USDCNY likely to reach 6.90 by end Q2 16

China's recent changes to the process for determining CNY fixings have broad implications for FX markets. The risks around the new forecasts are larger and more skewed than usual, given ongoing uncertainty over the intentions of Chinese policymakers and their willingness to tolerate greater CNY weakness, says Barclays.

The PBoC committed to make the CNY fixing, on which USDCNY derivatives are priced, more representative of market-driven pricing. While greater market determination does not necessarily imply currency depreciation, we expect that it will. 

Increased transparency in the fix's determination and greater connection to market prices is expected to facilitate greater FX hedging and capital mobility. Given slowing relative growth in China - with downside risks - and domestic portfolios skewed towards domestic assets, a freer flow of capital is likely to be skewed towards currency outflows, putting downward pressure on the CNY. Furthermore, the PBoC's initial fixes of USDCNY 3% higher likely reveal a preference for a weaker, rather than stronger CNY, and perhaps weaker slower underlying growth than previously priced.

"USDCNY is expected to trade at 6.80 by year-end 2015 and at 6.90 by end Q2 16. This implies that the spot will rise 10% above its pre-policy change value by the end of this year. We are sceptical that depreciation of the currency is aimed primarily at supporting exports. A 10% REER depreciation would add only about 3.4% to exports growth and 20-40bp to GDP growth in the following year", estimates Barclays.