Last week’s move by the PBOC to change its RMB exchange rate framework happened quicker than analysts at Morgan Stanley thought it would.
But, having moved before the IMF made a determination as to whether it would include the RMB in its SDR basket, the Global Economics and Strategy Research Teams at Morgan Stanley believe the Chinese currency will need to weaken further. Chinese authorities will also need to undertake more monetary and fiscal stimulus because the economy has weakened further.
Like analysts in many investment banks, including Credit Suisse, Morgan Stanley said it believes USDCNY will end the year at 6.60 from the current level of 6.29 – a rise in USDCNY, fall in the value of the yuan, of around another 3.2% from current levels.
More telling though, the bank said Chinese authorities were facing the 3D challenges of “debt, demographics and deflation, and that while recent easing measures are a step in the right direction, they are not as yet addressing the deflation pressures in a quick and comprehensive manner”.
That’s important because with the economy slowing and “one of the key investors’ questions is whether the change in the fixing mechanism is part of a broader stimulus package that is yet to be announced,” Morgan Stanley said.
“In this regard, we would note that policy-makers have already been taking up a number of monetary and fiscal easing measures and at an accelerated pace in recent months, which is aimed at addressing the weak trends in aggregate demand.”
But, more stimulus is necessary:
Our base case view is that policy-makers will follow up on the move on the currency front with more monetary and fiscal easing (specifically significant RRR cuts, 1 more interest rate cut and accelerated pace of fiscal spending), a need that has been underscored by the slippage of MS-Chex (our proprietary indicator of economic activity) to -0.3% YoY in July from 3.4% in June and persistent deflation in producer prices (at -5.4% YoY in July). However, the extent of the stimulus measures is unlikely to be anything similar to that taken up in 2008-09, as underlying labour market conditions are not likely to be as severe.
Even though the labour market is in better shape than many reckon, and even though Morgan Stanley says the stimulus package won’t be of the size and scale of 2008-09, the labour market is still “key to predicting the size of the stimulus,” they say.
The good news is that Morgan Stanley says “the labor market is unlikely to go through the same kind of shock as we saw in 2008-09 – as we don’t see a similar shock in labor demand and working age population growth is currently close to zero as compared to 1.3% YoY in 2007.”
That is if that outlook is actually good news.
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