beggar-thy-neighbor” actions. Let’s hope so. There’s no telling how an easily angered and thin-skinned American president might respond.