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China's next riposte in US trade spat could be 'hidden weapon' of currency devaluation

Beijing's threat to fight fire with fire in its escalating trade spat with Washington had one crucial problem. 
After Donald Trump warned that the White House was lining up a further $100bn of tariffs on Chinese products, Beijing ran out of US imports to ramp up taxes on. 
Some $550bn of products emblazoned with the Made in China stamp flooded into the States last year. 
A mere $130bn made the journey across the Pacific to the Asian powerhouse. Beijing would have to go back to the drawing board. 
A currency war — the use of monetary policy to devalue a currency to gain an advantage in international trade by making exports cheaper, also known as competitive devaluation  — is one method for Beijing to even the odds in a trade skirmish between the world’s two largest economies.
Analysts believe that Beijing is mulling a devaluation of the Chinese yuan as a hidden weapon in its trade war arsenal. 
In brief | How did China devalue the yuan?
If the yuan sank against the dollar, it would make Chinese goods cheaper for American customers. If proposed tariffs were eventually put on imports from China, the devalued yuan would offset, or at least mitigate, the effect of tariffs slapped on imports. 
Chinese exporters would regain their competitive advantage against their US rivals burdened with higher costs in labour and materials and more stringent regulation.
Senior Chinese officials are said to be investigating the possible effect of a risky devaluation of the currency and assessing how it could be used as a bargaining chip in trade negotiations with the US.
The use of currency devaluations to stay ahead of the game in international trade is a well-trodden path. 
In the 1930s, countries ditched the gold standard to lower their currencies to nudge ahead of the competition during the Great Depression.
China's next riposte in US trade spat could be 'hidden weapon' of currency devaluation

Thousands of savers gather across the street from the New York Stock Exchange in October 1929 in the aftermath of the worst stock market crash in Wall Street history

Credit:
AP
While China has history on currency manipulation, past experimentation makes it less likely that Beijing will use foreign exchange dark arts to bolster its economy again.
The People’s Bank of China shocked markets in 2015 by devaluing the yuan as part of the country’s attempt to boost slowing exports. 
“Chinese authorities had to engage in a substantial fiscal policy programme to break the vicious cycle,” Hartwig Kos at SYZ Asset Management said. 
“While current circumstances are different [now], it is still not in the interest of Chinese authorities to risk potential market disruptions.”
Economists warn that a repeat would send shockwaves across markets again. 
Devaluing currencies is “never an effective tool” in a trade war and would “do more permanent harm than good”, UBS Wealth Management’s Geoffrey Yu warned. 
China holdings of US Treasury securities
“[It] would be so damaging to growth and market sentiment that it would hurt China more than the US.
“No one in China is really thinking about this in a serious sense.”
It is just “reminding the US that they have the tool available”, according to JP Morgan Asset Management’s Hannah Anderson.
“After the overnight renminbi devaluation in 2015, it took Beijing considerable time and effort to re-anchor market expectations, calm volatility, unify on and offshore yuan markets, figure out the most utilitarian currency management scheme, and most importantly, halt capital outflows.” 
During his Presidential campaign, Mr Trump vowed to name and shame countries that manipulate currencies gain an advantage in international trade but he is yet to formally point the finger. Markets were nervy ahead of the US Treasury’s semi-annual foreign exchange report released last week. The US resisted targeting just China, also naming 
Japan, Germany, India, South Korea, and Switzerland its “closely monitoring list” .
China only meets one of the criteria on the US Treasury’s manipulation hit list, ING said: its “significant” trade surplus with the US. However, it cannot be accused of purposely keeping the yuan weak against the dollar or holding a “material” current account surplus.
China's next riposte in US trade spat could be 'hidden weapon' of currency devaluation

Chinese President Xi Jinping could seek to devalue his country's currency, the yuan, to make Chinese goods more affordable for US consumers

Credit:
Mark Schiefelbein/AP
Market analysts warn, however, that the White House is still ramping up the pressure on trade. Donald Trump’s shock U-turn last week on the Trans-Pacific Partnership, a free trade pact with 11 Asia-Pacific nations which the US had pulled out of, was not the President softening his approach on trade but the Trump administration beginning to tighten the net around China.
“The TPP itself is obviously an anti-China structure,” Rabobank’s Michael Every said.
“You need allies to beat China on multiple fronts. Pushing Canada and Mexico away from the US into China’s arms would be a huge strategic error, while the rest of Asia would probably slowly slip the same way.”
If the Mr Trump formally releases a $100bn tariff hit list on Chinese imports, the ball will be back in Beijing’s court. After retaliating to the first round of tariffs, Vice Minister of Commerce Wang Shouwen gave this battle cry to reporters: “There will be no winners, but we are also not afraid of it... If someone insists on starting such a war, we will fight till the end.”
In the trade war of words, foreign exchange markets have been conspicuous by their absence thus far. 
At the moment, its bark is worse than its bit but backed into a corner, Beijing could be tempted to drag currencies onto the battlefield.
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