Morning Commentary: Little Resistance

Foreign Exchange - Morning Commentary
Little Resistance 
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Andrew Kositkun
Andrew Kositkun
Foreign Exchange Head Trader
Equity markets have started the week off deeply in the red after last week’s trade war escalation. 
Overnight, the Chinese yuan weakened past the psychologically important 7 yuan to 1 USD level.  This was the first time in over a decade that the yuan has weakened past 7 yuan per 1 USD.  While Chinese officials have come out and said that they would not use exchange rates as a tool in the trade war, as well as reiterated that the yuan remains strong against a basket of currencies, there was a noticeable lack of resistance from Chinese authorities to weakness against the USD. 
With this line in the sand crossed, markets are now left to wonder whether a new front, i.e. a currency war, has been opened in the trade spat between the US and China.  As a reminder, the Chinese yuan is a managed currency.  To this point, the People’s Bank of China (PBoC) set its weakest fixing rate in the last eight months; some see this move as a signal from the central bank that it will now tolerate further currency weakness and that China is settling in for a drawn out battle.  In contrast, it was previously believed that the PBoC’s stronger fixings were an effort to establish a stronger yuan and avoid derailing trade talks. 
One notable aspect of this break of the 7 yuan to 1 USD level has been the relative calm in which the markets have received this news.  In prior instances when the yuan has approached the 7 to 1 level, the markets had a much stronger reaction partly due to fears of capital flight from China.  This fear stems from China’s elevated debt levels which requires adequate funding to sustain.  Capital flight out of China, which is normally exacerbated by a weaker currency, would undermine China’s ability to fund its debt.  However, China has implemented strong currency controls, which has helped alleviate some of these concerns. 
  • China has told state run agencies to stop buying American farm goods in response to the US’s tariff escalation last week. 
  • Bitcoin is up over 13% on the session.  With the increase in Chinese capital controls, Bitcoin is speculated to be an alternative way to move money out of the country. 
  • Global bond years are falling to unprecedented levels as investors seek safe havens.  UK and German yields have hit fresh lows with German yields negative all the way out to 30 years.  US 10-year yields have also hit their lowest levels since November 2016. 
  • In addition to US-China tensions, geopolitical tensions have also risen around the world with protests in Hong Kong continuing, Japan and Korea escalating their dispute and India revoking Kashmir’s special status. 
  • UK PM Boris Johnson has dramatically boosted public spending since taking office.  Most recently, Johnson announced details of his 1.8 billion pound plan to boost the National Health Service.  This follows recent pledges to increase infrastructure spending.  This uptick in spending has fueled speculation that the PM could be positioning himself for a general election.
  • In a related matter, Jeremy Corbyn, the leader of the opposition Labour Party announced that he would call a confidence vote on Johnson, which is a move that could ultimately trigger an election.
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