China's currency has long been hitched to someone else’s wagon — the US dollar. But as central banks across the developed world plot diverging courses, it is fast becoming apparent that the renminbi is prone to travel sickness.

Some analysts warn that the slide in the yen and the euro is raising pressure on Beijing to boost competitiveness by weakening the renminbi, something that would send shockwaves across the global economy.

China’s currency is anchored to the US dollar, against which it can rise or fall a maximum of 2pc a day from a fixed rate set by the People’s Bank of China. This mechanism gives the central bank effective control of the exchange rate against the dollar, but not against the currencies of its other main trading partners.

While the renminbi has fallen about 1pc against the dollar this year, it has risen recently to a record high against the Japanese currency, and is at its strongest against the euro for more than a decade. On a trade-weighted basis, the renminbi has risen more than 15pc since the start of 2013, according to an index compiled by JPMorgan. Excluding Hong Kong, the eurozone is China’s largest trading partner while Japan is number three.

The won has risen by a third against the yen in two years and South Korean exports have proved to be resilient

Lombard Street Research — in a view that is not widely held — estimates that the renminbi is now 15-25pc overvalued, and will depreciate as China looks to shift its economic model away from fixed-asset investment. Beijing’s stated goal is to use higher consumption to offset lower investment, although this rebalancing is expected to take many years of painful reform. In the meantime increasing exports is the

‘only palliative’ for the country’s economic malaise, writes Lombard’s Charles Dumas in a report.

China’s currency management system has left it vulnerable to fluctuations caused by changes to central bank policy in the US, Europe and Japan. Last week the Bank of Japan announced a big ramping-up of its asset-buying scheme, less than two days after the US Federal Reserve ended its quantitative easing programme. The result has been a steep drop in the yen, which hit a seven-year low of Y114 against the dollar this week.

Similarly the euro has been falling since the European Central Bank introduced a range of unorthodox policy measures to stave off deflation. The single currency is at its weakest against the dollar since the summer of 2012.

The yen and euro have appeared locked in a race to the bottom, with each dropping 10pc against the dollar in the past six months. Against the renminbi those declines are even greater, with each losing 12pc.

Meanwhile the Chinese economy has continued to slow, recording its lowest growth since the financial crisis. Though exports picked up in September, wrinkles in the data suggest the numbers have been inflated by fake invoicing — a ruse used to sidestep capital controls.

“If the dollar continues to strengthen, the pressure on the PBoC to engineer another short and sharp mini-devaluation and once again shock expectations will rapidly escalate,” writes BNP Paribas economist Richard Iley in a report.

There is also the possibility of lower interest rates in China to boost domestic demand. Barclays’ economist Jian Chang forecasts two rate cuts — one by the end of this year, and another in the first quarter of 2015.

However, for many analysts the most likely course is for the renminbi to be held steady against the dollar. Sacha Tihanyi, FX strategist at Scotia Bank, says stability is more important than the exchange rate for Beijing. “The last thing you want to do is disrupt financial markets and prompt capital outflows, which is what a policy of devaluation would do,” he says. “It wouldn’t be consistent with China’s policy preference.”

There are also questions over how effective currency policy is in boosting exports, as shown by previous misplaced beliefs at the onset of Japan’s Abenomics project. Back then many analysts feared that South Korea would suffer as a weaker yen caused a switch towards Japanese goods. In fact the won has risen by a third against the yen in two years and South Korean exports have proved to be resilient.

Published in Dawn, Economic & Business, November 10th, 2014