China may be playing its biggest economic card yet.

According to sources cited by Reuters this week, Chinese politicians are considering allowing the yuan to weaken significantly in 2025 to counter the economic impact of a possible 60 percent tariff by the United States on Chinese imports.

The move would mark a major shift in Beijing’s currency strategy as the country grapples with increasing economic pressures.

But will it actually work?

A Weaker Yuan: A Double-Edged Sword?

President-elect Donald TrumpThe proposed tariffs – 10% on all imports and a whopping 60% on Chinese goods – have prompted Beijing to consider devaluation as a buffer. A weaker yuan could theoretically make Chinese exports cheaper and offset the burden of US tariffs.

Nevertheless, Beijing is walking a tightrope.

The People’s Bank of China is expected to “strongly defend” the yuan, according to Lynn Song, an analyst at ING. The central bank is well aware that a too sharp fall in the renminbi could lead to even harsher retaliation from Washington.

In response to the rumors, Financial News, a PBOC-affiliated publication, stressed that the yuan remains on solid footing and predicted that the currency could stabilize and strengthen by the end of the year.

China’s real problem: a balance sheet recession

Tariffs are not China’s only problem.

The country faces a multi-front economic battle with an imploding real estate market, a weak stock market and slowing consumer activity.

“The gentle deleveraging of the real estate market that policymakers had in mind led to a nasty balance sheet recession,” he said Alfonso PeccatielloChief Investment Officer at Palinuro Capital and founder of The Macro Compass.

“Trillions in real estate assets have been destroyed since 2021.”

A balance sheet recession is brutal. In this scenario, consumers and businesses prioritize repairing their finances over spending or investing, rendering typical monetary policy tools such as interest rate cuts or currency devaluations largely ineffective.

This type of economic downturn is reminiscent of the Eurozone debt crisis of 2011-2012, when monetary policy failed to stimulate the real economy due to fiscal austerity measures.

Beijing’s reaction so far

China’s political response has so far lacked courage, to say the least.

Authorities have talked about small fiscal stimulus measures, but these efforts lack the scale and scope to make a difference.

The government has also put in place mechanisms to discourage investors from shorting Chinese stocks to stabilize markets. In addition, the central bank has drastically reduced interest rates to increase liquidity.

Despite these interventions, the economy failed to gain significant momentum, leading analysts and investors to be skeptical of Beijing’s strategy.

The iShares MSCI China ETF MCHI – a key benchmark for Chinese stocks – remains nearly 50% below its record highs reached in February 2021.

Why a weaker yuan can’t solve the problem

The idea of ​​weakening the yuan may sound like a panacea, but economists are not convinced of the effectiveness of this strategy.

“In a balance sheet recession, consumers and businesses cannot be encouraged to spend more by cutting interest rates or weakening the currency,” Peccatiello said.

“They are hemorrhaging and their net worth is declining due to continued weakness in the real estate market.”

Simply put, a weaker currency will not rebuild shattered prosperity or restore confidence among Chinese households and businesses.

What is the real solution?

For Peccatiello, the solution for China could lie in implementing a large, targeted fiscal stimulus.

Instead of general, non-specific measures, some suggest that the government could consider directing significant spending toward struggling businesses and consumers.

The question remains: Will Beijing take substantial steps toward fiscal stimulus?

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