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China maintained a de facto peg forcing the yuan to be a strong currency. The result is that the economy is not growing as fast as China needs. A report on Saturday showed Chinese exports shrank 8.3 percent in July, compared with a Bloomberg survey’s median estimate of a 1.5 percent.
Chinese authorities built into the market an expectation that they were keeping the currency stable and promoting a greater global use of the yuan. Then all of a sudden, they devalued. Because they devaluate today, markets will continue to look for similar conditions in the future. If exports will continue to fall, markets will expect more depreciation.
Our view is that in a weak global economy, it will take a lot more than a 1.9 percent devaluation to increase Chinese exports. This raises the chances of a future new yuan devaluation that could likely force other central banks to continue to proceed with competitive devaluations.
The debt of Chinese Government should not be an issue for now given the high level of reserve they own in foreign currency.