Ahead Today
G3: Canada Housing Starts, UK industrial production, BOJ Tamura Speaks
Asia: South Korea Bank Lending
Market Highlights
US Treasury Secretary Scott Bessent and US Trade Representative Jamieson Greer held a press conference addressing their approach to the recent China export controls on rare earths and critical minerals. In particular Jamieson Greer said that the US “won’t stand for these moves from China, but noted that the expectation is that China won’t implement this rare-earth export control regime, with Greer saying that the scale of such an action by the Chinese is “just unimaginable, and it cannot be implemented”. Meanwhile, Secretary Bessent said that the US would seek wider support beyond the G-7 in terms of a joint response to the China curbs, said that China’s negotiator Li Chengang was “disrespectful” and “may have gone rogue”, while also keeping open the possibility of longer tariff truce if China puts off its export control plan
We think risk assets and markets right now are still way too complacent on the risk of a trade escalation between US and China, at least a tactical one before longer-term de-escalation. Listening to the remarks yesterday, we are even more convinced that the gulf of expectations between the US and China are huge (see Trump threatens 100% tariffs after China’s export controls and China significantly expands export controls on critical minerals). We see the licensing control measures by China as not subject to negotiation at all, given that the export controls are the means through which China can exert control and leverage including on the US. Nonetheless, specific other aspects such as the flow of rare earths and critical minerals could be negotiated. From the US side, the stated expectation is that China will ultimately not implement these export controls in return for the US not implementing tariffs and other countermeasures, which we think is both extremely unrealistic and the wrong assessment of how the Chinese view their leverage and negotiating position and the ability to withstand further tariff and non-tariff measures from other countries.
Meanwhile, the big market mover in our region was the Indian Rupee, with USD/INR dropping sharply from the 88.80 handle down quickly towards the 88.00 handle through the day. As reported by various news media including Bloomberg and Reuters throughout the day, the story that emerged was heavy FX intervention by RBI both in the onshore and offshore market, and which through the day helped to trigger stop losses to some extent and exacerbating the market moves.
A Bloomberg news article said that India’s central bank considers the recent weakness in the Rupee as driven by speculative attacks, and is prepared to continue its market intervention until the currency settles at a stronger level, with Bloomberg quoting a person familiar with the matter. In addition, the RBI will continue to intervene until it is satisfied that speculative positions have been unwound, according to the article, with breaching the 89 level key as well is that would that USD/INR into the 90 territory which is a psychological and technical level.
From our perspective, it is true that INR’s real effective exchange rate has already fallen quite a bit with the FX underperformance. This was one of the reasons why we have been hesitant to be too bearish on INR, and with that our expectation for FX implied vols to remain contained, even as we thought that INR underperformance was still the path of least resistance given external uncertainties. Our view for USD/INR to rise towards 89.70 modestly over time built in our expectation of uncertainty from US trade policy and the offsetting impact of structural reforms, but certainly did not take into account the strong pushback that we have seen from RBI yesterday (see IndiaPulse: At a crossroad).
We’ll have to reassess our FX view, but for now we think that short INR positions will probably in the near-term be reduced given RBI’s strong signal. Over the medium-term, we still think that some modest FX weakness is not a bad thing for India, given the global uncertainties and to maintain some export competitiveness, and will be biased to look for opportunities to go long USD/INR later depending on where the FX settle.