PBOC Enters the Currency Wars

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Market Drivers February 4, 2015

PBOC lowers RRR by 50bp to 19.5% vs 20.0% sending commdolls higher
UK PMI Services better
Nikkei 1.98% Europe 0.44%
Oil $51/bbl
Gold $1264/oz.

Europe and Asia:
CNY HSBC PMI 51.8 vs. 53.4
GBP UK PMI Services 57.2 vs. 56.6
EUR EZ Retail Sales 0.3% vs. -0.1%

North America:
USD ADP 8:15

USD ISM Services 10:00

CAD Ivey PMI 10:00

The Peoples Bank of China surprised the currency markets today in late Asian session trade and lowered the RRR rate to 19.5% from 20.00% sparking a temporary rally in commodity dollars that quickly fizzled.

Responding to clear indications of economic slowdown, the PBOC has now turned back to monetary easing in order to stimulate demand. The central bank noted that it will cut the reserve ratio by another 50bps to qualified rural and commercial banks and will cut the RRR an additional 400bps to China’s agricultural development bank.

The move comes as the latest HSBC PMI Services data shows that economic growth in China is slowing with PMI dropping to 51.8 from 53.4 the month prior. The Manufacturing PMI released over the weekend also showed a fall off in activity. While both measures still remain above the 50 boom/bust line the PBOC is clearly worried and today’s move was a prophylactic measure to mitigate any chance of a more severe slowdown.

Both the kiwi and Aussie instantly popped higher on the news but the rally quickly fizzled as traders had second thoughts. Although the move by PBOC does ease credit and may be beneficial to stimulating demand, it is also a clear sign that growth in China is declining at faster rate than previously thought and as such could have dampening effect on demand throughout the Asia region.

Elsewhere cable was better bid after PMI Services – the most important of PMI surveys – printed better than forecast suggesting that UK economy is picking up pace once again. The aggregate PMI data is tracking to show 0.5% q/q growth in UK GDP which leaves open the possibility that BoE may begin to normalize rates this year after all.

Cable traded to 1.5200 in morning London dealing, up more than 200 points off yesterday’s lows and it could push higher during the US session as sentiment towards the pair is clearly improving.

In North American trade today all eyes on ADP and on ISM Services report as traders will get a first preview of the NFPs on Friday. The market is looking for decline to 175K for ADP versus 191K the month prior. Any bigger contraction than that could send USD/JPY back to 116.00 level as chance of Fed normalization anytime this year will grow increasingly slim. However if ADP prints another number closer to 200K jobs the upward pressure on USD/JPY is likely to build and it could try to break through the 117-118 range that has traded for the better part of teh past two weeks.

Boris Schlossberg
Managing Director

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