China’s Fighting the Wrong Battle for the Yuan

As the U.S. dollar hits highs for the year, the People’s Bank of China seems determined to hold the value of the yuan at seven to one, or stronger. This barrier holds little technical significance, but its psychological value and the central bank’s interest in holding the line are enormous.

While it’s difficult to confirm, there’s strong evidence that the PBOC is managing prices in the foreign-exchange market. Renminbi forward rates are essentially unchanged from spot rates extending out as far as three months. Amazingly, from three months to almost two years, implied forward rates suggest yuan strengthening. As China’s currency has been weakening steadily in the past few months, the forwards market is announcing that the bottom has been reached and strength will follow.