Tokyo – Chinese officials are concerned about the impact on manufacturers of a stronger yuan. As soon as the so-called “yen carry trade” turns awry across international currency markets, those fears may be validated.
Ever since the Bank of Japan’s July 31 interest rate hike, the dollar’s resulting wave has upended foreign exchange markets.
Twenty-five times of holding rates at zero turned Japan into the world’s top bank country, where for generations purchase funds  , borrowed cheaply , in japanese to bet on higher-yielding assets worldwide. It developed into one of the most crowded trades on the planet, one that was especially vulnerable to corrections, when unexpected yen movements literally slammed the industry.
The currency’s 6 % march over the last 22 days has put the renminbi under considerable higher pressure. In a way that Chinese President Xi Jinping might not like, its march is raising the yen in ways that the currency’s failure earlier this year did not.
The People’s Bank of China has attempted to prevent the yuan from falling too far this season. A weaker yuan would raise the risk of default for China Evergrande Group by making it more difficult for Chinese developers to make payments on dollars and another foreign-denominated offshore ties.
A weaker renminbi that makes Chinese exports perhaps more competitive may rankle Washington at the top of a raunt US election plan where both Republicans and Democrats have portrayed China as the country’s top enemy number one. Beijing’s efforts to boost investor confidence in the yuan as a benefit store and compete against the money may also suffer as a result of a falling renminbi.
But the degree to which the renminbi now faces higher pressure may be irking , Xi’s internal circle. And that anxiety might be about to intensify if economist Guan Tao, who previously worked for China’s foreign-exchange regulator, the State Administration of Foreign Exchange ( SAFE), has it right.
According to Guan, “people wo n’t be interested in holding the dollar and profiting from the yield gap” if they see a sign that the yuan could increase by 3 % to 4 %.” ” The carry business opportunities may be closed, and it could occur quick”.
Guan, who’s then chief analyst at Bank of China International, thinks Beijing may bear chinese recognition to some extent. Doing so might, at the margin, calm the worst cash flows from China since at least 2016. The perception that Xi’s group has been spooked so much that officials have decided to release less high-frequency data has soared.
” Beijing stopped the release because the data has n’t been looking good, and it’s volatile”, notes Xin Yao Ng, Asia-region director of investments at abrdn, formerly Standard Life Aberdeen Plc, who stresses that” they probably do n’t want the data to amplify capital outflows” but “it does n’t solve the root of the problem”.
Could that lead to issues with control for present Secure officials? Just time will tell, but a significant increase in the yuan could be a big wind for Asia’s largest economy at the worst possible time.
Exports have long been one of the best stuff the Chinese market has going for it. In July, overseas shipping grew 7 % year on year. However, exports are running a little below projections. Continued yuan strength could make this year’s 5 % gross domestic product target ( GDP ) harder to achieve.
One great unknown for , China , is the way of US Federal Reserve plan.  , In 2022 and 2023, Chairman Jerome Powell carried out the Fed’s most violent monetary tightening period in about 20 years, causing Silicon Valley Bank and another mid-size lenders to fall.
The Fed is currently leaning toward a rate cut as the US labor market exhibits signs of strain. Traders are paying close attention to Powell’s speech at the Fed’s annual conclave this week in Jackson Hole, Wyoming, for details on when and how much.
We believe Powell’s assessment will be comforting and consistent with a soft base of a string of 25s, but he will also convey that the Fed is still open to 50s, and that the demand for this is not very high, according to Evercore ISI analysts.
The investment bank’s economists think Powell will express confidence that inflation pressures are receding, heading back to the Fed’s 2 % target. A decision might be made as soon as the following month.
” We do n’t expect a hard steer as to whether the first move will be a 25 basis-point or 50 basis-point cut”, Evercore ISI argued. The bank predicts that Powell will call any rate change based on upcoming data.
Ed Yardeni, president of Yardeni Research, thinks Powell will , cut rates , just once and call it quits. He thinks that’s particularly likely if the August jobs report, due out September 6, comes in weak.
Among economists who believe the US is stronger than upcoming data might suggest, count Yardeni.
” The markets are very dovish”, Yardeni told CNBC. Although the September meeting’s expenses are 25 to 50 basis points, I believe there are still hopes that we might even have 100 basis points by the year end. But on the contrary, Yardeni predicted, “it’s going to be 25 basis points at the September meeting and I think it’s going to be one and done. Simply put, the economy is performing too well.
Another big question mark is the BOJ’s outlook. Additional rate increases in Japan could cause the yen to go sharply higher, causing a dramatic increase in the carry trade.
