Yuan is Driving the Dollar

The U.S. Dollar index (DXY) saw a decline of 0.3% this week, settling at 104.12 points. Conversely, the EURUSD pair experienced a 0.4% rise, reaching 1.08500. The notable volatility originated from China, where the Chinese offshore Yuan (CNH) unexpectedly plummeted last Friday. As a result, the USDCNH surged by 0.8% to 7.2800, marking its highest level since November 2023.

This sudden movement caught investors off guard, especially considering the USDCNH had been trading within a narrow range of 7.1800-7.2200, closely monitored by China's central bank. The absence of clear reasons for this shift left traders puzzled, with discussions centering on the unusual withdrawal of support for the national currency typically provided by the central bank and major state banks of China. In response to the news, the EURUSD dipped by 0.5% to 1.08100.

On March 25, China's central bank intervened by significantly increasing its daily fixing on the yuan to 7.0996 for the U.S. Dollar, a 250% gap from analysts' expectations. Consequently, the onshore yuan exchange rate surged by 0.5% to 7.1900, while the offshore rate increased by 0.6% to 7.2320. The central bank again raised its daily fixing by 0.1% to prevent further weakening of the yuan, prompting traders to adjust their positions. They have probably recalled previous unsuccessful attempts to counteract the central bank in autumn 2023 and retreated.

In the aftermath of these developments, the EURUSD recovered by 0.4% since last Friday, and may continue to rise, buoyed by the actions of China's central bank. However, the Euro faces resistance at 1.08400-1.08600 against the Dollar. Surpassing this level could pave the way for further gains up to 1.09500. Notably, this resistance has proven formidable, hindering the pair's ascent multiple times in March. Thus, whether the Euro will rally to 1.11500 against the Dollar before experiencing a significant decline remains uncertain.

The WisdomTree Bloomberg U.S. Dollar Bullish Fund (USDU) observed predominantly neutral capital inflows over the past two weeks, indicating that large investors may have already positioned themselves or are awaiting clearer directional signals before taking action.

Looking ahead, with no major events expected this week, market focus shifts to the U.S. Q4 2023 GDP figures, which are anticipated to confirm a 3.2% QoQ. Additionally, the February PCE indexes in the U.S. are expected to remain relatively neutral, with consensus forecasts pointing to a 2.8% year-on-year increase and a potential acceleration to 0.4% month-on-month from 0.3% for the headline index. The core PCE index, excluding volatile food and energy prices, is forecasted to hold steady at 2.8% YoY and decline to 0.3% MoM.

Despite the contentious inflation figures, investors may perceive some signs of inflation moderation. With sustained pressure from China's central bank, the Greenback could find further reasons to weaken against the Euro, potentially declining by another 0.8-0.9% to 1.09500.