The panic in the China’s financial markets can make the Fed change its plans for monetary normalization

 

Donald Trump managed to calm the financial markets down by announcing that the e U.S. technology can be protected by the Committee on Foreign Investments in the United States, and the pending restrictions on China’s investment in the US technology industry was wrongly interpreted by the media. The rumours about it resulted in the stock indexes drop, a decline in Treasury yield and the USD index. Besides, according to Financial Times source in the White House, the final decision on this issue hasn’t yet been taken.

Washington gets use of fueling investors’ interest in trade wars, as the idea of divergence in the Fed and its competitors among central banks that draws dollar up, becomes less important. According to JP Morgan, as dollar has been 5% up since March, the US trade deficit can be $200 bn more. That is it will completely destroy all Donald Trump’s effort to cut the deficit by means of import tariffs. The US administration’s trouble is investors, who just don’t know how to trade the protectionism factor correctly.

China, on the contrary, seems to have found its way. As it can’t equally respond to Washington’s $200 bn + $200 bn import tariffs, Beijing has to choose between the US Treasuries sales and the yuan devaluing. According to Goldman Sachs, the first way will draw the US bond prices up, and tighten the financial conditions by 0.1 bps, fueling the panic in the developing countries’ financial markets. The second solution, on the contrary, will add 0.4 bps to China’s GDP. Judging by the fact that PBOC isn’t still interfering with the Forex situation, Beijing has determined its tactics. Since early June, yuan has lost 2.3% against the US dollar, more than its 2% drop in August, 2015. At that time, the People’s Bank of China started selling out its reserves to stabilize the national currency and stop the capital outflow.

Dynamics of Chinese yuan
   

Source: Bloomberg

The current situation in China, including Shanghai Composite crash, has a lot in common with that in August, 2015 and in January, 2016. It helps one understand the link between trade wars and monetary policy. In the past, the crash of global stock indexes forced the Fed to abandon its plans for normalization: the interest rate was increased only in December, 2015 (it was expected in September) and only one more time in 2016 (instead of three). The central bank may not act aggressively now as well. At least, CME derivatives lowered the chances of four monetary restrictions acts in 2018 down to 45%-46%, though, just a week ago, it was about over 50%.

Dollar is apparently set back by trade wars; and busy economic calendar greatly contributes to it. Investors can nothing but follow Italian government bond auction and the European inflation data, to determine the EUR/USD further trend. Yet, the pair returned to the support at 1.1645 and tested it.

 

 


 

Dollar: All Roads Lead to Beijing

The content of this article reflects the author’s opinion and does not necessarily reflect the official position of LiteForex. The material published on this page is provided for informational purposes only and should not be considered as the provision of investment advice for the purposes of Directive 2004/39/EC.

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