What The Pros Think Of China's Currency Devaluation

The Chinese central bank devalued its currency by nearly two percent late Monday at 6.2298 per US dollar. Here is a summary of what some of the top currency analysts are saying.

Andy Chaytor, Nomura's UK based European Rates analyst commented in a note that direct impacts on the European rates markets are unclear although indirect ones are obvious. "With a 13 percent appreciation in its trade-weighted exchange rate in a year, China has decided to shift its exchange rate policy to support activity; this appreciation exceeds the annual four percent appreciation accepted until now by the People's Bank of China (PBoC)," Chaytor wrote. "The shift in policy is a greater challenge for those countries that have already embarked on the path of monetary policy normalisation by announcing rate hikes." Chaytor continued that the move should add "further downward pressure" to euro area exports to China (third largest trading partner) which accounts for seven percent of exports. The analyst also pointed out that exports to China have already slowed "sharply" by negative 5.8 percent year over year in May compared to a 6.7 percent gain in the fourth quarter last year. Bottom line, the analyst argued that China's move will further add to the already "dampening" impact on euro area net trade, although overall export growth in the region remains "positive" due to more favorable developments in other trading partners.

Grant Sporre, Deutsche Bank's Metals & Mining analyst commented in the note that China's move represents a "negative" for the country's major trading partner currencies, particularly the commodity currencies. "The immediate impact will be that the arbitrage between domestic and imported commodities closes up, discouraging imports in favor of domestic supply in commodities such as coking coal and zinc," Sporre wrote. Sporre also noted that most commodities are in balance or over-supplied and prices are dictated by the marginal cost of production. Weaker producer currencies will result in lower costs, and lead to lower prices. In addition, China is a growing exporter of its overcapacity (especially in aluminium, steel and stainless steel) and a weaker currency "improves the competitiveness of exports."

The foreign exchange research team at East India Securities commented in a note that China had "little option" but to weaken its currency to support its economy and that the country's move will impact emerging markets currencies, including the Indian Rupee. "China is one of the largest trading partners of India and weakening of its currency will put additional pressure on RBI to weaken INR," the research report noted. "We have seen India closely following Chinese monetary policy and there is no reason to believe that their latest move in currency market will not be mirrored by RBI."

Alicia Garcia Herrero of Natixis commented in a note that the Chinese Central Bank "will not date let the RMB depreciate too rapidly" for two reasons. First, the Central Bank needs to show it "is in control" as the stock market collapse has already taken a toll on the country's image. Second, "moderate" capital outflow has "been the norm" for the past few months to the point that China has nearly 350 USD billion in reserves from a peak of 3.99 USD trillion. The analyst suggested that a rapid depreciation would only "feed" additional capital outflows and add further pressure on the Central Bank.