China Manufacturing Outlook Remains Dim

Andamento del mercato - 01/02/2016

In spite of growing calls for monetary stimulus in the form of interest rate cuts and lowered bank reserve ratio requirements, Chinese policymakers are standing firm in their opposition to any such move to prop up the languishing manufacturing and industrial sectors.  Manufacturing figures released overnight underlined this point as both the official and Caixin purchasing managers’ indices remained firmly in contractionary territory.  Aside from adding more debt to an already burdened system that has experienced a staggering increase in outstanding credit, policymakers are left with few options to restore higher levels of growth to the economy.  At present, the most obvious policy adjustment is further devaluation of the Yuan in an effort to keep exports competitive amid an ongoing rally in the US dollar and shrinking export economy.  To date, this mechanism has been very effective in offsetting the strength in the US dollar which is problematic considering the existing peg.  However, the devaluation is not without great risks as evidenced by the pace of capital outflows experienced by China in 2015.

According to the Institute of International Finance, nearly $676 billion in capital fled from Chinese borders as speculation of further devaluation led holders of the Yuan to sell and shift into dollars while moving funds abroad.  Although there is a limit to the amount of money Chinese nationals can move out of the country, there are numerous ways these restrictions or soft capital controls can be circumvented, adding to the pace of flight away from the currency.  However, with devaluation largely viewed as the only way forward, Chinese policymakers have been keen to warn off traders and speculators betting on a further decline in the currency.  With other measures failing to demonstrably reverse the persistent weakness in financial conditions and regular interventions unable to slow the cascade lower in local markets, the most effective way to influence change is the exchange rate mechanism.  Expect sustained volatility in the USDCNH pair as a result, with the People’s Bank of China unlikely to give advance warning of another round of revaluation in the offshore Yuan.


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