CNY: Concerns and moon cakes – Commerzbank

With China celebrating the Mid-Autumn Festival today and tomorrow, the monthly economic data for August was already released on Saturday. And for some, it may have spoiled their appetite for moon cakes. The data disappointed almost across the board and painted a picture of a weak Chinese economy, Commerzbank’s FX strategist Volkmar Baur notes.

CNY is likely to depreciate slightly against the Euro

“On the production side, the industrial index cooled more than expected, rising only 4.5% year-on-year, while the services index rose 4.6%. On the demand side, retail sales disappointed even low expectations, rising only 2.1% yoy. Investment was not much better, rising by only around 2% in August, with the problems in the housing market continuing to weigh on construction investment. The real estate sector remains the biggest headache in China, with housing starts and new home sales down around 20% yoy. There are still no signs of a bottoming out, and home prices show no signs of stabilizing.”

“All of this continues to weigh on China's financial markets, particularly bond yields. As a result, the current interest rate on 10-year Chinese government bonds fell to a new all-time low of just 2.07% at the end of last week. A few weeks ago, the Chinese central bank had mentioned a ‘target’ of 2.25% for 10-year government bonds yields and had intervened in the market. However, despite the recent drop in yields, there was no mention of further action.”

“This limit was more to prevent the interest rate differential with the U.S. from becoming too large in order to support the CNY, which at the time was around 7.27 to the US Dollar. However, this interest rate differential has narrowed significantly as US interest rates have fallen. This, in turn, has taken pressure off the USD/CNY, which has recently been hovering around 7.1. Therefore, falling interest rates are no longer such a big problem for the PBoC. As a result, I expect China's weak economy to continue to weigh on interest rates in the coming months. The upside potential for the CNY against the USD as a result of a weaker US currency should therefore be limited. And hence, the CNY is likely to depreciate slightly against the euro in the coming months.