CNY: what can be expected in 2024?

What is the CNY’s outlook in 2024? To find out, let’s examine the principal risk factors likely to influence the currency market over the coming months, our analysts’ forecast and the key dates to watch.

The main risk factors in 2024

A more dangerous and uncertain world

2024 is the year of localised geopolitical risk. Everything began on 7 October 2023 in the Middle East. Since then, the number of friction points has grown: China/Taiwan, China/Philippines, Iran/Pakistan, Russia/Ukraine, Venezuela/Guyana, and others.

Added to this is an intense electoral cycle. More than 40% of world GDP could change hands at elections:

• The US election on 5 November is a key focus of attention. Its outcome could prove a turning point in the war in Ukraine, for example. But this is not the only important election.

• Municipal elections in Turkey on 31 March will probably be won by the ruling AKP party in Istanbul and Ankara.

• Legislative elections in India in April/May are expected to result in a crushing victory for the party of outgoing Prime Minister Narendra Modi.

• Do not forget European elections and the general election in the UK in the second half of the year, which is likely to see the Labour party return to power.

• Lastly, early legislative elections are probable in Israel, leading to the possible departure of Prime Minister Benyamin Netanyahu – a potential turning point in the conflict.

The world at the end of 2024 will be nothing like the world we know today.

Canals in danger

For decades, it was thought that trading routes were secure, but this no longer holds true. The strait at the entry of the Red Sea, through which 21% of global container trade transits, is not safe to navigate today because of the asymmetric war pitting the Iran-backed Houthi rebels against an international coalition including France. Ships are having to be re-routed through the Cape of Good Hope in South Africa, raising freight costs. But this is not sufficient to rekindle inflation. A report published in January by the Bank of England showed that if the Red Sea route is disrupted throughout 2023, this would only raise annual inflation by a meagre 0.4-0.6 points. That said, it would lead to congestion at ports, as was the case during the Covid crisis, destabilising supply chains, particularly in Europe.

Asia is no longer safe either. Shipping routes in Eastern Asia that cross the Taiwan strait and the South China sea, through which 40% of the EU’s external trade transits, could become more dangerous amid mounting tensions between China and neighbouring countries (Taiwan and the Philippines) over the sovereignty of several islands and atolls. Climate change is another factor to consider.

The Panama Canal is no longer fully operational because of an unprecedented drought.

The safe passage of goods is becoming a structural subject for the markets and the economy. This is new.

A different monetary cycle from others

Policy rates are set to be lowered in 2024. This is the only certainty. But when and by how much? This is where the difficulty lies.

There is big disconnect between market expectations and what central bankers are saying. The money market forecasts around 150-160 basis points of rate cuts on both sides of the Atlantic this year.

Central bankers are more sceptical. Their baseline scenario is 50-75 basis points of rate cuts.

This is a differential of almost 100 basis points. One of the two is wrong. We think it is the money market, which is forecasting an aggressive rate-cutting cycle like those seen in the past. But there is one major difference this time: there is no recession.

Consequently, it does not make sense to slash interest rates. This is the message central banks are conveying. This cycle is different. It will take a little time before the markets revise down their expectations.

At the very least, this implies a revival of volatility in the currency market.

CNY: stability is the priority

The accumulation of risk factors should logically lead to a period of renewed volatility for the CNY. But this would be to forget that this currency is partly administered by the Chinese central bank (PBoC). The exchange rate mainly depends on the government’s economic targets and the economic trajectory, not on supply and demand.

The long-term objective (over several decades) is to strengthen the currency to foster its acceptance as an international trading currency.

The PBoC nevertheless reserves the right to intervene in the currency market, especially when it believes the economy is in crisis, with falling exports and weakening capital inflows.

Its last intervention dates back to August 2023, when the CNY had hit a 16-year low against the USD. At that time, the central bank ordered local commercial banks, which held substantial currency reserves, to sell massive amounts of dollars to contain the CNY’s depreciation.

The authorities’ watchword is stability. They want to avoid at any price a rapid or uncontrolled depreciation or appreciation of the CNY, which could accentuate the structural fragilities of the Chinese economy. We doubt the central bank will deviate from this approach in 2024.

In view of the ongoing economic slowdown, it is likely to accept a tightly controlled and modest depreciation of the CNY this year.

The CNY is today 10% below its average exchange rate over the past ten years. We expect it to depreciate a little further. If the PBoC observes excessive fluctuations in the exchange rate, whether upwards or downwards, you can be sure that it will intervene either directly or through local commercial banks.

Other minor factors may also influence the CNY:

• The trade balance. A current account surplus (exports > imports) tends to strengthen the currency.
• Geopolitical risk and commodity prices. A heightening of international strains triggers inflows into the US dollar, which serves as a safe haven, resulting in weaker demand for the CNY. In general, however, this is a very short-term phenomenon.
• Support measures for the Chinese stockmarket. This happens frequently and can boost the attractiveness of Chinese stocks for foreign funds, leading to a temporary spike in inflows into the country and providing marginal support for the CNY. This is also a very short-term phenomenon.

Key dates to watch

10/02: start of the Chinese New Year. This holiday period usually coincides with a decline in liquidity and an appreciation of the yuan (strong demand for cash). This is why the PBoC pre-announced the 50 basis point cut to banks’ reserve ratio requirement, effective as of 5 February. This is set to inject around 1,000 billion yuan into the economy. It is essentially a liquidity support measure.

20/05: the president-elect of Taiwan, Lai Ching-te, who is hostile to Beijing, officially takes up office. China can be expected to react.

01/10: this is the 75^th anniversary of the foundation of the People’s Republic of China. This is a major test for President Xi Jinping, who is facing a fast-slowing economy. However, concrete economic measures are unlikely to be announced at this time.

05/11: US presidential election. If he wins, Donald Trump plans to eliminate within four years Chinese imports of electronic goods, steel and pharmaceutical products. This runs the risk of intensifying the trade war. But make no mistake about it: a second term for Joe Biden does not imply an easing of tensions. Between Biden and Trump, it is mainly the form, not the substance, that differs when it comes to China. Both want to reduce the US economy’s dependence on China.

December: Central Economic Work Conference in China. This is THE conference to watch to discover China’s economic priorities for the coming year. In December 2023, it led to three key decisions: 1) support for the property sector through access to low-cost loans; 2) targeted tax cuts for technology companies and the manufacturing sector; and 3) no planned increases in public expenditure by the central government and the provinces. This casts doubt on any prospect of a massive fiscal stimulus plan.