The People’s Bank of China (PBOC) plans to set the USD/CNY reference rate at 7.1281, according to Reuters. As China’s central bank, the PBOC establishes the daily midpoint for the yuan, also known as renminbi. It operates within a managed floating exchange rate system, allowing the yuan to move within a specified range, or “band,” of ±2% around the central reference rate.

Establishing The Midpoint

Every morning, the PBOC sets a midpoint for the yuan based on a group of currencies, mainly focusing on the US dollar. This midpoint is calculated using market supply and demand, economic indicators, and global currency trends. It serves as the reference point for trading that day. The PBOC allows the yuan to trade within a ±2% band of the midpoint, which means it can rise or fall by up to 2% during the trading day. This range can be adjusted based on economic conditions and policy goals. If the yuan approaches the band limits or shows high volatility, the PBOC intervenes by buying or selling yuan to maintain stability. The PBOC is expected to set the USD/CNY reference rate around 7.1281, indicating a continued preference for a controlled, weaker yuan. This decision follows last week’s lower-than-expected Caixin Manufacturing PMI data, which was 49.5, raising concerns about domestic demand. A stable but slightly weaker currency can support China’s export sector in such an environment. We are also noticing consistent strength in the dollar. The recent US inflation report for July 2025 showed a higher-than-expected rate of 3.1%. This news reduces the chances of near-term Federal Reserve rate cuts, keeping US yields attractive. The significant interest rate gap between the US and China continues to put downward pressure on the yuan.

Managing Currency Strategy

Historically, this method of gradually lowering the yuan in a controlled fashion is familiar. We observed similar trends during 2023 and 2024 when the economy faced challenges. The central bank often sets the daily rate stronger than market predictions to prevent sudden drops, yet allows an overall weakening trend to persist. This consistent management helps avoid abrupt changes. Given this controlled depreciation, selling out-of-the-money USD/CNY call options for short terms looks appealing. The PBOC’s ±2% band and active management provide a strong limit on daily market volatility, reducing the chances of rapid swings. This situation often decreases the value of options, benefiting sellers of volatility. For those with a clear outlook, considering forward contracts for a gradual increase in USD/CNY to the 7.20-7.25 range over the next quarter may be wise. However, we must keep an eye on the spread between the onshore (CNY) and offshore (CNH) yuan. If the CNH discount widens, it could signal growing bearish sentiment, prompting more significant intervention from the PBOC. Create your live VT Markets account and start trading now.

here to set up a live account on VT Markets now