Forex Investment and Currency Trading

The Chinese yuan (CNY) has been on an appreciating path since its de-pegging and revaluation on 21 July 2005. At the start of 2008 there had been suspecting a shift by the Chinese authorities towards managing the CNY more on a trade-weighted basis rather than just against the USD. However since July 2008 the CNY has remained in a narrow range against the USD while the USD has been rallying against most other trading partner currencies. This suggests that there is some reluctance to move the CNY weaker against the USD. The result has been a sharp appreciation in the nominal effective exchange rate (NEER) since July. Indeed by estimates the CNY real effective exchange rate (REER) is at the strongest level in 20 years.

There are three key issues arising from this recent strong trade weighted appreciation: First, It is not particularly meaningful to compare China now with China 20 years ago. Productivity increases and structural changes have been huge, making direct comparisons less meaningful. Second, this recent sharp appreciation does give room for some modest depreciation in the CNY early in 2009 without any justified international criticism. Third, the longer term trend of appreciation is by no means all over. We will know when the CNY has reached “fair value” when we get there. Specifically the current account balance needs to narrow to more manageable levels. There is an increasing risk that the policy focus in Beijing may shift heading into 2009. Broadly economic policy has already loosened significantly. Market View: CNY will continue to be managed on a trade-weighted or NEER basis. Thereafter, look for further gradual CNY appreciation over the next few years against the USD.