Concerns and Mooncakes – Commerzbank

As China celebrates the Mid-Autumn Festival today and tomorrow, monthly economic data for August was already released on Saturday. And for some, it may have spoiled their appetite for mooncakes. The data disappointed almost across the board and painted a picture of a weak Chinese economy, notes Volkmar Baur, FX strategist at Commerzbank.

The CNY is likely to depreciate slightly against the Euro

“On the manufacturing side, the industrial index cooled more than expected, rising only 4.5% year-on-year, while the services index rose 4.6%. On the demand side, retail sales disappointed even low expectations, rising just 2.1% from last year. Investments weren’t much better, rising only about 2 percent in August as problems in the housing market continued to weigh on construction investment. The real estate sector remains China’s biggest headache, with housing starts and new home sales down about 20 percent from last year. There are still no signs of it touching down and house prices show no signs of stabilizing.”

“All of this continues to weigh on China’s financial markets, particularly bond yields. As a result, the current interest rate on 10-year Chinese government bonds fell to a new all-time low of just 2.07% at the end of last week. A few weeks ago, China’s central bank had mentioned a 2.25% “target” for 10-year government bond yields and intervened in the market. However, despite the recent drop in yields, no further action has been mentioned.”

“This cap was more to prevent the interest rate differential with the US from becoming too large to support the CNY, which at the time was around 7.27 to the US dollar. However, this interest rate differential narrowed significantly as US interest rates fell. This, in turn, has eased pressure on USD/CNY, which has recently hovered around 7.1. Therefore, falling interest rates are no longer such a big issue for the PBoC. Consequently, I expect China’s weak economy to continue to weigh on interest rates in the coming months. Therefore, CNY’s upside potential against the USD as a result of a weaker US currency should be limited. And therefore the CNY is likely to depreciate slightly against the Euro in the coming months.