China: Brexit and Fed's meeting send Chinese yuan to an over-five-year low
June 14, 2016
Reduced volatility in China’s foreign-exchange markets, capital controls, a weaker U.S. dollar and stronger activity in the country helped to strengthen the yuan, also known as renminbi, in the February–April period. However, volatility returned to the FX markets in the last couple months, which prompted the yuan to drop to levels last seen in February 2011 in mid-June. On 14 June, the Chinese yuan traded at 6.60 CNY per USD, which was 1.0% weaker than on the same day of the previous month. On an annual basis, the currency has lost 6.3% of its value.
The renminbi has been on a depreciating trend as stronger economic data in the United States reinforced speculation that the Federal Reserve may resume its policy normalization sooner rather than later. In this sense, the Fed’s decision at its 14–15 June meeting to delay rate hikes will likely take pressure off the yuan. In recent weeks, however, most of the volatility came from the possibility of the United Kingdom abandoning the European Union in the 23 June vote. The Brexit referendum has increased risk aversion in emerging markets, which sent a number of currencies to depreciate. On the domestic front, this situation was exacerbated by the People’s Bank of China’s looser monetary policy, which ultimately translated into expectations of a further depreciation of the yuan.
The greater risk to the yuan is that it could fall into a spiral of intensifying depreciation expectations. This situation could fuel capital outflows, which in turn will add further downward pressure on the currency. Although highly unlikely, this spiral could drive the yuan to depreciate sharply in the coming months and deplete international reserves.