China | Currency Outlook in 2H21: Two-way fluctuation is the main theme

Summary

We provide a macro analytical framework to investigate what determines the RMB exchange rate trend in 2H21. RMB exchange rate is expected go back to the 6.4 to 6.5 range at end-2021 and will display two-way fluctuations.

Key points

• Key points:
• The strong appreciation trend from May 2020 to May 2021 quickly reversed after the PBoC announced a rare hike of the foreign deposit reserve requirement ratio which clearly signaled the PBoC’s intention to limit the fast appreciation of the RMB exchange rate.
• We are trying to answer three questions: What is the underlying logic of the RMB appreciation trend from May 2020 to May 2021 and its retreat since end-May 2021? Is the previous appreciation trend sustainable in 2H 2021 as the global economy gradually normalizes? To what level will the RMB exchange rate go at end-2021?
• The macro fundamentals which used to support RMB exchange rate are not expected to be sustainable in the 2H 2021: the growth divergence will narrow; the USD DXY index will reverse its depreciation trend amid the FED tapering; interest rate divergence is also not sustainable, neither will be the current account balance and portfolio inflows in 2020.
• Beyond the above macro fundamentals reversion, what we should take into consideration includes at least three more perspectives: China-US relation, global capital flows and most importantly the PBoC’s policy stance on the RMB exchange rate.
• The PBoC is willing to see the RMB exchange rate display some two-way fluctuation around its equilibrium level, and they will certainly intervene into the FX market if the RMB exchange rate displays some one-way trending, either one-way appreciation or depreciation.

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