Since 2008, in response to the financial crisis, the Chinese renminbi (RMB) has been pegged at about 6.82 to the US dollar. On the evening of Saturday, June 19th, the Chinese government announced a return to pre-crisis monetary policies which allowed for greater flexibility in the value of the RMB against the dollar. Monday morning saw proponents of immediate revaluation wishing for a little less conversation and a little more action as the Chinese government left Monday morning exchange rates unchanged from Friday’s value of RMB6.8275. China will now determine its exchange rate with reference to a basket of currencies, but the authorities have not given any hints as to what the new currency regime will be.
While the RMB initially surged in forwards markets as traders anticipated future appreciation (as much as 3% in the coming year), the currency actually inched downward on Tuesday, followed by a tiny uptick on Wednesday morning. Three days into the unpegged system and it is clear that aside from the yuan’s daily dance, Beijing is primarily interested in keeping its currency valuations relatively stable and that investors’ hopes for a one-way upward appreciation were wishful thinking.
High hopes aside, the RMB will likely be allowed to rise or fall slowly over time, but at too glacial a pace to cause any short-term changes in the China-US trade imbalance.
China’s reason for the 2008 peg was simple – protect exports. Cheap currency means cheap exports. China, an export-based economy, could not afford to risk making its goods more expensive to foreign consumers and possibly contributing to greater economic slowdown in the economically delicate times of 2008-2009. However, a strong RMB will benefit the Chinese consumer by increasing his purchasing power as gasoline and other imported infrastructure-related commodities will be cheaper. Maintaining an artificially low exchange rate will also cause political friction with Western purchasers of Chinese exports such as the US, whose economies were comparatively decimated by the financial crisis and whose leaders fear a “trade war”. China’s success as an economy also lies in decreased reliance on exports to the West.
A cheaper Yuan might also pose a threat to other emerging markets, including those within Asia. Compared to the economies of the Eurozone and the U.S., Asia’s economies are highly fragmented. While Asia was the dominant economic sector during the financial crisis, Asia’s post-recession dominance is arguably dependent on how much it can integrate its economies. Economic integration need not take the form of drastic steps such as currency standardization (e.g., the Euro). While economic integration will be affected by the fiscal policies of the various Asian nations, such as the terms of trade between different Asian countries, integration will also be affected by Asian nations’ monetary policies. Much of Asia’s success in passing through the financial crisis relatively unscathed is due to the growth of intra-Asian trade. According to Standard Chartered research, intra-Asian trade rose by 80% between 2003 and 2007. In contrast, Asian exports to the US, EU and Japan dropped from 43% to 31% during the same period. Thus, a cheap Yuan might not be the best long-term solution if Asia wants to maintain its resilience to economic storms.
FAST FACT: In 2009, more equity was raised through IPOs in Hong Kong than in both New York and London combined.
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