A few months after Donald Trump launched his campaign for the U.S. presidency in 2015, he wrote in an opinion piece that one of the first things he would do, on "day one" in the White House, would be to label China as a currency manipulator. He didn't, and nor did he follow through with a threat to apply the label in his first 100 days.
At no stage in Trump's presidency has China, or any other country, met the technical criteria required for a formal designation as a currency manipulator. However, on Aug. 5, the People's Bank of China -- which has been supporting, rather than weakening its currency for the past few years -- allowed the yuan to slip below 7 yuan to the dollar, a threshold that has remained in place for more than a decade.
The central bank played down the significance of the move, saying that the threshold was "not a dam" that, having been broken, would not be rebuilt. Instead, the PBOC said, it "is more like the level of a reservoir ... it is normal for it to rise and fall."
The PBOC was "reluctant" to let the yuan depreciate, according to Hui Feng, senior research fellow at the Griffith Asia Institute in Australia, but its hand was forced by the impact of escalating tariffs on exports to the U.S. "Beijing has implemented a controlled depreciation whenever a new round of tariff hikes was announced, and I don't see any difference this round."
Trump did. "It's called 'currency manipulation.' Are you listening Federal Reserve?" he tweeted. "This is a major violation which will greatly weaken China over time!"
A formal designation of China as a currency manipulator followed, with the threat of further tariffs. That sparked fears -- reflected by share-market turmoil worldwide -- that the trade war was about to shift gear into a currency war of competitive devaluations.
There is no sign that China wants this to happen. The last time there was a significant devaluation in the yuan was 2015, when the PBOC lowered the band within which it allows the currency to trade against the dollar by 2%. That rattled markets and sparked an estimated $700 billion in capital flight from China.
However, downward pressure on the yuan will continue as the U.S. adds further tariffs to its already extensive list of levies on Chinese goods.
"That is, I think, creating concerns in the U.S. that their policy measures on tariffs are not having the effects that they want. And it does create the risk that they might ramp up their tariff measures further to compensate for that currency decline," said Rajiv Biswas, chief Asia-Pacific economist at IHS Markit. "So you can see that this could turn into an escalating vicious cycle where U.S. tariffs are going up, the Chinese currency is under pressure, sliding further down -- and then that pushes tariffs even higher, and that again hurts Chinese production even further. That is the risk of an escalating trade war that could play out."
That would have significant consequences for other Asian economies, which have already experienced collateral damage from the trade war. Thailand's second quarter figures released on Aug. 19 showing that the economy had grown at its slowest rate since 2014, due mainly to weakening exports. A week earlier, Singapore revised down its growth forecasts from between 1.5% and 2.5% to between 0% and 1%. In July, South Korea reported that its exports were down 11% over the previous year.
"The U.S.-China trade war has clearly already hit exports from China to the U.S., of course, but it's also affected the whole Asian manufacturing supply chain," Biswas said.