Will Chinese Renminbi Destabilize Markets as Trade Wars Escalate?

The trade war between Washington and Beijing has tipped China’s currency onto a path of destabilization. If hostilities escalate, China may let its renminbi (RMB) fall further. For investors, that could mean more volatility and tighter financial conditions.

The renminbi depreciated sharply against the US dollar in June after President Trump announced that he would potentially seek tariffs on virtually the whole of the US’s inbound trade with China, worth about US$450 billion a year.

More recently, Trump threatened to increase the size of the tariffs on goods worth nearly half that amount, unless China makes certain concessions.

China’s Growth Has Slowed

To be fair, it isn’t only the trade war that’s weighed on the RMB. As the display shows, the RMB has broadly tracked the US dollar for the last two years or so, becoming in the process a source of global currency stability. [Display]

But that relationship began to change earlier this year, before any tariffs were officially announced. At the time, the outlook for China’s economy had begun to deteriorate, while the US economy performed well. As the interest-rate differential between the countries was also changing in the US’s favor, there seemed to be fundamental reasons for a revaluation of the RMB against the dollar.

The RMB remained closely correlated to the US dollar, however, even as the latter strengthened. In April and May, the RMB faced further challenges as emerging-market currencies weakened and the US dollar appreciated further. Still, it was slow to respond.