Latest round of US dollar strength ‘has hit peak’

The current round of US dollar appreciation has reached its peak and there is limited upside, according to an article by the People’s Bank of China, published in a bid to play up market sentiment amid yuan weakness and record outflows from Chinese assets.

The yuan hit a two-week high against the US dollar yesterday, with the American currency coming under pressure after US Federal Reserve chairman Jerome Powell said rate increases could be scaled back “as soon as December”.

Possible slower interest rate increases by the US Federal Reserve could suppress the “upward momentum of the dollar”, said the article published yesterday by Financial News.

“On the whole, the decline in the US dollar is likely to mean that the current round of appreciation has reached its peak, and there is very limited room for subsequent surges,” it said. “However, this does not mean that the appreciation cycle of the US dollar has come to an end. The US dollar will remain strong for a period of time to come, and it may take time to go into a depreciation cycle.”

The Federal Reserve last month announced a fourth straight 75-basis-point rate rise, which raised benchmark interest rates to the highest level since 2008 and further widened the monetary policy gap between the world’s two largest economies.

The United States was facing the risk of entering into a recession in the first half of 2023, the article added, and because there were constraints when it came to fiscal expansion, it might prompt the Federal Reserve to halt rate increases in the third quarter of next year or even cut rates.

The Federal Reserve is expected to announce a smaller increase to interest rates in two weeks, having already lifted its range from near zero in March to between 4.25 and 4.5 per cent.

Commerzbank said yesterday the recent strengthening of the yuan was likely due to improved sentiment over the prospect of China’s reopening after health officials said they would speed up vaccination for the elderly and warned against excessive control measures by local authorities. The yuan has recovered in the last few weeks, but it lost as much as 13 per cent against the US dollar in 2022.

“However, the rally could be temporary as the zero-Covid stance largely remains and the reopening will likely be bumpy and messy,” Commerzbank said.

Since April, yields of China’s government bonds have declined compared to US Treasuries, which have attracted record inflows from foreign investors.

Overseas investors pulled US$8.8 billion of funds from Chinese stocks and bonds in October, reflecting changes in sentiment over geopolitical concerns and anxiety about the zeroCovid policy, according to the Institute of International Finance.