China yuan cut, rekindles fear of currency war

The Chinese yuan/US dollar (CNY/USD) exchange rate fell by an additional 1.1% on August 13, on top of the previous 1.9% and 1.6% drops on August 11 and 12, respectively.

The cuts have put financial markets on edge, sparking concerns of a ‘currency war’ as other nations feel pressure to devalue and raise questions about the health of the world’s second-largest economy.

Most analysts view the move as a way for China to both stimulate exports by making its goods cheaper in foreign markets and push economic reforms as it seeks to become one of the reserve currencies in the International Monetary Fund’s SDR (special drawing rights) group.

Vietnam transnational import-export businesses are in particular very concerned about the spike of the exchange rate over the past several days as these fluctuations have major impacts on sales and bottom line profits.

Le Quang Luyen, president of the Member Council and founder of Phuc An Co Ltd said the move in tandem with the recent raise by China of the added value tax from 5% to 13% has a huge negative impact on cashew nut exports.

The move makes Chinese exports cheaper while at the same time increases the cost of Vietnamese goods by Chinese importers so it is kind of a ‘double whammy’ for Vietnamese businesses.

So however one looks at it, Vietnam loses. Vietnam’s exports now are competing with lower priced Chinese exports around the globe and to add insult to injury, Vietnam’s exports to China now cost more, said Luyen.

Following the general principles of economics as the price of Vietnamese goods for Chinese consumers’ increases they will tend to reduce purchases, resulting in lower imports from Vietnam.

However Luyen isn’t quite so sure the devaluations are over and speculates that it is quite possible for China to continue to devalue the yuan and Vietnam should brace itself for the potential after effects.

In a countermove aimed at protecting the nation’s exporters, the State Bank of Vietnam has widened the trading band of Vietnamese dong/US dollar (VND/USD) from +/- 1% to +/-2% from August 12 onwards.

To more fully describe the fallout Luyen cites the effects on Vietnam and Japanese ODA funding.

Japan is one of the largest ODA providers for Vietnam and the aforementioned devaluation and concurrent fluctuation of the exchange rate directly impacts Vietnam’s ability to repay the ODA debt.

Mutsuya Mori, Japan International Co-operation Agency (JICA) chief representative in Vietnam explained it simply by saying the yuan devaluation results in a global reduction in prices of goods and services as it gives a competitive edge to Chinese exports.

This drives prices of Vietnamese goods down on the global market and puts pressure on Vietnam to devalue its currency to counteract the move by China and risks starting a currency war.

The bottom line says Mori is that Vietnam must now repay its debt to the World Bank (WB), the Asian Development Bank (ADB) and Japan for ODA projects in US dollars and that cost just shot up.

In addition, Vietnam government bonds are now less attractive and their sales prices will be lower unless the government raises the interest rates it is willing to pay in order to make them more appealing to investors.