China’s yuan softens as dollar rises to two-year highs

SHANGHAI: China’s yuan weakened on Tuesday as expectations of steep rate rises by the US Federal Reserve lifted the dollar, but moderating expectations for aggressive loosening by China’s central bank kept losses in check.

“We’re still digesting expectations for further rate hikes by the Fed. The situation for the yuan will only improve when these expectations ease. The dollar still has room to strengthen,” said a trader at a foreign bank.

The US dollar index, which measures the greenback against a basket of its peers, touched new two-year highs on Tuesday, and was last at 100.935, as benchmark US Treasury yields hovered near their highest since late 2018

Despite the dollar’s strength, the People’s Bank of China set the yuan’s daily midpoint rate slightly firmer at 6.372 per dollar before the market opened, from 6.3763 on Monday.

Spot yuan opened at 6.3700 per dollar and was changing hands at 6.3719 at midday, 53 pips weaker than Monday’s late close.

The offshore yuan softened to 6.3818 per dollar from a close of 6.3799.

Narrowing spreads between Chinese and US yields have weighed on the yuan this year as differing economic outlooks have prompted increasingly divergent monetary policy outlooks for the two countries’ central banks.

China’s GDP data, PBOC’s caution over stimulus, limits yuan’s decline

The 10-year China-US spread is presently inverted, with the US 10-year yield 0.35 basis points higher than its Chinese equivalent.

On Monday, St. Louis Federal Reserve Bank President James Bullard said inflation is “far too high” as he called for increasing interest rates to 3.5% by the end of the year.

Meanwhile, China remains on a loosening path. To support the economy, the People’s Bank of China (PBOC) announced on Friday a cut to the amount of cash that banks must hold as reserves.

But analysts have scaled back their forecasts for aggressive loosening by the PBOC, because the cut in the reserve requirement ratio was smaller than expected.

Analysts at Maybank said there had been signs of capital outflows in recent weeks, with foreign investors in March cutting holdings of Chinese government bonds at the fastest rate since 2015.

“Lingering growth concerns in light of COVID restrictions could continue to weigh on the yuan as well but (the) PBOC’s preference for prudence, (and the) potential for USD to peak could keep the yuan relatively stable,” they said.