Could the Fed Shift to an Easy Cycle?

USDCNH Takes a Drastic Dip – What It Means for the Dollar and the Yuan

Since July, the USDCNH (Dollar‑to‑Offshore‑Yuan) has been sliding down like a rogue roller coaster. It even dipped to 7.07, the lowest point since late May 2023. The driving force? Everybody’s gut feeling that the Fed might finally start easing – which, in turn, launches a massive USD sell‑off.

Is the Yuan’s Rise a One‑Shot High?

Short‑term hype, long‑term doubts. Right now it looks like the biggest drag on the dollar has hit its tipping point, and the Chinese side is re‑thinking how far the yuan can climb. For the past three years, Chinese officials have quietly let external tightening play out so that the currency stays stable and the real interest rates align with the US.

With the Fed cutting rates, the People’s Bank of China (PBoC) has more leeway. But the bank just bought 400 billion yuan in special bonds, which shaves down bond market rates – a move that can actually weaken the CNH, even though it injects liquidity that helps the risk markets feel better.

China’s Economy: Doing the Slow Dance

Property slump: Top 100 developers’ new‑home sales fell 27% YoY in August.
Land sales revenue is down, putting local governments’ budgets under a lot of strain.
High youth unemployment and weak domestic demand keep the growth ticket at 5% a stretch.
Need more stimulus and policy easing to reach that target.

All of this suggests that any relief in the USDCNH after hitting low levels is likely to be temporary. The yuan may look temporarily strong, but the underlying fundamentals won’t let that firmness last.

Picture This: A Global Currency Exchange Game

Imagine exporters holding onto their dollars – they finally decide to swap them for yuan to beat the current rates. Commercial banks follow suit, exchanging dollar reserves for yuan. This ripple creates a passive easing cycle, and the central bank now buys dollars and sells yuan to keep balance. With half of the PBoC’s balance sheet in foreign exchange as of July 2024, we could see a mean reversion in the USDCNH. However, this process might take longer than the initial surge.

Friday’s Payroll Report: A Quick‑Hit “What If?”

The upcoming US nonfarm payroll data could be a short‑term risk to the exchange rate. If the job gains stay below 130k and the unemployment rate hovers at 4.3%, folks will fear a weaker labour market and swap re‑pricing toward a 50 bp cut. That could push the USDCNH back to revisit its recent low of 7.07. If the data looks better, the trend should keep heading up, with 7.18‑7.2 as the next watch points.