Minyan Mailbag: Revaluation of the Chinese Renminbi
Yuan-a run that by me again?
Note: Our goal in Minyanville is to remove intimidation from the financial markets and encourage an interactive dialogue among the Minyanship. We share this next column with that very intent.
Prof. Succo -
Would the revaluation of the Chinese renminbi be bearish for the economy because it would automatically cause price increases from goods imported from China? If this is the case, why are the Feds constantly pushing this idea?
The renminbi / yuan is considered by most to be undervalued relative to the dollar. The Chinese government has declared it pegged to the dollar and has been making a market of 8.28 yuan per dollar for thirty years. As the Chinese labor force is willing (or has no alternative) to work for much less (in standard of living units) than the U.S. labor force, U.S. companies figured out that they can buy goods from the Chinese and re-sell them in the U.S. cheaper than if they manufactured goods themselves. As companies import goods from China, we exchange our dollars for those goods. Chinese companies then remit those dollars into the Bank of China. In order to keep the yuan / dollar exchange rate stable, instead of selling those dollars into the open market, China must retain those dollars as foreign currency reserves and consequently buy U.S. financial assets with them.
If the Bank of China decided to let the yuan / dollar float, instead of retaining dollars when Chinese export companies remit dollars back, they would sell those dollars in the open market. This would put upward pressure on the yuan relative to the dollar.
Chinese exports would become relatively more expensive to U.S. consumers and U.S. exports would become relatively cheaper to Chinese consumers. Theoretically, this would improve the trade imbalance between our two countries (and other Asian currencies that would rally in sympathy with the yuan). For this reason, the administration is declaring that a "de-pegging" is a good thing. But given the fact that a "de-pegging" would be in stages and the fact that Asian companies would attempt to hang onto market share, the likely benefit to U.S. exporters would not occur right away and the imported "inflation" to the U.S. might not be that significant.
The negative aspect of this to the U.S. is that (at least in a free market) U.S. interest rates would rise as less U.S. financial assets like Treasury securities would be bought by the Bank of China. But the Fed, if it saw this occur, would likely step in and monetize: print dollars to buy U.S. Treasuries to keep U.S. rates stable.
My opinion is that this would be a managed process by the central banks, which seem today as "masters of the universe" to manage everything else (so why should they stop?). As a managed process the initial repercussions would be minimal.
If markets were truly free, the yuan and other Asian currencies would be much higher relative to the U.S. and U.S. interest rates would be significantly higher than they currently are.
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