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China's currency, the yuan (CNY), which is included in the International Monetary Fund's special drawing rights, has experienced a 2.7% depreciation against the U.S. dollar (USD) this month, marking its most significant decline since September.
Returning to February, the depreciation against the greenback reaches 5%, and investment banking behemoth Goldman Sachs hints at the possibility of a further drop.
In the past, the devaluation of the yuan has typically been seen as favorable for alternative assets like bitcoin and gold. However, on the flip side, a strong dollar can have contrasting effects. The United States currency is already displaying an upward trajectory, and if it continues to strengthen, it could result in ongoing global monetary tightening and pose a challenge for risk assets, including cryptocurrencies, according to certain observers.
The People's Bank of China (PBOC), the central bank of China, employs a managed-floating exchange rate system to loosely anchor the value of the Chinese yuan (CNY) to a basket consisting of 24 currencies. The daily midpoint or fix is determined each trading day to provide guidance to the market. This currency basket represents China's major trading partners, with the United States holding the largest share, accounting for 19.83% of the weighting. In addition to the U.S. dollar, other currencies included in the basket are the euro, Japanese yen, British pound, Australian dollar, and Mexican peso.
The PBOC's employs a managed floating exchange rate system for the Chinese yuan (CNY), allowing it to fluctuate within a 2% range on either side of the daily fix. The PBOC actively manages this fluctuation by engaging in the buying and selling of yuan. If the USD/CNY exchange rate approaches or exceeds the 2% limit, the PBOC intervenes by selling dollars and purchasing yuan to support and stabilize the value of the yuan. Simultaneously, the bank buys dollars against other currencies to maintain a stable proportion of the U.S. dollar in its reserves. This ensures that the intervention is effectively recycled into other foreign currencies.
This unintentional procedure inadvertently exerts upward pressure on the dollar index, predominantly composed of the euro and the Japanese yen, resulting in global financial tightening and fostering risk aversion.
"USD/CNY rally means PBOC will sell the pair to maintain the 2% band and has to buy the dollar against other currencies to maintain a stable proportion of USD in reserves. That pushes up the dollar index, leading to financial tightening and risk aversion," David Brickell, director of institutional sales at crypto liquidity network Paradigm, told CoinDesk.
Individuals or entities with liabilities denominated in U.S. dollars but income generated in other currencies face difficulties in meeting their debt obligations during periods of dollar appreciation. According to Brickell, over $17 trillion of U.S. dollar-denominated debt has been issued internationally. Consequently, the strengthening of the dollar often triggers a widespread sense of risk aversion on a global scale.
In the current month, the dollar index has experienced a notable 2.7% rally. Conversely, Bitcoin has encountered a significant decline of 7.3%, marking its most substantial monthly loss since December.
Noelle Acheson, previously in charge of research at CoinDesk and Genesis Trading, expressed that the interventions by the PBOC could potentially favor the dollar. However, she emphasized that these actions do not guarantee such an outcome.
"The PBOC has been hinting at more flexibility on the CNY target band than in the past - so it's not a given that it will intervene, especially if a weaker yuan helps exports (which are suffering)," she wrote in her latest newsletter. "Now China's priorities are different - also, PBOC has been diversifying reserves and could buy gold instead of more USD."
In a recent statement, PBOC Governor Yi Gang expressed the central bank's willingness to reduce regular interventions, thereby granting market forces greater autonomy in determining the exchange rate of the yuan. While emphasizing this shift, Yi also emphasized that the central bank maintains the authority to intervene during periods of market turbulence.
Source Coindesk
