Wars have a habit of breaking out over the summer holidays. Iraq invaded Kuwait in August 1990, Israel clashed with Lebanon in late July 2006, and Russia squared up with Georgia at a similar time two years later. Much further back, World War One broke out in August 1914 and on August 23, 1939 the Nazi-Soviet Pact was signed – a treaty whose secret clause would start World War Two just days later (the clause specified an invasion of Poland).
When WiC headed off for its summer break this month the Sino-US trade war was still raging. And while we were away the conflict spread to another front – this time over China’s currency.
That was the consensus after the US Treasury labelled China as a currency manipulator for the first time in a quarter of a century. President Donald Trump is said to have pulled the trigger when China’s central bank allowed the yuan to fall to less than Rmb7 per dollar for the first time in a decade. “China has always used currency manipulation to steal our businesses and factories, hurt our jobs, depress our workers’ wages and harm our farmers’ prices,” Trump tweeted. “Not anymore!”
His rationale is that the yuan is being weakened in a bid to make Chinese exports cheaper, offsetting some of the impact of American tariffs. But the evidence of manipulation seems scant. Officially, the allegation from Washington is a first step towards taking a complaint to the International Monetary Fund. Yet that body has judged China’s exchange rate as broadly in-line with fundamentals in each of the last five years and before that it only classed the currency as marginally undervalued. If something has changed radically in the last few weeks, the IMF hasn’t commented on it.
More awkward for Trump’s claims is that his own officials have taken a similar view. During his run for office he promised to label China as a currency manipulator on his first day as president but the Treasury chose not to do so in any of the five semi-annual reports issued by his administration so far.
Simply put, the warning signs for detecting manipulation haven’t flashed red. China’s current account surplus is no longer material, dropping sharply from about 10% in 2007 to close to zero today. Nor is there much evidence that Beijing has been busy in the foreign exchange markets trying to gain an advantage with a weaker yuan.
If anything, the background to the mini-devaluation earlier this month was that Beijing pulled back from defending the yuan and let market sentiment take its course. Typically manipulators move against the market but in this case the Chinese went with it. And of course, one of the reasons that the mood has soured against the yuan is those very tariffs that Trump has levied on Chinese goods.
Next is the question of which of the pair is in a better position to win a currency war. Trump’s room for manoeuvre seems constrained by the Federal Reserve and yet again he vented his frustrations this week about the Fed not cutting interest rates faster. Although the key policy rate was reduced for the first time in more than a decade in July, the Fed chairman has signalled that a longer cycle of rate cuts is unlikely.
Trump’s more fundamental problem is that he gives global markets the jitters every time he slams Beijing’s trade and currency policies, prompting more risk-averse investors to buy the greenback. That’s one of the downsides of being the world’s reserve currency: even if the Fed was to bow to the call for lower rates, the dollar’s safe haven status means it strengthens whenever news of global economic adversity escalates.
Meanwhile a tweet from Trump on Sunday that he was “not ready” for a deal with China only evidenced the paradox – the offshore yuan weakened a further 0.14% on Monday to 7.0545 per dollar. “Traders say the US-China trade talks will continue to dominate the yuan’s direction,” reported Reuters.
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