Global trade war: China studies potential impact of yuan easing

China is evaluating the potential impact of a gradual yuan depreciation, people familiar with the matter said, as the country’s leaders weigh their options in a trade spat with U.S. President Donald Trump that has roiled financial markets worldwide.

Senior Chinese officials are studying a two-pronged analysis of the yuan that was prepared by the government, the people said. One part looks at the effect of using the currency as a tool in trade negotiations with the US, while a second part examines what would happen if China depreciates the yuan to offset the impact of any trade deal that curbs exports.

The analysis doesn’t mean officials will carry out a devaluation, which would require approval from top leaders, the people said, asking not to be named as the information is private. The yuan weakened as much as 0.2 per cent to 6.3186 per $ in onshore trading on Monday. China’s central bank didn’t immediately respond to a faxed request for comment.

“It seems as if Beijing is showing the full extent of policies they could deploy in response to Trump’s protectionist rampage,” said Viraj Patel, a strategist at ING Bank NV in London.

While Trump regularly bashed China on the campaign trail for keeping its currency artificially weak, the yuan has gained about 9 percent against the greenback since he took office and has been steady in recent weeks despite the escalation of trade tensions between the world’s two largest economies. The Chinese currency touched the strongest level since August 2015 last month.

Other markets have been far more turbulent as both the US and China proposed tariffs on $50 billion of goods and Trump instructed his administration to consider levies on an additional $100 billion of Chinese products.

The S&P 500 Index has slumped more than 9 per cent from this year’s peak in January, while the Shanghai Composite Index has lost 12 per cent on concern that tensions between America and China could devolve into a full-blown trade war. Yields on US Treasuries have also declined from this year’s highs as investors shifted into haven assets.

While a weaker yuan could help President Xi Jinping shore up China’s export industries in the event of widespread tariffs in the US, a devaluation comes with plenty of risks. It would encourage Trump to follow through on his threat to brand China a currency manipulator, make it more difficult for Chinese companies to service their mountain of offshore debt, and undermine recent efforts by the government to move toward a more market-oriented exchange rate system.

It would also expose China to the risk of local financial-market volatility, something authorities have worked hard to subdue in recent years. When China unexpectedly devalued the yuan by about 2 per cent in August 2015, the move sent shock-waves through global markets.