Welcome To The Currency War: China Devaluation Watch

Not so long ago, a big Chinese currency devaluation seemed both inevitable and imminent. The story went like this: China had borrowed tens of trillions of dollars in response to the Great Recession and squandered much of it on uncompetitive factories and ghost cities. The companies and governments that own these worthless assets were about to about to go broke en masse.

China would, as a result, have no choice but to cut the yuan’s value by as much as 40% to make domestic debts manageable and export industries competitive. Hedge funds, led by Hayman Capital’s Kyle Bass, were gearing up to bet billions on this event.

From a Bass report to his investors (via the Value Walk website):

There’s much, much more in Bass’ letter, all of it pointing to an epic crisis in which the exposure of China’s fake growth numbers, historically-unprecedented levels of malinvestment and evaporating foreign exchange reserves combine to force a devaluation.

But apparently not yet:

Yuan Hits Strongest Level Against Dollar Since Early December

(Wall Street Journal) – The yuan hit its strongest level against the dollar since early December on Friday, after the Chinese central bank boosted the fixed rate to keep up with the euro’s big gains overnight, analysts said.

Analysts said the move likely came as a result of a sharp rally in the euro Thursday, after European Central Bank President Mario Draghi appeared to suggest that the central bank wouldn’t cut interest rates further into negative territory. Mr. Draghi’s comments came after the central bank delivered another rate cut and ramped up its bond-buying program.

China wants to keep its currency in line with those of top trading partners Japan and Europe, said Daniel Tenengauzer, a managing director at RBC Capital Markets. “With the euro going up after the ECB yesterday, it makes sense that the bank would raise the fix,” he said.

Last year, the People’s Bank of China said it would change the way it manages the yuan’s value, with the exchange rate now being measured against a basket of currencies of its trading partners rather than the dollar alone. The move was seen as a demonstration of China’s determination to make the yuan a global currency, with a value determined more in line with other major currencies.