Will China Pull The Exchange Rate Next?

March 18, 2020


Key pieces of a post Covid 19 economic recovery in China are becoming clear:

·        Manufacturing will be almost fully operational by the end of the month. Workers have returned and will have completed quarantine, logistics support is operational, component bottle necks are disappearing and capital is increasingly available

·        Services are at least a month behind, but ramping up fast. Travel numbers rising 50% week on week. Small businesses are theoretically operational with workers available but waiting for consumer demand to return

·        Infrastructure supply chain, especially steel, is ramping up output for the confirmed stimulus. China may not need many more airports, roads and railways but there is always space to build them – this time in the north west and south west

·        Local government spending set to rise as constraints on their borrowing are rolled back

·        Multiple fiscal levers pulled to give business and individuals tax breaks that put more money in their pockets today

·        All that remains is to track how quickly consumer spending recovers across China – will it be the V shape recovery we saw after SARS? What ever spending recovery does take place is going to be domestic as few Chinese will be willing to risk international travel for many months to come – good chance they would need to be quarantined on return a high bar. If the consumer spending recovery doesn’t quickly look like a V, expect additional government support to consumers. Automotive and durable goods would be major beneficiaries. Relaxing the controls on purchasing more property would be a last resort and a sign that the government is running out of ideas

The one sector that these actions only peripherally benefit is export oriented manufacturing. Certainly, there is a level of “catch up” demand to be met, orders that were placed in January and February but which have not yet shipped. But the outlook for new orders looks weak as the rest of the world goes through its own Covid 19 peak. Tax breaks on exports can help a little. The one big lever that remains is the exchange rate. The renminbi has fallen only 2-2.5% against the dollar since the start of the year. If the pain experienced by exporters rises fast, a much sharper depreciation could be on the cards, regardless of the geopolitical issues that this might cause with the US. Follow this metric closely