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- AUD bolstered as China says will not devalue CNY in trade war

- AUD rises on comments

- AUD downtrend could resume owing to broader outlook

The Pound-to-Australian Dollar exchange rate is trading one-week lows at 1.8160 as the Australian Dollar is the best-performing major currency on the day thanks to comments from Chinese President Xi Jinping who said China would not be devaluing its currency in retaliation against the tariffs imposed by the US.

Hopes for a robust Yuan is important for the Aussie Dollar - China will likely go on buying Australian exports in high volumes as long as the Yuan is strong, which in turn supports the Australian economy.

GBP/AUD fell from 1.8300 down to 1.8170 on the news and AUD/USD rose from about 0.7215 to 0.7245 as it triggered a short-covering rally.

Above: The Australian Dollar is the best-performing major currency on September 19

The Aussie Dollar is now one of the better performing currencies of the past week; however more work needs to be done if it is to overturn the poor performance seen over the course of the past month.

The spot Yuan was trading at 6.8503 at the time of writing, -0.24% from a previous day's close of 6.8672.

China has promised to retaliate to the US decision to impose a fresh round of tariffs; however that the country is not targetting the Yuan suggests they are wary of stoking the tariff war.

The Office of the United States Trade Representative on Tuesday announced a 10% tariff will apply on $US 200 billion of imports from China on24 September.

The 10% tariff is smaller than the 25% markets had initially feared, this could also explain the market's lacklustre reaction and the strong bounce seen in the Aussie Dollar Tuesday.

The Chinese set a guidance rate or 'midpoint' for their currency each day from which it can only deviate a maximum of 2.0% in either direction. On Wednesday, Beijing set the guidance rate or midpoint for the offshore Yuan 78 bps points higher.

Gains Might not Last

After all, the Dollar has been in a strong uptrend versus the Chinese unit since the March 2018 lows, gaining 9.75% versus CNY in that time.

Iris Pang, Greater China economist at ING, sees the Dollar's uptrend continuing and expects USD/CNY to hit the psychologically important 7 per Dollar level in time.

"Crossing 7.0 seems to be possible with the escalation of trade war though it could be temporary as the next day's fixing should manage the USD/CNY back to below 7.0. But touching 7.0 could be a new norm," Pang.

A weaker Yuan would have negative consequences for AUD.

The Aussie has lost ground during 2018 on a combination of a low interest rate outlook vis-a-vis the competition and trade war fears which triggered a sharp devaluation in commodities, especially, iron ore, steel and copper three of the country's primary mainstay exports.

That's not all - the Dollar could be buoyed by liquidity constraints in October as the US Treasury sources notes to cover its outgoings for the month after Trump's tax reforms left a revenue shortfall, says James Bevan, CIO of CCLA Investment Management.

Constrained Dollar liquidity in the past has led to an appreciation in the Dollar according to research from Nordea Bank, so if Bevan is right, it is possible, all other things being equal, the same could happen again next month and AUD/USD will resume its downtrend.

Further, AUD is vulnerable to emerging market and current account deficit risks, says Bevan in an interview on Bloomberg TV.

The country is carrying a lot of Dollar-denominated debt which puts its in a vulnerable position if USD continues to appreciate, says the CIO.

The sharp downwards trajectory of the charts suggests AUD may struggle to turn the tide and reverse its downtrend.

However, as always in currency forecasting, others are not convinced the Aussie's recovery is a short-term phenomenon.

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