Carlos , Casanova, economist at Union Bancaire Privée, thinks upcoming data will “reinforce the Bank of Japan’s hawkish policy stance, despite persistent challenges. Therefore, we expect that the BOJ will implement one more 10-25 basis point hike in the fourth quarter. The BOJ’s pivot has caused the market volatility and expectations of a strengthening yen, which could reduce the benefits of imported inflation and reduce travel spending.
Economists at Fitch’s BMI Research “expect that , the BOJ , will take a more cautious approach and only hike by 25 basis points this year to 0.50 %, down from our previous view for 50 basis points” of additional tightening.
But three unknowns hang heavy over markets. One,  , the , BOJ interest rate hike cycle for which many traders are bracing may be far more mild than even dovish economists expect.
Two, a widening , yield curve band could prompt the , BOJ , to , leave rates on hold for the rest of 2024.  , Three, Governor Kazuo Ueda is more trapped in , the , world’s boldest experiment with ultra-loose monetary policy than markets seem , to , realize.
From March 2013 to April 23, Ueda’s predecessor Haruhiko Kuroda cornered Japan’s government bond market and became by far , the , biggest holder of stocks via exchange-traded funds.  , The , BOJ gorged on assets across , the , economy in a bid , to , end 20-plus years of deflation and malaise.
Kuroda was tapped by , the , late Shinzo Abe, prime minister from 2012 to 2020, and did n’t disappoint: his ,” shock and awe” campaign was so aggressive , that , it drove , the , yen down 30 % in short order. By 2018,  , the , BOJ’s balance sheet topped , the , size of Japan’s entire$ 5 trillion economy, a first for a Group of Seven nation.
But , the , odds of Ueda now taking , big risks  , to normalize rates may be a reach. Fumio Kishida, the prime minister who took office in October 2021, has been the least cautious liberal-democrat leader Japan has had in decades.
Yet rising inflation, Tokyo’s deteriorating security situation, a series of scandals among , his , cabinet members and fallout from Abe’s assassination in July 2022 have conspired to drop Kishida’s approval rating into the 20s.
Last week, Kishida announced he wo n’t run for another term at the LDP’s party election in September. One reason is the , complete failure , to , implement any part of , his , “new capitalism” plan to raise living standards and rekindle Japan’s innovative animal spirits.
It’s largely the “bad” kind, imported thanks to higher commodity prices and an undervalued exchange rate, now that Japan is experiencing the inflation the BOJ was mandated to generate.
Yet many economists worry Japan is n’t as ready for tighter monetary policy as many believe as higher rates could thrust , the , economy back toward recession. Though wages are showing signs of life, paychecks have flatlined for 25 years, a pre-existing condition made worse by , the , last two-plus years of Covid-19 trauma. Nothing Kishida did these last 34-plus months is likely , to , increase Japanese prosperity.
One flash of good news: In June, inflation-adjusted wages rose for the first time in 27 months, up 1.1 % from a year earlier.
The results are “purchasing good overall, with signs for a rise in private consumption supported by real wage growth,” says Meiji Yasuda Research Institute economist Kazutaka Maeda. It supports the BOJ’s prediction and suggests that rate increases will increase, but the central bank would be cautious because the yen had recently experienced a sharp increase in the previous rate increase.
Of course, the June wage jump is still less than half the rate of inflation. Still, Ueda could surprise markets with more assertive-than-expected rate hikes. The resulting shockwaves could complicate China’s economic outlook in particular. The same goes for what happens , in the US , in the months ahead.
According to economists at Guotai Junan Securities,” Looking forward, we think it might not be necessary for China’s central bank to influence the continued appreciation of the yuan.” The performance of US economic data may affect the yuan exchange rate more in the near future.
The amount of fiscal stimulus Xi’s government injects into the economy will also affect the yuan’s trajectory. According to Larry Hu, chief China economist at Macquarie Capital, “politicians are likely to be in a rush to provide more stimulus, such as accelerating special bond issuance and the purchase of housing inventory from developers.” ” It seems that policymakers ca n’t miss the growth target, but they do n’t want to over-deliver either”.
According to Capital Economics economists, the PBOC’s recent rate cuts are insufficient to spur a significant recovery because private credit demand is still weak. We anticipate only a further 20 basis point cut to the loan prime rate this year, which wo n’t be sufficient to support a resurgence in credit demand.
Goldman Sachs analysts added that, as the PBOC highlights” the importance of counter-cyclical adjustment to support domestic demand, we maintain our forecast for a 25 basis-point]reserve requirement ratio ]  , cut in the third quarter to facilitate increased government bond issuance and a 10 basis-point policy rate cut in the fourth quarter to lower , funding costs , for the real economy.”
However, much of how Pan  Gongsheng reacts to global events for the remainder of 2024 may depend on Tokyo decisions, where his Japanese counterpart at the BOJ controls the fate of the yen-carry trade.
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