Yes, the RMB is undervalued. Any country where you can buy a 22oz bottle of beer in a restaurant for about 50 cents US, the currency is undervalued. And, according to the Big Mac Index, China has the most under-valued currency in the world with an average Big Mac price in May 2006 of 1.10 USD compared to the US average of 3.10 USD.
The undervaluation of the RMB is a favorite topic among China bashers and those who want to ignore other, more domestic, causes of economic woe in the US. There is no clear evidence that revaluing the RMB will solve any economic problems, and may even prove damaging to both the US and the China economies. Revaluation seems to be more of a punitive measure against China to decrease their exports and increase US exports, or at least curb further outsourcing from the US. But is there anywhere else in the world with industry geared to manufacture the goods that China currently exports? Might we be stuck purchasing the same goods at higher prices because we simply can't get the goods from any other source?
John Lee has a post at Resource Investor on the consequences of an appreciating RMB. A quick summary:
For a US family that spends $300 to $500 a month on Chinese goods, a further 40% appreciation of the RMB will translate into a $100 to $200 monthly cost increase. I spend at least $500 a month on Chinese goods, and to me, the logic of asking the Chinese to revalue their currency upwards is no different from asking the Saudi’s to jack up their oil price further, which is no logic at all for a US consumer.$300 to $500 on Chinese goods is no stretch, and a $100 increase per month is a high cost for the average voter to bear for the potential of protecting
Some have concerns that China is hoarding US cash to use as an economic weapon against the US. Robert Graves' narrator in Count Belisarius has something interesting to say about conclusions such as this:
It is well known what happens on such occasions [when a group of people/senators meet to discuss a situation]. The simplest and most obvious conclusion is rejected as unworthy of such experts in wisdom as these ingenious hoary old men, and an obscure alternative is warmly debated and then rejected; finally a most far-fetched and marvelously improper conclusion is found and unanimously accepted.
China Hearsay provides us with the simplest and most obvious conclusion: the People's Bank of China (PBOC) has huge reserves of USD backed assets because they turn a profit on the difference in interest rates between US bonds and the bonds that the PBOC issued. China Hearsay says that two things are decreasing China's advantageous position: 1) decreasing US interest rates (to encourage investment) and increasing Chinese interest rates (to curb inflation) are converging thus reducing the profit margin of the PBOC; and 2) the RMB is appreciating against the dollar which is making PBOC's USD reserves less valuable. As the RMB appreciates against the dollar, China will have greater incentive to divest their dollar holdings. As China divests their dollar holdings, the value of the dollar will, seemingly, continue to slide. Surely, US exports will increase, at least marginally, with an even more devalued dollar, but the dollar can only undergo so much devaluing before there is trouble.
Higher priced goods combined with a further devalued dollar seems like it would be nothing but further trouble for an America that could do with a bit of stability. Usually I'm a big fan of free competition and globalization guided by free trade, and it is hard to predict the actual effects of revaluing a currency, but perhaps the CCP's policy of a gradual revaluation is sensible. Globalization guided by free trade is a sensible goal, but just because that is where the world should be headed does not mean that is where the world should now be.
3 comments:
Nice post. Welcome.
On November 7th, the NYSE slide 200 points by midday on speculative news that China is going to revalue their foreign reserves with the euro or some other higher valued currency (lets face it, its euro, I hardly think nationalism will allow them to revalue to the yen and there is nothing else besides that). This drove the dollar even weaker against the euro and oil prices went up some more to hit $98.
Still, I really don't think China will revalue the yuan or its reserves against another currency. The amount of crap that both countries have to deal with in order to do something like this is just not enough to warrant such possible instability. I think the instability that this will cause, especially a year before the GRAND OPENING OF CHINA TO THE WORLD aka the Beijing Olympics will simply not allow the CCP Central Committee to truly consider such a rash move. Additionally, the weakened dollar on rising oil prices will get the Fed to work up enough courage to have a no cut in the interest rate next quarter and increase it throughout the year. This will curb both oil prices back to around $80 according to Goldman Sachs and give the dollar enough strength to deter more BS from anonymous Chinese "high" officials about revaluing the yuan or pegging it to the euro.
Basically, China knows its too late to swap $1.4 trillion dollars for anything else. Rumors are just to get the US to do something to strengthen the dollar.
bandkanon,
China's current currency valuation, pegging the RMB to an index of currencies is a good idea in light of the dollar's weakness.
I agree with your insights, especially as regards to China playing it careful at least through the Olympics. Usually I'm excited about the Olympics for selfish, nationalistic reasons, but I'm looking forward to the Beijing Olympics because they should hold plenty more excitement than just sport.
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