China's yuan weakens as U.S. dollar gains on sustained inflation outlook

China's yuan weakened on Wednesday, as the U.S. dollar strengthened on expectations of a sustained inflationary trend fuelled by a prospective surge of outbound Chinese travelers.

China said on Tuesday it would drop its quarantine rules for inbound travelers starting January 8, largely reopening a border that has been locked up for almost three years.

Searches for cross-border destinations on travel platforms have since jumped tenfold, because the rule change will make outbound tourism practicable. Since 2020, few Chinese have wanted to endure quarantine just for a foreign holiday.

"The surge expected for outbound tourists from China has fuelled an expectation that their consumption abroad will also make inflation in the US and Europe more entrenched, sending their currencies stronger on Tuesday," said Ken Cheung, chief Asian FX strategist at Mizuho Bank.

The spot yuan opened at 6.9610 per dollar and was changing hands at 6.9747 at midday, 146 pips weaker the previous late session close and 0.09% away from the midpoint. The People's Bank of China set the midpoint rate at 6.9681 per U.S. dollar prior to market open, weaker than the previous fix, 6.9546.

The spot rate is currently allowed to trade 2% above or below the official fixing on any given day. The global dollar index rose to 104.266 from the previous close of 104.179. Against the yen, the dollar reached a more than one-week high, at 133.685 yen.

The removal of the quarantine requirement, following earlier moves, amounts to almost complete reopening of the economy earlier than expected, some analysts said. Goldman Sachs said in a Tuesday research note that daily new cases in China may peak in late December or in January, citing experience from Hong Kong and Taiwan.

It forecasts GDP growth for the full year of 2023 at 5.2%. China's economy, the world's second-largest, is on track to miss its 2022 annual growth target of around 5.5%, analysts have said.

"We maintain our view that China reopening is positive for (onshore yuan), and believe improved growth expectations in 2023 might outweigh unfavourable factors such as deterioration in goods and service trade balances," Goldman Sachs said.

Goldman Sachs maintains its USD/CNY 12-month forecast at 6.90.

The offshore yuan was trading 0.08% stronger than the onshore spot at 6.9694 per dollar.

Offshore one-year non-deliverable forwards contracts (NDFs), considered the best available proxy for forward-looking market expectations of the yuan's value, traded at 6.8067, 2.37% away from the midpoint.

One-year NDFs are settled against the midpoint, not the spot rate.

The yuan market at 3:28AM GMT: ONSHORE SPOT: Item Current Previous Change PBOC midpoint -0.19% 6.9681 6.9546 Spot yuan -0.21% 6.9749 6.9601 Divergence from midpoint* 0.10% Spot change YTD -8.89% Spot change since 2005 revaluation 18.66% OFFSHORE CNH MARKET Instrument Current Difference from onshore Offshore spot yuan * 0.08% 6.9694 Offshore non-deliverable 2.37% forwards 6.8067 ** *Premium for offshore spot over onshore **Figure reflects difference from PBOC's official midpoint, since non-deliverable forwards are settled against the midpoint.

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