Forex analyst: USD/CNY to trade past key 7.00 level

The USD/CNY exchange rate will trade above the key 7.00 level this year, according to a forex analyst at multinational bank RBC Capital Markets.

The bank predicted that the USD/CNY rate would hit 7.10 in the third quarter of the year and 7.05 in the last quarter. RBC Capital Markets Asia FX strategist Alvin Tan said the 7.00 level in the USD/CNY spot exchange rate had been considered an “important psychological level” for years.

Unlike other currencies, the yuan is not freely traded in the forex market due to China’s market control policy. The Chinese government sets the yuan’s rate every day, allowing the currency to fluctuate around two percent of that fixed rate.

Analysts say China likely controls its currency to maintain its trade competitiveness. This mechanism makes the yuan rarely trade past said critical level, and breaching the 7.00 yuan per dollar rate indicates volatility in the market.

Tan pointed out that the USD/CNY rate hit above 7.00 during the beginning of the U.S.-China trade war in 2019 and the early months of the COVID-19 pandemic.

The currency usually moves “quickly” towards the 7.20 level once it breaks through 7.00, but Tan said the recent trend in the exchange rate shows different characteristics compared to the previous occurrences.

“China's growth momentum is decelerating for sure, but the economy is not in acute crisis. Moreover, implied volatility in the renminbi has not spiked to anywhere near the levels accompanying the breaks in August 2019, March 2020 and October 2022.”

Alvin Tan, RBC Capital Markets Asia FX strategist

Tan explained that the rise past the 7.00 level in the USD/CNY exchange rate happened in a “relatively calm manner,” unlike in the autumn of last year when there was a significant deviation between consensus estimates and official fixing rates.

Pressures from U.S. dollar

There are still potential upside risks to the USD/CNY exchange rate because the dollar will strengthen as a result of the U.S. Federal Reserves’ longer-than-anticipated monetary tightening cycle, according to analysts.

Analysts said the current surge in the rate happened mostly due to the U.S. dollar’s strength and not a weakness in the yuan. The U.S. dollar’s status as a reliable store of value makes investors place their funds in the asset when there is uncertainty in the macroeconomic environment.

Last year, the U.S. dollar hit its highest rate in decades as inflation soared in the country. The dollar declined slightly since the beginning of 2023 due to heightened anticipation that the Fed would soon make a policy pivot, but it recently rallied again.

Several Fed officials, including Fed governor Philip Jefferson, indicated that the central bank could forego an interest hike in its policy meeting next week, but it would not necessarily mean the end of its tightening campaign. The Fed funds rate currently sits in the range of 5.00 to 5.25 percent.

Like the yuan, the Japanese yen also saw pressure from the strengthening dollar over the past week, when the dollar/yen rate broke the critical level of 140. Japanese financial authorities held an emergency meeting last month to discuss the issue, asserting that they will take necessary measures if the volatility continues.

According to Commerzbank chief economist Tommy Wu, the Chinese central bank "appears to tolerate a weaker yuan" because it may be beneficial in the current economic climate. Analysts said a weaker yuan would benefit Chinese exporters and allow the government to manage deflationary pressures.