China resistance to CNY weakness builds

CNY & AUD: US dollar weakens as China resists CNY weakness 

Today, we received further signals from Chinese authorities indicating their resistance to continued depreciation of the Chinese Yuan (CNY) and the broader depreciation of the US Dollar. These signals may be prompting more aggressive measures to ensure stability of the CNY against the Trade-Weighted Index (TWI). The People's Bank of China (PBoC) set the fixing reference for the CNY at 7.1466, significantly higher than the market's estimate of 7.2146, marking the widest divergence since last November. As a result, the announcement had an immediate impact on the US Dollar, causing a modest drop in the DXY index.

In an additional effort to reduce demand for the US Dollar, authorities announced an increase in the allowance for companies and financial institutions to borrow from abroad. Furthermore, both the Communist party and the government issued a joint statement vowing to improve corporate confidence by treating private companies equally to state-owned enterprises. While the statement lacked detailed plans, it could signal a shift towards reduced interference in the private sector, potentially boosting sentiment in the long run.

Among the G10 currencies, the Australian Dollar (AUD) stands out as the top performer today, although its correlation with the Chinese Yuan (CNY) has weakened. Additionally, positive jobs data release led to a notable increase in short-term yields, with the 2-year government bond yield rising by 12 basis points. The data revealed a significant increase of 32.6k in employment in June, more than double the market consensus, following a large increase of 76.5k in May.

The Reserve Bank of Australia's (RBA) decision to maintain rates on 4th July was considered a "hawkish hold," with guidance suggesting that further tightening might be necessary based on incoming economic data. This has raised the likelihood of a 25-basis points rate hike on 1st August. However, the Q2 inflation data, scheduled for release next week before the meeting, could influence the RBA's decision. A softer Consumer Price Index (CPI) print could persuade the RBA to hold rates. Monthly CPI data now makes the quarter-on-quarter data less surprising for the markets and investors, with a consensus expectation of a drop.

Global investors are showing increased optimism about a soft landing in the US, which may encourage the RBA to act. Nonetheless, cautiousness remains due to weak economic conditions in China. The odds for an August rate hike implied by the OIS market stand at around 50-50, with approximately 35 basis points priced in by year-end. Considering the positive jobs data and the assumption of another hike after a July pause, it appears more likely that the RBA will opt for a rate hike, providing support for the AUD in the coming weeks.

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