FX Viewpoint 19 Nov 2021 | RMB: After Xi-Biden summit… | Article – HSBC VisionGo

RMB: After Xi-Biden summit…
Finance  ·    ·  6 mins read

  • Xi-Biden summit, opening up room for more cooperation, somewhat supports market optimism over the near term
  • A potential pick-up of bond inflows is supportive for the RMB
  • The normalisation of China’s current account surplus and the Fed’s rate hikes could play a role for the RMB, perhaps next year

Recently, USD-RMB has diverged from US-China yield differentials (Chart 1). In the near term, the RMB should be supported by the following three factors, in our view:

Xi-Biden summit opens up room for more cooperation

1.  Constructive “vibe” in the virtual summit between Chinese President Xi Jinping and US President Joe Biden on 16 November: Chinese President Xi Jinping and US President Joe Biden held a virtual summit on 16 November. This was their first "face-to-face" summit that lasted around 3.5 hours. The two leaders saw the summit as “constructive and substantive” (Xinhua, 16 November 2021). This will set the tone for subsequent minister-level meetings, somewhat fuelling market optimism and the RMB, in our view.

WGBI inclusion could see more foreign inflows into Chinese bonds 

2.  A potential pick-up of bond inflows related to the FTSE World Government Bond Index (WGBI) inclusion: Following the end of the Bloomberg Barclays Global Aggregate Index’s (BBGA) 24-month inclusion period, foreign investors have slowed down their purchase pace of China’s bonds since the start of 2021 (Chart 2). As FTSE started to include Chinese government bonds into its WGBI from 29 October 2021 over a 36-month inclusion period, this could help reverse the trend of declining bond inflows, thereby supporting the RMB, in our view. 

China’s large current account buffer for the RMB may take time to narrow

3. China’s current account surplus is still large and it is unlikely to narrow quickly, unless global growth momentum (exports) slows faster than domestic demand (imports), or until outbound tourism and other services imports recover. With a large current account surplus, the RMB may not be affected much by the Federal Reserve (Fed) reducing, or tapering, its monthly bond purchases.

Normalising current account surplus and the Fed’s rate hikes will probably play a role in the RMB over the longer term, in our view

In the longer term, when China’s borders re-open and the pandemic is under control in more parts of the world, it is likely for China’s large current account surplus to normalise, in our view. We also believe that the RMB will eventually be affected by the Fed’s rate hikes, as this will directly affect residents’ FX hedging and portfolio investment decisions. The rates market is pricing in roughly two rate hikes by end-2022, while our economists’ baseline inflation projections suggest that rate hikes will commence only in 2023.

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