China's Yuan Move Could Reignite Asian Currency Wars

Wednesday 12th August 2015

August 12, 2015

by Lilian Karunungan

China’s surprise devaluation of the yuan couldn’t have come at a worse time for some Asian currencies.

A measure of the region’s 10 most-traded currencies excluding the yen is set to decline for a third year, its longest losing streak since 1997, amid signs the U.S. will raise interest rates for the first time in a decade. The People’s Bank of China’s cut its reference rate by a record 1.9 percent on Tuesday, triggering a global rout, and lowered it by 1.6 percent on Wednesday. Vietnam widened the dong’s daily trading band.

“This is like a double whammy with China allowing its currency to weaken,” said Wee-Ming Ting, the head of Asian fixed income in Singapore at Pictet Asset Management Ltd., which oversees $19 billion of emerging-market debt. “It will start a vicious cycle by different countries trying to depreciate their currencies.”

The yuan has been a source of currency stability in Asia during past crises and Chinese authorities propped it up earlier this year to deter capital outflows and make a case for official reserve status at the International Monetary Fund. China’s policy shift to support exporters and stem the deepest economic slowdown since 1990 heightens the risk of competitive currency devaluations as global demand wanes.

The Bloomberg-JP Morgan Asia Dollar Index fell 0.7 percent on Wednesday after dropping 1.6 percent Tuesday. The yuan was headed for its biggest two-day drop in 21 years after the PBOC cut its reference rate to the weakest level since 2012.

Currency Rout

The onshore yuan weakened as much as 1.7 percent to 6.4301 a dollar in Shanghai following Tuesday’s 1.8 percent decline, its biggest one-day loss in two decades. The central bank lowered its daily fixing by 1.6 percent to 6.3306, a 0.1 percent discount to the previous closing level of 6.3231. The yuan sank 1.6 percent in Hong Kong’s offshore trading.

South Korea’s won declined 0.8 percent to 1,188.88 and Taiwan’s dollar slid 0.3 percent to NT$32.17. Indonesia’s rupiah dropped 1.9 percent to 13,776, while the Philippine peso dropped 0.5 percent to 46.17. Malaysia’s ringgit sank to 3.9975, the lowest since 1998, and Singapore’s dollar slid to a five-year low of S$1.4149. Vietnam said the dong will be allowed to trade as much as 2 percent on either side of the central bank’s fixing, the same as the yuan, and up from 1 percent previously.

One-Time Adjustment

Though the PBOC called Tuesday’s change a one-time adjustment, foreign-exchange traders are pricing in more weakness in Asian currencies. Australia & New Zealand Banking Group is reviewing its year-end estimates for Asian currencies as the lender’s forecasts have already been reached.

“The market was caught off-guard by China’s move,” said Khoon Goh, a Singapore-based senior foreign-exchange strategist at ANZ. “We’re going to see ongoing volatility in the near term as the market tries to digest what happened. We need to see whether after the one-time devaluation the Chinese authorities are going to allow the currency to continue to depreciate.”

The currencies of South Korea, Taiwan and Singapore are the most vulnerable to a decline in the yuan as their exporters have the highest exposure to China in Asia, according to Barclays Plc, Standard Chartered Plc and Mizuho Bank Ltd.

Policy makers in Taiwan and South Korea are struggling to revive their economies amid a slump in overseas sales. Singapore on Tuesday slashed the upper end of its 2015 growth forecast as its export-dependent economy has been hurt by slowing growth in China, while uneven recoveries in the U.S. and Europe have damped demand for Asian goods.

Market Contagion

The yuan’s devaluation is adding to the woes of Malaysia’s ringgit, which was Asia’s worst performer this year even before the PBOC’s move. China was Malaysia’s largest trading partner in 2014. The ringgit has slumped 12.5 percent in 2015 as the oil-exporting nation grappled with weak crude prices and a political scandal involving Prime Minister Najib Razak. Indonesia’s rupiah has declined 10 percent.

As the region’s worst performing currencies, the ringgit and rupiah would be affected more, according Tim Condon, Singapore-based head of Asia research at ING Groep NV. “I think the contagion will hit them the hardest.”

A report on Saturday showed Chinese exports shrank 8.3 percent in July, compared with a Bloomberg survey’s median estimate of a 1.5 percent contraction. The yuan’s real effective exchange rate, a measure adjusted for inflation and trade with other nations, climbed 13 percent over the last four quarters and was the highest among 32 major currencies tracked by Bank for International Settlements indexes.

Tuesday’s currency moves “are a fairly reasonable reflection of people’s concerns about the currency-policy shift,” said Simon Derrick, the chief currency strategist at Bank of New York Mellon Corp. in London. “If we are going back to that kind of world, a world we’ve not been in for several years, then its entirely understandable people will themselves want to go for keeping their currencies competitively priced. It’s the race to the bottom argument.”

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