US-China exchange rate disputePresented by Xintong Hou

Background

2005:Chinese governmentannounced to change its official exchange rateregime

2005-2006:The RMB initially continuedto maintain a tight peg to thedollar after July 2005; In 2006,the relationship gradually loosened

January-March 2007:PBOC began to assign a little weight within the anchor basket to a few non-dollar currencies

2007-May, 2008The anchoring basket beganto assign substantial weightto Euro; To May 2008, theanchor was a true basket that put virtually as much weight on the euro as onthe dollar

Sep. 2008-Feb.2009:All the weight once again was given tothe dollar.

January 2009: US Treasury SectaryGeithner’s confirmationhearings to the Congress

Some changes RMB has risen up 12 percent between June

2010 and February 2012 on an inflation-adjusted basis and at least 25% (25 to 40 percent based on different measures) since 2005 .

In the last two years, American export to China has risen sharply.

The trade surplus of China has more than halved from a 2008 peak of $300 billion to an estimated $125 billion in 2012.

China has gradually liberalized cross-border capital flows since 2009. e.g. RTSS

Some thoughts

China does run surpluses with both the US and Europe. However, China also runs deficits with Japan, South Korea and the ASEAN countries. So the renminbi may be just about right in global terms

Stop buying or keep buying dollar?

• Despite RMB has appreciated at least 25% since 2005, China’s currency revaluation has not brought back lost manufacturing

jobs to the U.S., nor has U.S. trade deficit with China diminished appreciably• China/US trade balance has remained virtually unchanged

Source: United States Census of Bureau

Policy options

1) Keep bashing on China, pushing it to adopt the one-off or faster appreciation advocated by many U.S. politicians and congressmen2) Let China gradually reform its exchange rate regime, including allowing more flexibility for RMB and setting its value with reference to a basket of foreign currencies

Bashing on China: pros

Some U.S. producers of a product that is in demand in China will normally sell more in China if the RMB appreciates against the dollar.

U.S. producer of goods for domestic consumption competing against Chinese imports will also normally sell more if the RMB appreciates.

Other Asian countries competing with China will benefit from the appreciation of RMB

A small proportion of jobs may go back to U.S.

More open Chinese capital market

Bashing on China: cons

Trigger trade war at the middle of the Great Recession

Affect U.S. producers who use intermediate goods imported from China in their U.S. production processes and U.S. consumers.

May Lead to hard landing of Chinese economy, which will not be a bless for U.S. and the world economy as well

A dollar hard landing as the combination of a big fall in its value together with a big increase in US interest rates

Affect US-China cooperation on other issues, such as the nuclear problem of Iran and North Korea

Postponing US’s structural reform that would restore competitiveness

RecommendationLetting China gradually reform its

exchange rate regime

1) US should not push RMB too hard

An appreciation of RMB alone, would not do much to boost US export or employment.

US actually depend on China to continue buying dollars to finance its deficits.

Overheating is no longer the problem for the Chinese economy that it was as recently as a year ago ; and the exchange rate is no longer as seriously undervalued as it was

The stability of Chinese economy is in the World’s interests

RecommendationLetting China gradually reform its

exchange rate regime

2) It’s in China’s own interests, for several reason to reform its exchange rate regime

Force China to speed up industrial upgrading and structural transformation of Chinese economy

Neutralize imported inflation

Defuse political tension with the U.S.

An inevitable step for RMB to become a global reserve currency

• 70,000 Chinese trade companies are now permitted to settle trades in Chinese Yuan. In addition, PBOC announced at the beginning of 2011 that US customers will be able to open up Yuan-denominated accounts, and the World Bank became the latest foreign entity to issue an RMB-denominated “Dim-Sum Bond.”

• China is also promoting the use of RMB in China-Asia Free Trade Area (CAFTA)

• China Quietly Relaxes Controls on Foreign Capital

Sample Questions

How much has RMB appreciated since 2005?

T/F On April 15th 2009, the US Treasury semi-annual report did not label China as currency manipulator

Any Question?