Asia stronger but fretting over yuan, yen

Asia stronger but fretting over yuan, yen

HONG KONG (Reuters): Yen weakness and the chance of a Chinese
devaluation reasserted themselves last week as Asia's most
sensitive pressure points but analysts said the region is
increasingly able to cope with both risks.

Investors focussed on both issues late last week with renewed
concern when the People's Bank of China unexpectedly increased
U.S. dollar interest rates, making the yuan relatively less
attractive and therefore putting it under more downward pressure.

Yen weakness prompted by a shift in Japanese monetary policy
is still widely anticipated despite the "no change" statement
that emerged from a Bank of Japan policy meeting on Friday.

The statement came just a few hours after Japan released
worse-than-expected economic data: Fourth quarter gross domestic
product was down 0.8 percent on the previous quarter, the fifth
consecutive quarterly contraction.

The poor data will support calls for Japan to print money,
monetizing its debt burden, allowing the yen to fall in value and
fueling fears of a Chinese devaluation of the yuan.

But if Japan did so, the rest of Asia would react very
differently to a declining yen than it has in the past, said
Steve Xu, treasury economist at Standard Chartered Bank in Hong
Kong.

Rather than falling with the yen, as before, most markets in
the rest of Asia would strengthen, he said.

"If there is a genuine move to monetize debt in Japan, Asia
should welcome that plan because without a stable Japan we won't
see a sustained recovery in Asia," he said.

Regional currencies, no longer part of a U.S. dollar bloc, now
enjoy much greater independence from dollar/yen, he said.

And both the Nikkei 225 index and the Hang Seng would ignore
yen weakness and trade higher on an improved Japanese outlook.

This signals a dramatic shift in the pronounced correlation
between the yen and Asian equities -- until now, one of the most
predictable features of Asian market behavior.

"The yen is important for the rest of Asia, but this point
should not be overemphasized," ING Barings said. "There are sound
reasons to suggest the sensitivities between the yen and the rest
of Asia are unlikely to be as extreme as in the last two years."

There has been a similar shift in Asia's view of a Chinese
devaluation, economists said.

Six months ago, a rapid yen depreciation prompted widespread
fear of a yuan devaluation, something economists said threatened
Asia's newly found but fragile equilibrium.

Now, however, Asia is firmly entrenched in its stabilization
phase and economists said the region better understands the yuan
issue, which resurfaced last week when the People's Bank of China
(PBOC) suddenly raised interest rates on U.S. dollar deposits.

"The Chinese aren't going to devalue anytime soon, and if they
do it will be for their own reasons... A weakening of the yen
would just be an excuse. It wouldn't drive them to it," said Bill
Overholt, Asian strategist at Nomura International.

The PBOC's rate move seemed to imply official acceptance of a
weaker yuan -- corporations may opt to hold high-yielding U.S.
dollars rather than yuan -- just as the market anticipated a
stronger Chinese currency. As a linked currency, the yuan will
appreciate in line with the U.S. dollar if the yen weakens.

A stronger yuan would exacerbate deflationary pressures within
the Chinese economy. But economists said the yuan rate had little
bearing on China's decision to lift U.S. dollar rates.

Overholt argued that there is no fundamental reason why a
Chinese devaluation should influence any other currency in Asia:
Most currencies already reflect domestic conditions, while trade
competition between China and the rest of Asia is moderate.

"If China devalues, interest rates in Hong Kong would go up
for a few weeks, but it wouldn't break the Hong Kong dollar peg
or drag the Korean won down," Overholt said.