Exports and Ego, Why China Devalued Their Currency

By | August 12, 2015

Yesterday, China’s surprise devaluation of the Yuan sparked global market movement ultimately, resulting in mortgage rates quickly dropping below 4% on top tier conventional scenarios. Generally there is minimal link between China and movement of low mortgage rates in the U.S. however, yesterday’s news spooked global markets. The effects of which, have been felt broadly across most markets including that of mortgages and mortgage backed securities.

China, the world’s second largest economy, devalued their currency by the most they have in the past 20 years. The reasoning behind China’s devaluation is likely twofold:Yuan

  1. Exports: devaluing the Yuan will cheapen the price of China’s exports, making them more attractive and competitive in the global market.
  2. Ego: China has recently expressed interest in having the yuan included in what is considered an ‘elite’ group of currencies used by the International Monetary Fund (IMF). Doing so would heighten the prestige of the yuan, and while it is currently being used with more frequency in international transactions, inclusion with the U.S. dollar, euro, British pound, and Japanese yen in the IMF’s currency basket would help bolster the yuan’s use internationally.

While the result of this move will likely bolster the Chinese economy, exports and the manufacturers of these exports in particular, most markets including the U.S. stock market, as well as those in Europe and Latin America, were hit hard by the news. It is important to keep in mind that it isn’t necessarily the cheaper goods that will be coming out of China that are causing so much market movement, but rather it is the doubt and concern that this move raises among investors. The U.S. has long speculated that China keeps its currency artificially low, leading investors and analysts to consider and wonder whether China’s economy is slowing more than is officially being reported. Typically when investors and traders suspect slower economic growth, they purchase bonds rather than stocks. We saw this yesterday in the stock market, the anticipated outcome being lower mortgage rates.

Should the yuan continue to devalue as it has done again today, we could continue to see mortgage rates decrease. However any decreases will likely taper off as the devaluation becomes old news. Although there are several pieces of relevant economic data due out this week as well as two treasury auctions, these will likely be overshadowed by China as the markets continue to remain focused on the international front. Barring any surprising information in the reports due out at the end of the week or any additional surprises out of China, rates will likely stabilize toward the end of the week.

 

 

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