Will the depreciation of the renminbi against the dollar continue for some time?

Time: 2023-08-08 10:19

Recently, the RMB exchange rate has seen a significant depreciation trend against the US dollar, which presents both opportunities and challenges for China's cross-border sellers.
And what will happen to the yuan next? Will it continue to depreciate, or will it recover slowly?
In light of the recent performance of the renminbi and the current situation in China and the United States, we have the following observations.

I. Recent exchange rate performance of RMB against US dollar

From November 2022 to early February 2023, the RMB appreciated from 7.32 to 6.69 against the US dollar.
Since February 2023, the overall trend of RMB exchange rate depreciation -

From February 1 to March 8, the yuan depreciated from 6.72 to 6.97 against the US dollar;
From March 8 to May 10, the exchange rate fluctuated slightly;
From May 11 to June 30, the exchange rate of RMB against USD depreciated again, from 6.92 to 7.27;
From July 1 to July 21, the RMB exchange rate against the US dollar stopped falling and appreciated slightly, rising from 7.27 to 7.19.

Second, will the RMB continue to depreciate?
Combined with the following, our answer is "yes".
Firstly, from an internal perspective, there are four factors that cause the RMB to continue to depreciate.
1. Inflationary pressures remain in the US and there is a clear risk of deflation in China.
Inflationary pressure in the United States is declining, with the year-on-year CPI increase expected to fall below 3 percent this year, suggesting that the trend of price increases is becoming slower and slower. But there is a clear risk of deflation in China, with CPI growth at only about 1 per cent year-on-year and price increases sluggish.
Typically, money flows to countries with higher inflation (the United States), where asset prices are rising faster and yields are higher.
2. China's economy is slowing.
China's growth rate, which was strong in the first quarter, slowed in the second, meaning the rate of increase in gross domestic product is slowing. Slower growth means less demand for the country's currency, which can trigger a depreciation of the renminbi.

3. The spread between U.S. and Chinese interest rates is widening.
Us interest rates remain high and Chinese rates are falling. Higher interest rates mean higher yields on investment in the United States, so money flows from China, where interest rates are lower, to the United States, increasing yields.
4. China's trade surplus widened while the US trade deficit narrowed.
A bigger surplus means China is earning more dollars from trade. As Chinese companies and individuals hold more dollars, they will choose to convert them into renminbi, which will increase the supply of renminbi.
A smaller U.S. deficit means that the United States buys less from other countries and pays them fewer dollars, so the United States has more dollars on hand.
The United States would then have less need, in relative terms, to exchange dollars from other countries, including China.
The increase in the supply of RMB and the decrease in the demand jointly lead to the depreciation pressure of RMB.
The above four points all point to the trend of continued depreciation of the RMB against the US dollar.
Secondly, from the external perspective, the depreciation of RMB is closely related to the US dollar index, and the trend of RMB is still depreciation.
1. The US dollar index, which reflects the relative value of the US dollar against a basket of major currencies and the trend of exchange rates.
If the dollar index falls, it indicates that the status of the dollar as the world's main reserve currency has weakened, representing the depreciation of the dollar against most currencies, including the RMB.
Simply put, a weaker dollar index is about equal to a weaker renminbi.
2. To analyze the trend of the dollar index, we must focus on the eurozone.
The dollar index is a weighted average of the dollar's exchange rate against a basket of currencies, with the euro being the largest contributor at 57 per cent.
So there is a common sense here that the dollar index and the eurozone economy have an inverse relationship, the two show a negative correlation.
In terms of monetary policy, the Federal Reserve did not raise interest rates in June, but raised them by 25 basis points in July, while the European Central Bank started raising interest rates in June.
In contrast, the eurozone has lagged behind the US in normalizing monetary policy, with interest rate increases starting later and ending later.
In economic terms, the U.S. economy is doing better than the euro area.
The US economy is growing positive quarter on quarter and rebounding year on year; The eurozone has seen two consecutive quarters of negative quarter-on-quarter growth.
In terms of inflation, inflation in the US and Europe is falling, with CPI in the US likely to fall to around 3%, while CPI in the Eurozone remains high.
To sum up, at the current stage, fundamentals support a stronger dollar relative to the euro, so the dollar index is showing strength.
However, the Federal Reserve raised rates for the last time in July, but the European Central Bank will continue to raise rates in the coming months.
That is, in the coming period of time, the ECB's pace of interest rate hikes will exceed that of the Fed, which will lead to a stronger euro relative to the US dollar and a weaker US dollar index. The dollar index weakened and the yuan depreciated.

3. Summary:
Whether from the internal or external perspective, the depreciation of the renminbi will continue for some time.
For cross-border sellers, maintaining the depreciation trend of RMB can bring many benefits, such as highlighting the price competitive advantage, increasing export revenue, stimulating export demand and improving the profit space of enterprises.
However, depreciation also has some negative effects, such as the uncertainty of economic development, which needs to be weighed against the advantages and disadvantages.
In general, a moderate depreciation does help exporters to some extent, and cross-border sellers can seize this time to concentrate on business and exchange more returns.

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