Global hedge funds are gearing up for an intense battle over China’s yuan, betting on a currency devaluation in anticipation of Donald Trump’s potential re-election. These funds, motivated by fears of geopolitical upheaval and a return to Trump’s aggressive trade policies, are shorting the yuan as part of a broader strategy. However, a deep dive into both Trump’s and China’s past actions reveals this might be a miscalculated move.
Hedge funds believe Trump’s mix of tax and trade policies would boost the dollar if he returns to power, pushing China to adopt a more competitive exchange rate as its domestic growth slows. Yet, the complexities of China’s political and economic landscape—combined with lessons from Trump’s first term—suggest betting on a weaker yuan could backfire.
The November 5 U.S. election is currently a toss-up, with fluctuating poll results casting uncertainty on the outcome. Some days, it appears Kamala Harris and the Democrats have the upper hand; on others, signs indicate a Trump resurgence. This week, momentum appears to be swinging in Trump’s favor, prompting hedge funds to increase bets on yuan depreciation. As a result, volatility in the yuan has surged to its highest levels since late 2022.
But there’s a catch. While market players anticipate a Trump victory may drive the U.S. dollar higher, they seem to be forgetting Trump’s previous stance on currency policy. During his 2017-2021 term, Trump consistently advocated for a weaker dollar, aiming to enhance the competitiveness of U.S. manufacturers and hit China hard.
One of Trump’s major goals was to weaken the U.S. exchange rate, using tariffs and trade wars to disrupt the global economic order in favor of American industry. Additionally, Trump’s ongoing feud with the Federal Reserve, which he believed kept the dollar too strong, was a key element of his economic agenda.
During his first term, Trump was highly critical of Jerome Powell, his handpicked Federal Reserve chairman, for continuing with interest rate hikes that began under Powell’s predecessor, Janet Yellen. Trump relentlessly pressured Powell to cut rates, ultimately resulting in a series of rate cuts in 2019, even as the U.S. economy remained strong. This interventionist approach undermined the Fed’s credibility, leaving it vulnerable to future political interference.
Simultaneously, Trump’s policies led to a rapid increase in the U.S. national debt, which has continued to soar under President Joe Biden. The debt now exceeds $35 trillion, raising concerns about long-term fiscal stability.
Political polarization adds another layer of complexity. Regardless of the election outcome, few expect Trump to exit the political scene quietly. If Trump loses, a volatile transition period could further destabilize markets, while a Trump victory could reignite fears of another debt ceiling standoff, similar to the chaos that followed the January 6, 2021 insurrection.
While Trump’s economic policies may increase pressure on the yuan, Beijing is unlikely to let its currency weaken substantially. There are four major reasons for this stance, all grounded in Xi Jinping’s economic and political priorities.
Debt-Heavy Property Developers: A depreciating yuan would exacerbate the problems of China’s already highly indebted companies, particularly property developers like China Evergrande. With significant offshore debt, a weaker yuan would make it harder for these firms to meet their obligations, raising default risks in Asia’s largest economy. China Evergrande’s troubles already loom large in the global financial system, and further yuan depreciation could trigger a financial crisis that Beijing desperately wants to avoid.
Xi’s Deleveraging Agenda: Xi has spent years attempting to deleverage China’s economy, reining in financial excesses and reducing risk in the financial system. While monetary easing may be tempting to shore up growth, it would counteract years of efforts to stabilize the economy. A weaker yuan could lead to more capital outflows and increase inflationary pressures, undermining the progress Xi has made.
Yuan’s Global Ambitions: Perhaps Xi’s most significant economic achievement since taking power in 2012 has been the yuan’s increased role in the global financial system. In 2016, the yuan was included in the International Monetary Fund’s Special Drawing Rights basket, alongside the dollar, euro, yen, and pound. Excessive monetary easing could erode trust in the yuan, setting back efforts to establish it as a global reserve currency.
US-China Relations and Political Risk: A falling yuan could further inflame tensions with the U.S., especially during an election year. Both Republicans and Democrats have become increasingly hawkish on China, and any signs of currency manipulation would likely draw bipartisan condemnation. Trump, already touting plans for 60% tariffs on Chinese goods, would seize on such actions as further evidence of Beijing’s unfair trade practices.
Allowing the yuan to depreciate would signal weakness at a time when Xi wants to project strength. It would also make China a central issue in the U.S. presidential race, a distraction Beijing would rather avoid.
Instead of resorting to drastic monetary easing, Xi and Premier Li Qiang have pursued a measured stimulus strategy, taking steps to support growth without triggering a full-blown financial crisis like those seen in 2008 or 2015.
In recent weeks, Beijing has cut borrowing costs, lowered banks’ reserve requirement ratios, and reduced mortgage rates. These moves are aimed at supporting key sectors, particularly housing, without over-stimulating the broader economy. On October 17, China’s government raised the loan quota for unfinished housing projects to 4 trillion yuan ($562 billion), nearly doubling the previous allocation. However, markets were unimpressed, and the CSI 300 Index fell 1.1%, bringing its total decline since October 8 to around 11%.
The real challenge is cleaning up the balance sheets of China’s giant property developers, who are struggling with unsustainable debt levels. As Stephen Innes of SPI Asset Management noted, “China’s property mess isn’t something that can be patched up with a few speeches and half-baked measures.”
What’s needed, according to economists like Robin Xing at Morgan Stanley, is a comprehensive plan to address the debt issue while stimulating demand. Xing warns that resolving China’s property crisis is key to avoiding a deflationary spiral that could drag down the entire economy.
While hedge funds bet on a weaker yuan, Trump’s potential return to the White House raises other concerns for the global economy. One of the more extreme ideas floated by Trump during his first term was the possibility of canceling portions of U.S. debt held by China, a move that would be seen as financial warfare.
Trump has also hinted at more unconventional strategies, such as devaluing the dollar in a bid to boost U.S. manufacturing competitiveness. While such a move might offer short-term benefits for some sectors, it would likely spark inflation and undermine global confidence in the U.S. dollar as a reserve currency.
If Trump were to pursue a devaluation strategy in a second term, the consequences could be disastrous for the global economy. Argentina, for example, has repeatedly devalued its currency in a bid to stimulate growth, but the result has been runaway inflation and economic instability. Similarly, Turkey and Zimbabwe have seen their economies collapse under the weight of currency devaluation.
As Gavekal analysts noted, “investors generally believe the policies [Trump and his team] are advocating to promote US reindustrialization…will tend to lead to dollar strength versus other currencies.” However, any attempt to weaken the dollar through interventionist policies would likely backfire, leading to conflict with the Federal Reserve and instability in global markets.
While the prospect of Trump’s re-election has spurred hedge funds to short the yuan, they may be overlooking the broader economic and political dynamics at play. Beijing is unlikely to allow the yuan to depreciate significantly, given the risks to its property sector, deleveraging efforts, and global ambitions for the yuan. Moreover, the economic consequences of a Trump 2.0 presidency could lead to a more complex global environment, one where a weaker yuan may not necessarily be the best bet.
A weaker yuan could prove to be a misstep, especially given Xi’s priorities and the lessons learned from Trump’s first term. Hedge funds racing to short the yuan may find themselves caught in a geopolitical storm with unpredictable consequences.
