On August 11th the People’s Bank of China (PBOC) surprised the world in devaluing the
Chinese currency, the renminbi, by 1.9%. In addition, the central bank also announced a partial
liberalization of its exchange rate mechanism. Purportedly this is a one-off action and at this
juncture we have no reason to doubt the PBOC’s intentions.
It is perhaps relevant to review the recent exchange rate history of the Chinese currency. From
mid-2005 to the middle of last year, the renminbi has risen by roughly one-third. This
appreciation was only halted between the middle of 2008 to the middle of 2010 by China in the
context of a stimulus program to protect China’s economy from the spillover of the global
recession post Lehman Brothers. Nevertheless, the direction of the Chinese currency over the
last 10 years has been in a singular upward direction. As a result, the renminbi has gone from
being considered a grossly undervalued currency to being fairly valued.
During this period in late 2012, Prime Minister Abe came to power in Japan and began a multiprong
strategy to revive the Japanese economy. Japan obviously is a major global exporting
economy and as such rivals China on many fronts. One of Abe’s key strategies has been to
implement a QE program with massive monthly bond purchases thereby deliberately devaluing
the Japanese currency, the yen. Between December 2012 and currently, the exchange rate for
the yen versus the dollar has declined 49%, from ¥87/$ to the current ¥124.
To us, this has the makings of a budding global currency war. Perhaps it all started in the US
by Chairman Bernanke with a zero interest rate policy in late 2008 followed by Japan and the
EU with their own bond purchasing programs. It has finally manifested itself in Beijing with a
All are attempting to keep the deflationary forces at bay while struggling to revive their
We understand that China’s slowdown and the recent devaluation have been accompanied by
massive foreign currency outflows. This is only natural. The difference is that China is the only
country with the deep pockets to withstand such an onslaught. With a near $4 trillion reserve,
China can withstand the outflow because during the same period beginning mid-2005, its
foreign currency reserves grew from $1.8 trillion to the current level.
We believe that the recent devaluation is part of a multi-prong strategy to stabilize and revive
the Chinese economy. Implicitly, we expect to see additional fiscal and monetary stimuli during
the remainder of 2015.