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China’s weakening renminbi represents a new risk for a number of Asian currencies that had managed to escape much of the recent rout in emerging markets until now.

The Korean won, the Taiwanese dollar and the Singapore dollar are among the vulnerable parts of EM in recent weeks, representing a new chapter in this year’s currency weakness versus the US dollar.

The dollar’s strength has been the main driver of the 2018 EM weakness with the likes of Argentina, Turkey and South Africa particularly vulnerable given their current account deficits. In contrast, those EM countries with surpluses were sheltered.

Patrick Zweifel, economist at Pictet, said Asian currencies were under strain not because of an EM contagion effect at play but because of 「trade tensions and exposure to China and a weak renminbi」.

For investors, the latest shift in currency weakness suggests the risk of broader market and economic stress is rising. Late last week, the US president declared he was ready to impose tariffs on all $500bn of Chinese imports, while he attacked a stronger dollar and the Federal Reserve’s intent to keep tightening interest rate policy.

China’s regional trading partners have much to lose from trade tensions escalating. That includes Australia, whose currency’s performance against the dollar now appears to be heavily reliant on how the renminbi moves.

It means that many Asian currencies are in effect beholden to China’s policymakers at the People’s Bank of China for currency stability.

「Being an anchor of the Asian currencies due to its economic weight in the region, the Chinese renminbi is directing the path of Asian currencies,」 said James Kwok, deputy head of FX at the European asset manager Amundi.

If, for example, the Korean won is to steer a passage through the upcoming squalls of trade tensions with minimal disruption, it is dependent on the PBoC managing to contain the forces threatening to drive its renminbi lower.

Investors are focused on the extent to which the PBoC will allow the renminbi to fall. Against the US dollar, the renminbi has fallen more than 5 per cent since the start of June.

China’s currency has topped the Rmb6.8 per dollar mark, its weakest level in a year, reflecting slower growth and tighter credit. In turn, industrial metals prices such as copper, lead, nickel and zinc have fallen sharply, knocking sentiment in shares for global miners.

The latest renminbi shake-out came in spite of remarks by China’s foreign exchange regulator that it would take steps to ensure the currency stayed stable.

As Kit Juckes at Société Générale said: 「Concerns about the [Chinese] authorities allowing further currency weakness will affect the whole Asian currency area.」

The consequences of a weaker renminbi on Asian economies are apparent. As Bank of America Merrill Lynch pointed out, a weaker renminbi reduces the purchasing power for Chinese importers, adding to the argument that 「regional export growth could weaken」 over the rest of 2018.

The list of Asian currencies aping, tracking or correlating with the renminbi’s weakness against the US dollar is growing. Recent currency moves show how the Korean won and the currencies of Taiwan and Singapore are in 「lockstep」 with their Chinese counterpart, said Gaurav Saroliya, macro strategist at Oxford Economics.

「The macro linkages are absolutely critical. They are so intertwined with the fortunes of China,」 Mr Saroliya said.

Added to that list, according to Mr Juckes, is the Australian dollar, the New Zealand dollar, the Malaysian ringgit, the Indonesian rupiah and even Japan’s yen.

In all cases, 「China is a big part of their market」, Mr Juckes said. In Japan’s case, said Mr Saroliya, it has a lot to lose from a decline in global trade. 「Japan is more anchored to global trade than the US,」 he said.

The question for Asian central banks is how to respond to a sustained period of further renminbi weakness. One factor that won’t be lost on them is how China’s currency is weakening, not just against the US dollar but against other Asian currencies.

The opinions expressed do not constitute investment advice and specialist advice should be sought about your specific circumstances.

Published on our website on Thursday, 28 July, 2017