RMB slump worries overblown, two-way fluctuation expected

Concerns triggered by the recent Chinese currency volatility against the U.S. dollar are overblown, with two-way fluctuations between the currencies more likely for 2015.

A sharp depreciation of the Chinese currency will hamper its internationalization and may backfire as other countries engage in competitive devaluation, economists argued.

STRONGER DOLLAR

The yuan, or renminbi (RMB), continued depreciation against the dollar this week, with its spot exchange rate almost reaching the 2-percent floatation ceiling allowed by Chinese authorities. It's the sixth close call in seven trading days ending Tuesday, generating speculation on whether the RMB will begin a trend of depreciation.

Most economist believe the answer is no.

The currency's recent volatility is caused by factors like quantitative easing by the European Central Bank (ECB) and successive interest rate cuts in countries such as Australia, Denmark and Canada to tackle deflation and anemic economic growth risks, experts said.

The International Monetary Fund (IMF) last month predicted that consumer prices, a gauge of inflation pressure, will hover as low as 1 percent in advanced economies in 2015, lower than the forecast of 1.4 percent for 2014. Deflation normally leads to a string of economic challenges like dampened enthusiasm for consumption.

Experts suggest a holistic view on this issue.

"Global foreign exchange markets have undergone volatile fluctuations in the past two weeks. The yuan has depreciated against the dollar to some extent, but appreciated against major currencies like the British pound, euro and Japanese yen. It is not because the RMB is weakening against a basket of currencies, but because the dollar is growing strong too fast," said Xie Yaxuan, senior analyst with China Merchants Securities.

The dollar has been gaining momentum since July 2014 and the ongoing monetary easing of ECB and Japanese central bank will push the value of euro and Japanese yen even lower, leading to expectations that RMB will appreciate against them, said Sun Tao, a senior economist with the IMF.

Prior to the recent slump, the Chinese currency was consistently rising against the dollar, beginning with China's major foreign exchange reform in July 2005. Since then, the yuan has climbed more than 30 percent against the dollar.

TWO-WAY MOVEMENT

The RMB has witnessed regular two-way movement since February after hitting a historical high of 6.04 in mid-January last year.

Many experts believed that the value of RMB has reached an equilibrium level. The central parity of RMB fell 0.36 percent against the dollar in 2014.

In China's spot foreign exchange market, the yuan is allowed to rise or fall by 2 percent from the central parity rate set by the authorities each trading day.

"The depreciation of RMB against the dollar will not last for long, as China is pushing forward the RMB internationalization, and a sharp depreciation will make RMB lose some appeal to other economies," said Ou Minggang, director of the International Finance Research Center at the China Foreign Affairs University.

RMB has overtaken the Canadian and Australian dollars since November 2014 to enter the top five world payment currencies, trailing only the Japanese yen, British pound, euro and U.S. dollar, according to the Society for Worldwide Interbank Financial Telecommunication (SWIFT).

Room for further RMB depreciation against the dollar is "limited in the near term" and a stable currency with two-side volatility remains a preferred option for the Chinese central bank, said J.P. Morgan China Chief Economist Zhu Haibin.

"The impact of currency depreciation on the export sector might be limited. To start with, small depreciation will only have limited impact," said Zhu, adding that large depreciation will lead to competitive devaluation from other countries, which will compromise the initial purpose of currency depreciation.

Some economists argued that significant RMB depreciation will cause intensified capital outflows. China has a posted deficit on its capital and financial account for three consecutive quarters due to rapid increases in overseas investment and speculation of further RMB depreciation.

Zhu predicted that the most likely scenario in 2015 is for RMB to trade within a range, at between 6.1 and 6.3 against the dollar, and stay unchanged at around 6.15 by the end of 2015.

Chief economist with Bank of Communications Lian Ping forecasts the RMB will stage a two-way movement in trading against the dollar within a range between 6 to 6.4 this year, saying "drastic ups and downs in 2015 are unlikely to happen."

The central parity rate of the RMB strengthened sharply by 105 basis points to 6.1261 against the dollar Friday.

"Investors should not hold a skeptical attitude towards the capability of Chinese central bank to shape the market expectations about RMB exchange rates," said Liu Yuhui, an economist at the Chinese Academy of Social Sciences.