China's Trade Balance

China’s trade balance tends to rock markets everywhere! So even if you don’t follow the Yuan, this is still an important bit of data to keep track of.

The Chinese government has recently been talking up the issue of services exports. And this could change how the world views the Asian giant’s trade policy.

With the drama of the ongoing US-China trade issue getting all the headlines, let’s drill down to the underlying figures to get a better sense of how the market could react to the upcoming data release. The figure is extra important this time around because it’s the last major data ahead of the release of China’s Q2 GDP next Monday.

What We Are Expecting

The consensus among analysts is that the June balance of trade will come in at a surplus of $44.7B, up from the prior month’s $41.7B. This would bring it back in line with the average it has been maintaining for the last couple of years before the trade war started.

China’s trade balance has a history of showing extreme volatility around the end of the year. This is due to the effect of holidays both in China and in their major export markets. The balance then flattens for the rest of the year. If this level were to solidify around the $40B mark, it would be the first increase in annualized trade balance since 2014.

The Components

Last month, we had a surprise with the trade balance doubling expectations. This was driven primarily by the disconnect between exports and imports.

Exports rose by a modest 1.1%, while imports fell precipitously by -8.5%. This drop was primarily seen in metal commodities with a significant drop in copper and iron ore. (At the same time, iron ore and copper prices were reaching the peak of their cycle so far.)

The increase in exports might be a one-off, though. The reason for the beat of expectations is that companies were rushing to get their sales through customs before Trump’s tariff hikes would take effect. Now that the two countries are once again in a truce, the export number might slip. This is because shipments that would otherwise have left during June were already accounted for in May.

This would imply that the expectations of an increase in the trade surplus would not be met.

Cash Flows

Of course, the whole point of trade is to make money. And the issues relating to the cash flow are the ones that drive the currency markets. According to estimates, China holds about $3T in US “carry trade” assets, the product of the trade surplus and taking advantage of the interest rate differential between the PBOC and the Fed.

However, the Fed has been engaged in a tightening cycle. Meanwhile, its Chinese counterpart has been reluctant to follow suit due to weakness in the domestic economy. So, that differential has been closing.

To make matters worse, the decline of nearly 11% since March in the Yuan has made this trade unappetizing if not outright unprofitable.

With the continuation of the trade war, and the Fed less likely to cut rates as aggressively following the June NFP, there is increasing pressure for Chinese holders to liquidate their assets and demand dollars.

If exports slip again, this would put more pressure on the yuan. In turn, this would make the carry trade less interesting, opening the possibility of a vicious cycle.

Expectations are for Chinese exports to have dropped -7.7% since the prior year.

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China’s trade balance tends to rock markets everywhere! So even if you don’t follow the Yuan, this is still an important bit of data to keep track of. The Chinese government has recently been talking up the issue of services exports. And this could change how the world views the...