Who’s afraid of a falling yuan?
Summary
The last thing the world needs is a trade war over China’s currency.Now it’s the turn of the Chinese yuan. An important economic development of late has been the depreciation of Asian currencies relative to the dollar. China’s currency is in the spotlight again amid new speculation over whether Beijing is implementing a competitive devaluation of some sort, or will do so—and whether this will become the excuse for a trade war.
The short answer to the first question appears to be no. The yuan has lost considerable value versus the dollar in onshore trading—the domestic market where Beijing manages the exchange-rate within a band. It fell to a seven-month low of 7.27 yuan to the dollar Wednesday, and has declined in value for five months straight. This runs in parallel with a depreciation in yuan traded offshore, where Beijing exercises less control and where the exchange rate fell to about 7.30 Wednesday.
Beijing is tolerating a slight depreciation as it allows the administered midpoint for the onshore yuan to drift weaker. Yet it’s hard to argue this is a deliberate strategy to gain a competitive edge in export markets, as American trade warriors often argue. The onshore exchange rate keeps hitting the lower limit of the trading range Beijing sets, and Beijing keeps resisting calls for a deeper devaluation.
President Xi Jinping and the Communist Party leadership probably would prefer a stronger yuan. This would bolster their efforts to expand use of the yuan as a global trading currency. Mr. Xi in January emphasized a “strong currency" as a cornerstone of his plan to develop China’s financial markets.
Worse for the Party, a weak yuan exposes Mr. Xi’s bad economic management. A driver of recent depreciation is the divergence in economic sentiment between the U.S. (still reasonably resilient) and China (increasingly pessimistic). One implication of the yuan’s recent depreciation is that investors aren’t reassured by Beijing’s plan, announced last month, to put a floor under the property-market deflation that Mr. Xi started in 2020.
Capital outflows from China have accelerated this year. Beijing is trying to reduce this flow, much of which seeps around capital controls. Contra American trade warriors, if China’s economy operated on a true market basis, the yuan probably would be much weaker today.
The yuan’s travails are part of a broader Asian story. The Japanese yen reached a 38-year low of ¥160 per dollar Wednesday, and the Korean won and Malaysian ringgit also are among the currencies losing value against the dollar. Local factors play a role, but the bigger factor is a relatively strong U.S. economy and higher U.S. interest rates. These currency gyrations threaten trade and investment flows, which is a good argument for better coordination among monetary authorities such as the Federal Reserve. But none of this is a conspiracy against the U.S. economy.
That won’t stop the usual suspects in the U.S. from claiming otherwise, whether that’s Mr. Trump’s trade guru Robert Lighthizer or veteran Democratic currency warrior Sen. Chuck Schumer of New York. Don’t be surprised if calls for protectionism to punish “currency manipulators" in Asia become a feature of the presidential campaign.
Such tariffs would be a mistake. No one can say whether an economic crisis is imminent in China, but no one should want one. Certainly no one should want to risk triggering one with a tariff war that would catch American consumers and businesses in the crossfire.