by Julia Gledhill
Anxiety in the global stock market is growing given President Trump’s newest round of $200 billion of tariffs on Chinese imports. Asian markets particularly are declining for the third consecutive trading session because of fears of the U.S. – China trade war. In the past month, the People’s Bank of China has announced the reintroduction of a counter-cyclical factor mechanism to support China’s currency, the yuan. The authorities are putting a “floor” on yuan after letting the currency take a sharp decline. The PBOC stated that the support for the yuan is intended to prevent herd behavior in the foreign exchange market. However, the Trump administration has accused Beijing of currency manipulation to mitigate the impact of tariffs and help Chinese exporters.
The counter-cyclical mechanism lowers the risk of the yuan’s depreciation. The PBOC sets a daily “fix” or “reference rate” each day and traders/investors can trade up to 2% on either side of the reference rate. The PBOC’s support of the yuan is meant to stave off rapid depreciation and subsequent capital flight. The China Foreign Exchange Trade System stated that trade tensions and the strengthening dollar were the primary reasons that investors lost confidence in the yuan. The Chinese economy is struggling to sustain growth because of lagging industries like factory investment and retail sales. Chinese agencies are also relaxing credit to incentivize consumption and support economic growth. These activities in conglomeration with trade tensions contribute to the weakening of the yuan. As Chinese exports decline, confidence in the Chinese economy further deteriorates.
While President Trump imposes further sanctions on China, progress in trade negotiations with the European Union and Canada remains unclear. The Trump administration seems to be reliant on the notion that they can successfully renegotiate NAFTA and ease tensions with the European Union. Donald Trump has alienated the United States’ primary trading partners. Larry Kudlow, the White House’s top economic advisor, provided his views on the economy on CNBC last month. He highlighted mild optimism on ongoing talks with the European Union. He also noted continuing negotiations on a revised North American Free Trade Agreement with Canada, after the administration reached a deal with Mexico. While there is a common interest in tackling Chinese unfair practices, remaining reservations on both sides prove significant obstacles to the Trump administration reaching agreements with both Canada and the European Union. Positive trade relations with Canada, Mexico, and the European Union are critical to economic stability during a trade war with China. Additionally, a group of lawmakers asked secretary of state Mike Pompeo and treasury secretary Steven Mnuchin to impose sanctions on seven Chinese officials over human rights abuses in Xinjiang last month. The proposal arises amid detention of hundreds of thousands of Uighurs and other Muslim minorities in Xinjiang.
As trade tensions rise between the U.S. and China, the global financial market experiences the ripple effects. Time will tell if China experiences a capital flight as investors lose trust in Chinese markets.
