What Currency Manipulation?

BTHCurrencyManipulationAbstract

Behind the smiles and handshakes around the signing ceremony, the mood music has shifted from Bach to Drowning Pool.

Sticks and stones…

In another historic move, the US Treasury has reversed its designation of China as a currency manipulator, after only four months. It sounds important, but it is essentially more meaningless theatre for investors, as the US administration offers a gesture of goodwill ahead of the signing of the ‘Phase I’ trade deal on 15th of January. In fact, this demonstrates that the designation itself was just a ploy to raise pressure on Beijing last August.

Technically, the designation triggers a renegotiation of existing trade agreements and potentially a request for a review of China’s currency by the IMF. For China, this was meaningless because the renegotiation of trade relations was ongoing, and the country is already under the IMF Article IV surveillance process.

BTHCurrencyManipulationMap

What does this mean for investors in the longer term?

Clearly, the US Treasury has become more politicised and that detracts from the real impact of these types of measures. Looking back, this designation marked the political pain barrier of the Trump administration, as it marked the last announced round of tariffs. These were targeting children’s toys, furniture and electronic goods, all of which would directly hurt the US consumer, since they are physically paying the tariffs on the goods they buy. The fact that these tariffs never materialised is evidence that the administration viewed them as too politically painful to implement, constituting the limits of the current trade war.

If facts mattered, none of this designation and retraction would be happening. The truth is that over the last three years, Beijing authorities have been intervening to keep the CNY from devaluing, because they want to avoid capital flight. Over that period, currency analysts point to an overvaluation of the CNY over the USD. That overvaluation has been helpful to the US. Interestingly, todays official fixing was at 6.884, compared with the 6.983 achieved on the day the designation came in, last August.

Perversely, the biggest driver of devaluation of the Chinese currency appears to be POTUS, by virtue of his persistent and explicit efforts to derail the Chinese economy. And as the confrontation with China is possibly the only issue that enjoys bipartisan support across Congress and the Senate, it may not matter who is President next year, tensions with China will remain.

As I’ve written before, the White House needs a deal, any deal, to demonstrate that its approach works. ‘Phase I’ is not significant for its content, given that it is basically composed of goods that China would have been buying anyway; its importance lies in that it marks a freeze of tariffs. This freeze could well be temporary, as Beijing sees no upside in giving away anything significant in its next phase of negotiation, where all the difficult issues remain. In spite of the smiling handshakes for the photo opportunities, the mood music remains Drowning Pool. So, investors should guard against irrational exuberance!


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