Only a few months ago, the Chinese yuan reigned supreme as a safe-haven asset in emerging markets, shielding investors from the turmoil of war and rampant inflation.
Today he is becoming a threat.
As growth in the world’s second-largest economy slows, its currency has fallen to a two-year low and looks set to continue losing. That makes Goldman Sachs Group Inc. and SEB AB predict shock waves not only in China’s neighborhood, but also in Africa and Latin America – the cheaper yuan will affect the attractiveness of other countries’ exports and trigger competitive devaluations, Bloomberg writes.
“As the yuan continues to weaken, other emerging markets will face downward pressure on their currencies,” said Per Hammarlund, chief emerging market strategist at Skandinaviska Enskilda Banken AB.
“The impact will be felt most strongly by countries that compete directly with China in terms of exports.”
In August, the yuan depreciated for a sixth consecutive month, marking its longest negative streak since the height of the US-led trade war in October 2018. It will fall further this year and break the psychological barrier of 7 per dollar , banks including Societe Generale SA, Nomura Holdings Inc. and Bank of America Corp.
It’s a stunning turnaround for the currency, which was noted for its resilience at the start of Russia’s war in Ukraine. In the days following the Feb. 24 incursion, the yuan was the only emerging market currency to avoid a decline, trading at a near four-year high against MSCI Inc.’s benchmark index. Global demand for the yuan has deepened, from countries like Russia and Saudi Arabia looking to reduce their reliance on the dollar to US bond investors looking for new safe havens.
But in the last month, the mood has turned. China’s zero-tolerance policy on Covid, a widening real estate crisis and slowing growth are fueling foreign capital outflows even as domestic inflation expectations rise. China’s central bank tried to counter the devaluation. It pegged the yuan at a stronger-than-expected level for a ninth straight session, but the dollar’s strength undermined that defensive tactic.
The data due out this week doesn’t look promising either. They could show a decline in China’s foreign reserves and export growth, as well as a slowdown in the services sector.
The weaker yuan has broader implications for emerging markets, which have weathered two years of high inflation, worries about the Federal Reserve’s tightening monetary policy and the prospect of a recession in key Western markets. The Chinese currency, with its 30% weight in the MSCI Emerging Markets Currency Index, pushed the benchmark to its worst year since 2015.
According to Goldman and Societe Generale, a weaker yuan could drag down the South Korean won, the Taiwan dollar, the Thai baht, the Malaysian ringgit and the South African rand. According to SEB, the most vulnerable are the Mexican peso, the Hungarian forint, the Romanian leu and the Turkish lira.
“Trade and financial ties between China and other emerging markets have grown significantly, especially over the past decade,” said Phoenix Cullen, head of research at Societe Generale.
“These deep-rooted ties make it much more difficult for global emerging market currencies to decouple from China.”