Chinese Currency Crisis?

Chinese Currency
Yuan (CNY) Renmin Bi (RMB)
Jin Kuan Tael Qian Yin Bi Kuai Da Tour Da Mao

US$ = Mei Yuan

Chinese Currency

Renminbi - - the peoples currency

Issued by The Peoples Bank of China
Established 1948 Formalized in 1995

Yuan - - is a sub-unit of the renminbi

: Chinese for round

Agenda
Brief History How Currency Manipulation works The Impacts of Manipulation The Claims against China Virtual Subsidy Counter Arguments

Chinas Currency System History

Republican China (Pre-PRC), currency problems, rampant hyperinflation 1949-78, Closed Economy 1994 began peg at 8.28:1US$ 2005 floated peg

Problem
The Chinese Renminbi is undervalued by about 40% against the $. The Chinese authorities buy about $1 billion daily in the exchange markets to keep their currency from rising & thus to maintain an artificially strong competitive position.

U.S. Dollar to Chinese Yuan

1995 - 2005
Peg - China sets a rigid exchange rate of to $

2005 - Current
Crawling Peg - China allows its currency to fluctuate between a defined band
0.3% to 0.5%

Future
Float - China will allow its currency to be valued by the market

U.S. Dollar to Chinese Yuan

Timing Exchange Rate 1995 - 2005:1 USD = 8.28 RMB() July 2005: 1 USD = 8.11 RMB() Today: 1 USD = 6.55 RMB()

Anchor US Dollar Basket Basket

U.S. Dollar to Chinese Yuan

Exchange Rate: 1 USD = ____ RMB()

Exchange Rate Adjustment Systems

Managed Float: primarily market-driven float of the exchange rate with occasional government/central bank intervention

Crawling Peg: a primarily fixed exchange rate is allowed to fluctuate within a band of rates; par value of the stated currency is frequently adjusted

Fixed (Pegged) Exchange Rate: government/central bank completely manages the official exchange rate by tying it to another countrys currency

Exchange Rate Regime Today

Implications of a Fixed Currency

Forfeited

power of the central bank to influence the economy through monetary policy A fixed exchange rate, sometimes called a pegged exchange rate, is a type of exchange rate wherein a currency's value is matched to the value of another single currency or to a basket of other currencies, or to another measure of value, such as gold. Reduced currency risk facilitates investments & trade

IMF 2007 Agreement

A member shall avoid manipulating exchange rates or the international monetary system in order to prevent effective balance of payments adjustment or to gain an unfair competitive advantage over other members.

How Manipulation works

Prints new Chinese Yuan to make purchases of US$ assets Chinese Government buys U.S.$ denominated assets Excess demand for RMB is eliminated Lowered demand = lowered value End result: value of RMB suppressed from naturally occurring market price.

Impact of Currency Manipulation

(on China)

Virtual subsidy Reduced risk for investors ($ peg) Increased competitiveness for FDI Higher cost of foreign consumer imports Higher cost of imported factor inputs (machinery,
raw materials, component parts)

Lower local wages, Higher employment Expanded Yuan supply.

The Economist, 07.05.2007

What 40% undervalued means

At current Managed Exchange Rate

1USD = 6.55600136 RMB 1RMB buys 0.152532 USD

If actual value 40% higher?

RMB would buy 40% more 1RMB = 0.2835448 USD 1USD = 3.5267795 RMB

Impact of Currency Manipulation

(on U.S.) Increase U.S. trade deficit Negatively affect U.S. businesses

Chinese imports relatively cheaper U.S. exports to China relatively more expensive

Allows China to undercut American exports to other markets. According to one think tank,2.4 million U.S. manufacturing jobs were lost between 2001 & 2008.

US Trade Deficit with China

400 $ Billion

300
200 100 0
2003 2004 2005 2006 Jan. Sept. 2007

-100 -200 -300

Exports Imports Balance

-124

-162

-202

-188
-233

SOURCE: U.S. Census Bureau, Foreign Trade Division

Trade deficit with China

US Trade Deficit with China

Trade Deficit with China

250,000.00

200,000.00

150,000.00

(million$)
100,000.00 50,000.00

0.00 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005

Loss of Manufacturing to China?

Is USA losing manufacturing jobs to China? Has currency manipulation caused, or exacerbated that loss?

A drop in US Manufacturing Employment?

Who Benefits?
Foreign/US firms exporting from China (400 of Fortune 500) US consumer (cheaper goods, higher purchasing power) Component importers from China (resources, machinery, capital inputs, etc.) Chinese Economy (manufacturing base, economic growth)

Who Loses?
US firms who compete with Chinese imports (US dom. manufacturing) US Exporters trying to get into Chinese market Chinese consumer, individual (wages depressed, low competition) *** US firms doing business solely in Asia profits reported in US$.

Chinas CPI accelerated in 2007-08

Inflation 2002 to 2008 Q1

Virtual Subsidy Case Study

(Anti-China Lobby Claim)

Chinese Manufacturing Advantage

Thomas the Tank Engine

Price $9.89. Manufactured entirely in China, therefore Price based on factors of input in RMB

Current Exchange rate 1US$:7.54RMB

So actual Price = 74.61RMB expressed in US$ is $9.89.

Thomas the Tank Engine

If overvalued at 40% (The Big if) Exchange rate would be: 1US$:5.39RMB The same Price = 74.61RMB expressed in US$ would be: $13.84.

So What?
Your cost goes up from $9.89 to $13.84. A US firm can make Thomas locally for less than $13.84. Thus manufacturing and the related jobs return to the U.S.

The Claims on China

Intentionally Suppressing RMB value Fueling economic growth/boom Suppressing local consumers Flooding U.S. markets dumping Undervalued by 10%-40%

Does China admit its currency is undervalued?

NO

Beijing says it has merely kept the Yuan stable, without constant fluctuations, to remain competitive in world markets.

Chinese Argument

Our developing economy is unstable Currency management necessary to prevent crisis that would impact world economy Must wait until further market reforms are complete Chinese banking system underdeveloped Vulnerable to currency speculation Political risk: currency up? > income down > employment down > worker unrest > domestic political challenge/crisis = Internal Affairs

Be careful what you wish for. You might get it !

Questions?

Thank you