Chinese Yuan Taking a Breather... Will Chinese Authorities Allow 'Pochi'?

The People's Bank of China Likely to Tolerate Weakness Temporarily Before Defending Exchange Rate
Dollar Strength, Delayed Chinese Economic Recovery, and US-China Interest Rate Gap Weaken Yuan

[Asia Economy Senior Reporter Cho Young-shin] The sharply falling value of the Chinese yuan has entered a pause as the decline narrowed.

On the 30th, the People's Bank of China, the country's central bank, announced the yuan's reference exchange rate against the dollar at 6.8802 yuan (midpoint). Considering that the previous day's midpoint was 6.8698 yuan, the increase has narrowed. This is interpreted as a signal from the People's Bank of China that it does not want an excessive weakening of the yuan.

However, with the U.S. reiterating its tightening stance, the prevailing view is that the yuan's weakness will continue for the time being. Inside China, there are voices suggesting that the Chinese foreign exchange authorities may allow the 'Poqi (破七, the 7 yuan per dollar level)' or tolerate the 6.9 yuan range.

Bloomberg reported, "Many market investors expect the yuan to break through 7 yuan per dollar soon." The possibility of the yuan hitting Poqi is attracting attention because a decline in the yuan's value increases the depreciation pressure on the Korean won.

On the same day, Chinese economic media Caijing analyzed that the value of the Chinese yuan has sharply dropped following hawkish remarks by Jerome Powell, Chairman of the U.S. Federal Reserve (Fed).

In fact, the previous day's yuan reference exchange rate against the dollar was announced at 6.8698 yuan (midpoint), up 0.212 yuan from the previous trading day. In the foreign exchange market that day, the session closed at 6.9210 yuan per dollar, and in the offshore market, the 6.93 yuan per dollar level was breached.

Caijing explained that Powell's statement on the 26th, "We will maintain a tightening policy until inflation is fully resolved," is affecting Asian currencies.

It also added that the internal situation in China, where the economy is not recovering, has fueled the yuan's weakness.

Additionally, it mentioned that the yuan exchange rate is under pressure as the People's Bank of China lowered the Loan Prime Rate (LPR), which is equivalent to the benchmark interest rate, widening the spread with U.S. rates. If the U.S. raises rates further, the opportunity for yuan arbitrage will increase. This is why the People's Bank of China cut the one-year LPR in January and then kept rates steady for six months to prevent capital outflows.

[Image source=Yonhap News]

Guan Tao, Chief Economist at Zhongguo International Securities, diagnosed, "The yuan has recently weakened due to the strong dollar, delayed recovery of the Chinese economy, and the interest rate gap between China and the U.S."

The issue is the extent of further U.S. rate hikes. Depending on the increase, the spread with Chinese rates could widen further. Since Powell's remarks, the market perceives a 60-70% chance that the Fed will raise rates by 0.75 percentage points next month.

Within China's financial sector, there is no disagreement that the yuan's weakness will continue, but opinions are divided on the 7 yuan per dollar level. The dominant view is that the yuan exchange rate in the second half of this year will be higher at 6.7 to 6.9 yuan per dollar compared to 6.5 to 6.7 yuan per dollar in the first half.

Depending on the situation, Chinese financial authorities may lower the foreign currency reserve requirement ratio. The People's Bank of China also cut the foreign currency reserve requirement ratio by 1 percentage point from 9% to 8% in April.

Therefore, the industry consensus is that whether the yuan weakens depends on the will of the Chinese financial authorities. A rise in the yuan exchange rate helps exports. In fact, China Guangda Securities forecasted that the decline in the yuan's value could benefit industries such as petrochemicals, textiles, home appliances, telecommunications equipment, and automobiles from exchange rate fluctuations.

While yuan weakness has the side effect of raising import prices, the current Chinese Consumer Price Index (CPI) remains within the authorities' management target (3%), lending weight to the expectation that Chinese foreign exchange authorities will tolerate a certain period of yuan weakness before defending the exchange rate.

This content was produced with the assistance of AI translation services.