FX Viewpoint | EM FX: US-China policy divergence to gain traction | Article – HSBC VisionGo
- EM currencies have faced more hurdles lately
- The USD’s resilience has posed a challenge alongside signs of peaking global growth
- US-China monetary policy divergence suggests a higher USD-RMB, thereby guiding other USD-EM pairs higher
Many EM currencies have struggled, amid the USD’s resilience
Many emerging markets (EM) currencies struggled in July, as the broad USD strengthened on risk aversion. The rapid global spread of the Delta variant fueled concerns about global growth. More recently, high volatility in Chinese equities (amid regulatory changes for some industries) and US-China political noise also weighed on risk sentiment.
There are signs of peaking global growth
China has been leading the global recovery from the COVID-19 pandemic, but its sequential (QoQ) growth (that has historically been a good leading indicator for the rest of the world) has probably peaked in 2Q. Our China Activity Surprise Index has also declined in the past months (Chart 1). We believe some moderation in global growth would likely herald the end of the USD’s cyclical decline and make it harder for EM currencies to appreciate, comfortably. Moreover, it would only emphasise the importance of domestic policy framework in differentiating which EM currencies should outperform the others.
The Fed is transitioning towards tapering, while the PBOC cut its RRR broadly for most banks
In our view, the most important policy divergence is between the Federal Reserve (Fed) and the People’s Bank of China (PBOC). Fed Chair Jerome Powell said that the 27-28 July meeting was the first time that the Federal Open Market Committee (FOMC) began a “deep dive” on the issues of time and pace and composition of tapering. Our economists expect a formal tapering announcement in December. In contrast, the PBOC has taken a different path, as it announced on 9 July that it would implement a broad-based reserve requirement ratio (RRR) cut of 0.5%, effective 15 July 2021, aiming to support growth. This will likely reflect in a narrower yield advantage of the RMB, supporting our thinking that USD-CNY should move higher in the coming months.
A gradually higher USD-RMB will probably guide most USD-EM pairs higher, in our view
However, the absolute yield advantage of the RMB is still high at the moment and hence the currency’s weakness should be gradual (Chart 2), which in turn means EM currencies can adjust in an orderly manner. In the bigger picture, it is another reminder that the USD’s outlook is not as benign as it used to be.
This document is for information purposes only and should not be regarded as an offer to sell or as a solicitation of an offer to buy the securities or other investment products mentioned in it and/or to participate in any trading strategy. Information in this document is general and should not be construed as investment advice, given it has been prepared without taking account of the objectives, financial situation or needs of any particular investor. Accordingly, investors should, before acting on it, consider the appropriateness of the information, having regard to their objectives, financial situation and needs and, if necessary, seek professional investment and tax advice.
Certain investment products mentioned in this document may not be eligible for sale in some states or countries, and they may not be suitable for all types of investors. Investors should consult with their HSBC representative regarding the suitability of the investment products mentioned in this document and take into account their specific investment objectives, financial situation or particular needs before making a commitment to purchase investment products.
The value of and the income produced by the investment products mentioned in this document may fluctuate, so that an investor may get back less than originally invested. Certain high-volatility investments can be subject to sudden and large falls in value that could equal or exceed the amount invested. Value and income from investment products may be adversely affected by exchange rates, interest rates, or other factors. Past performance of a particular investment product is not indicative of future results.
HSBC and its affiliates will from time to time sell to and buy from customers the securities/instruments (including derivatives) of companies covered here on a principal or agency basis.
Whether, or in what time frame, an update of this information will be published is not determined in advance.
This report is dated as at 30 July 2021.
All market data included in this report are dated as at close 29 July 2021, unless a different date and/or a specific time of day is indicated in the report.
HSBC has procedures in place to identify and manage any potential conflicts of interest that arise in connection with its Research business. HSBC's analysts and its other staff who are involved in the preparation and dissemination of Research operate and have a management reporting line independent of HSBC's Investment Banking business. Information Barrier procedures are in place between the Investment Banking, Principal Trading, and Research businesses to ensure that any confidential and/or price sensitive information is handled in an appropriate manner.
You are not permitted to use, for reference, any data in this document for the purpose of (i) determining the interest payable, or other sums due, under loan agreements or under other financial contracts or instruments, (ii) determining the price at which a financial instrument may be bought or sold or traded or redeemed, or the value of a financial instrument, and/or (iii) measuring the performance of a financial instrument or of an investment fund.