Views on China | Why China’s devaluation might not trigger a currency war

The Chinese were introduced to currency wars via a best-selling series of books by Hongbing Song during the financial crisis, but many observers concluded the country had finally entered the global foreign exchange battle after its devaluation yesterday.
On the face of it this is odd. By the standards of emerging market devaluations, the 1.9 per cent drop in the renminbi against the dollar barely even counts. The Brazilian real has tumbled by more on 10 days this year already. Furthermore, the People’s Bank of China says it is a “one-time correction”.
Currency traders see it differently. The fall is the biggest for the renminbi since its dirty float — its average daily change this year, in either direction, has been 0.06 per cent.
Traders think there is more to come. The freely-traded offshore renminbi dropped 2.8 per cent and the offshore 12-month non-deliverable forward plummeted 3.6 per cent.
There are solid fundamental reasons for China to devalue. The renminbi has strengthened dramatically in trade-weighted terms, as the euro, yen and emerging market currencies fell sharply against the dollar, but China maintained its partial peg. As the PBOC noted, adjusted for inflation, the renminbi’s risen even more — 17 per cent since the start of last year in real trade-weighted terms, more than the dollar thanks to China’s higher inflation.
With a slower economy and a stock market crash, China has eased monetary policy a lot this year. Yet before the devaluation, the renminbi was barely weaker than at the start of January.
Until yesterday, the PBOC’s daily fixing had been helping to keep the currency stronger, consistently setting more than 1 per cent above the market rate (it can move in a 2 per cent band around the fix). Its new approach to setting the fix remains obscure, but if it has more of a “market orientation”, as it suggests, market pressure could see the currency weaken further.
However, there are reasons for doubt that more devaluations will follow. China has sophisticated policymakers, notwithstanding the chaos of its misguided efforts to shore up shares. If China really wanted a weaker currency, it would surely recognise that a big one-off move of 20 per cent or so, the amount the yen has dropped in the past 18 months, would be better than a drip-feed of small cuts.
Equally, China is fixated on qualifying for reserve currency status by entering the International Monetary Fund’s basket of “special drawing rights”, alongside the dollar, euro, yen and sterling. The IMF has delayed a decision until September next year to give China time to ease restrictions on the renminbi. Yesterday’s devaluation was supposedly part of the reform process, but if it turned out not to be a one-off it would not help the renminbi be accepted.
Traders might be proved right that the renminbi will fall further against the dollar, simply because further liberalisation of the currency would allow it to react properly to looser domestic monetary policy and slower growth. But those worrying that yesterday’s devaluation is a precursor of drastic weakening ahead, exporting deflation to the rest of the world, are probably going too far. James Mackintosh, Investment Editor, FT, MDT/Financial Times