Chinese yuan likely to face continued depreciation pressure until U.S.-China trade talks resume despite tweak in RRR, says Scotiabank

The Chinese yuan is expected to face continued downward pressure until the United States and China resume their trade talks and reach a mutual agreement, despite attempts to boost the currency by raising the reserve requirement rate (RRR) on FX forward contracts, according to the latest research report from Scotiabank.

The People’s Bank of China (PBoC) announced on Friday last week that it will boost the ratio of FX risk reserves paid by banks for their purchases of FX forwards (including FX options and FX swaps) on behalf of their clients to 20 percent from zero percent with effect from August 6 2018.

The counter-cyclical measure will effectively raise the cost of the yuan’s short position with the intention of stabilizing and improving market expectations. If needed in the future, the influence of the counter-cyclical factor (CCF) is believed to be taken into account of when the central bank sets its daily USD/CNY fixing, the report added.

The FX risk reserve ratio was lowered by the PBoC to zero percent from 20 percent on September 11 2017, with the aim of curbing the yuan’s surprise appreciation at that time.

Amidst the tit-for-tat trade politics, China, on Friday has threatened to impose tariffs ranging from 5-25 percent on an additional USD60 billion of U.S. imports. The nation’s Ministry of Finance said in a statement that the retaliatory measures were in response to the latest US threat on 11 July to slap duties on USD200 billion of Chinese products, and to raise those tariffs from 10 percent to 25 percent.

After China’s announcement, top White House economic adviser Larry Kudlow on Friday ridiculed China’s threat as "weak" and said the world’s second-largest economy was in significant "trouble". Kudlow said in an interview with Bloomberg TV that "some of the currency fall is money leaving China," and "if money leaves China, and the currency could be a leading indicator, they're going to be in a heap of trouble".

"Last but not least, it will weigh on the yuan further if China reports another current account deficit for Q2 2018 after registering the first one for Q1 2018 since Q2 2001," the report commented.