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How Will the Brexit Vote Impact the Chinese Economy?

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Brexit: Impact on the Chinese economy

Chinese Premier Li Keqiang said at the World Economic Forum (or WEF) on June 28, “The Brexit impact on Chinese economy is little. China’s economy will not suffer a hard landing.”

But economists and portfolio managers believe the Brexit vote has heightened uncertainty for the Chinese economy. However, in the long run, there could be greater opportunity for Chinese capital in the United Kingdom following the collapse of the pound. In the short term, apart from the weakening yuan, exports would also take a hit and capital outflows would rise.

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Weakening of the yuan

J.P. Morgan China chief economist Zhu Haibin said in a research note that the Brexit could have important implications on the country’s exchange rate and monetary policies. With the Brexit vote, the Chinese currency has come under pressure. Post–Brexit vote, the yuan fell to its weakest level against the US dollar in more than five years. China’s central bank faces the challenge of keeping the currency under control. It may have to allow faster depreciation of the yuan against the US dollar in order to offset pressure building on exports.

Exports may take a hit

Although the United Kingdom is not a top trading partner with China, it was the entry point for China into the European markets. So if the UK economy deteriorates because of uncertainty and a loss of access to the European market, Chinese investments and exports will be impaired. Export trade may become tough for China (ASHR)(MCHI) if the European Union (or EU) imposes protective trade policies and anti-dumping duties on Chinese products. But in the longer term, the impact on exports may not be that great. China’s economy is repositioning itself to become less dependent on exports and more driven by domestic consumption.

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Capital outflows

The Brexit vote strengthened the dollar as investors rushed to safety. With the strong US dollar, Chinese companies could be interested in holding the dollar rather than their domestic currency, triggering large capital outflows. The People’s Bank of China (or PBoC) may have to expand its policies to maintain stability in the money market.

The European Union’s pain could be China’s gain in the long term

With UK voters opting to exit the European Union, the United Kingdom should weaken and the European Union should be even weaker. A diminished EU won’t be able to compete with China in terms of foreign reserves and global trade. Moreover, its internal woes should reduce its value as a strategic partner of the United States. Further, with the Brexit decision, the US Federal Reserve is most likely to hold off its rate hike in 2016, which should also benefit China, reducing capital outflows from the country. Lastly, China’s yuan could become an attractive alternative and a reliable international currency over the euro and the pound in the long term.

In the next part of this series, we’ll look at China’s official manufacturing PMI.

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