China has made a decision to devalue the yuan as policy makers made a move to provide additional support to exporters and increase the role of market pricing. The central bank reduced its daily rate by 1.9%, setting off the yuan’s largest single-day decrease since China put an end to their dual-currency system over twenty years ago. The People’s Bank of China referred to the change as a one-time adjustment and said the correction will become more in line with supply and demand.
The announcement implies that policy makers are now putting a larger emphasis on initiatives to battle the biggest economic downturn since 1990 and decrease the government’s hold on the financial system. Authorities had been supporting the yuan to prevent capital outflows, safeguard foreign-currency borrowers and present a case for official reserve standing at the IMF. The yuan fell 1.8% to close out today’s session at 6.3231 per dollar in Shanghai. The currency dropped 2.6% to 6.3790 in offshore trading, the largest discount to the onshore spot rate in four years. The central bank permits the Shanghai rate to diverge up to 2% from its daily fixing, set at 6.2298.
The devaluation shook global markets, sending the currencies of South Korea, Australia and Singapore down by at least 1% amid bets that other countries will search for reduced exchange rates to help keep exports reasonably competitive. Chinese airline shares fell on concern that dollar debt costs will climb, while commodities pulled back on speculation that yuan weakness will deteriorate the buying strength of Chinese consumers. U.S. Treasuries gained ground on rising demand for dollar denominated assets.
Intervention with the exchange-rate added to a $300 billion decrease in Chinese foreign-exchange reserves during the course of the previous four quarters. It also assisted in making the yuan the best currency performer within the emerging markets, a contributor to last month’s 8.3% slip in exports. The yuan’s actual effective exchange rate rose 13% over the course of the last four quarters. The currency was the highest of 32 major currencies monitored by the Bank for International Settlements indexes.