USD/CNY to rise towards 6.70 by year-end as renminbi’s strength fades – CE

Although it has fallen back a little over the past couple of days, the renminbi has risen in recent weeks. It is now as strong as it was at the start of 2018, before the US-China trade war led to a sharp depreciation in China’s exchange rate. However, despite renminbi’s appreciation – to the point that policymakers have stepped in to slow its rise – economists at Capital Economics continue to think that it will end the year weaker against the US dollar. 

Renminbi’s strength not expected to last

“The renminbi’s rally appears to have made policymakers uncomfortable. The PBoC’s decision to increase the reserve requirements for banks’ foreign exchange deposits looks intended to rein in the renminbi’s appreciation, by forcing banks to hold more foreign currency. Perhaps more importantly, it signals both the central bank’s preference for a somewhat weaker (or at least not significantly stronger) currency, and its willingness to step in to manage the foreign exchange market.”

“But for all the talk of a ‘market-determined’ exchange rate, we doubt that the Chinese authorities will allow the renminbi to become genuinely free-floating any time soon. Year-on-year the renminbi has now risen by about 10% against the dollar – the fastest pace on record. If officials are unhappy with that pace, they are unlikely to embrace the far larger swings that other major currencies go through regularly.”

“We expect the renminbi to weaken, at least vis-a-vis the US dollar, as China’s economy slows and the yield differential between US Treasuries and Chinese government bonds shifts in favour of the greenback. We forecast the USD/CNY pair to end the year at 6.7, compared to ~6.4 currently.”