How the corona virus is infecting the forex market

10 February 2020

Chinese_financial_crisis_cover

The corona virus is creating ever more victims, and serious unrest. On the forex market, currencies from emerging countries are bearing the brunt. This has everything to do with falling prices for commodities like coffee and oil.

The corona virus outbreak is dominating the news. Media attention is now shifting away from the disease itself and the growing number of new infections, towards the impact of the virus on public life. Shops are losing considerable business because Chinese consumers are staying home as much as possible. This blow is particularly harsh because consumer spending always enjoys a boost in the period around the Chinese New Year. The central bank is pumping tens of billions of euros into the economy to prevent too sharp of a decline in growth.

Why is the Brazilian real getting crushed?
On forex markets, the corona virus outbreak is hitting currencies of emerging countries particularly hard. In part, this is because many investors are seeking out the safety of the dollar and other hard currencies. On the other hand, indirect forces are also at play. For instance, the price of coffee has fallen by 18% as major coffee chains close down thousands of Chinese branches. This is a setback for Brazil, a coffee exporter. Brazil also exports industrial metals, whose prices have also fallen sharply due to slower Chinese growth. Thus, the Brazilian real lost 6% of its value against the dollar within a few weeks.

Surprisingly: the renminbi remains relatively unscathed.
Petro states have also fallen victim to the corona virus on the forex market. China is the world’s biggest oil importer. The expectation that residents of China will not be taking to the roads as much for the time being has pushed oil prices down by some 14%. This triggered a 5% drop in the Russian rouble against the dollar in the last three weeks of January. However, the loss of value in the Chinese renminbi itself has been extremely mild compared to other emerging currencies. Its decline held to around 2% against the dollar.

Little leeway
One major reason behind the strikingly small loss in value is the highly limited leeway that the Chinese authorities allow the currency. To prevent speculators mounting an attack on the currency, it is not permitted to fluctuate much against the dollar. If you want to do business in China, you can only convert large amounts to or from renminbi with government authorisation. This approach prompted the United States to label China a currency manipulator. Incidentally, as part of the trade agreement between the two countries, that accusation was withdrawn in January.

Some catching up to do
It is highly likely that the renminbi will enjoy ever-increasing leeway in the future. China has spent years expanding its economic power on the international stage. The task will be bit easier with its own, independent currency. This means that in the future, crises like the corona virus may result in wider exchange rate fluctuations for the renminbi. However, the gradual release of the currency will play out over years. It appears that other emerging countries will steal the show on the forex market first, once the corona virus outbreak ultimately subsides.

Joost Derks is a currency specialist at iBanFirst. He has over twenty years of experience in the forex world. This column reflects his personal opinion and is not intended as professional investment advice.