© 2017 Farok J. Contractor, Rutgers Business School
On February 23, 2017, just hours after his new Treasury secretary pledged a more methodical approach to analyzing Beijing’s foreign exchange practices, President Donald Trump declared:
“Well…I think they’re grand champions at manipulation of currency. So I haven’t held back…. We’ll see what happens.” — Reuters
Four Salient Facts:
ONE: From 2005 to 2015, the yuan actually appreciated by about 40 percent against the dollar (from a low of 8.27 per dollar to near 6.1), which is utterly contrary to Trump’s allegation because any currency appreciation makes a nation’s exports less competitive (while imports get a boost).
See my related posts:
• Whither the Chinese yuan? Is the RMB still undervalued? (also published by YaleGlobal Online as “Renminbi Undervalued? Think Again”)
• What’s at Stake in China-US Relations? An Estimate of Jobs and Money Involved in the Bilateral Economic Tie (newly updated; see a shorter version published by YaleGlobal Online as “Disrupting US-China Relations Will Incur High Costs,” which includes an addendum consisting of this current blog post on the yuan)
TWO: It is true, however, that since 2015 the yuan has come under selling/devaluationary pressure because all the wealth bottled up in China is seeking to get out and diversify into assets in other currencies.See my related post: Capital Outflows from China and the Hidden Story in China’s FDI Statistics (also published by YaleGlobal Online as “Seeking Safety Abroad: The Hidden Story in China’s FDI Statistics”). Since 2015, this has resulted in a minor devaluation from around 6.1 RMB = 1 USD to 6.8 RMB = 1 USD today.
THREE: However, the Chinese government has been vigorously fighting against this selling pressure by having its agents in the foreign exchange markets buy up its own currency (yuan) to try to prop up its value (and try not to allow it to devalue). Again, this is exactly the opposite of what Trump is alleging. Instead of allowing a devaluation of its currency, the Chinese government has in fact been propping up its value by buying yuan. When the Chinese government agent buys yuan, he or she has to offer the counter-party in the foreign exchange market something in return: dollars. Where do these dollars come from? From the previously accumulated dollar reserves of the People’s Bank of China (the central bank). The Chinese have tried valiantly, running through as much as 1 trillion of their dollar reserves. But they did not entirely succeed. (From around 6.1 yuan per dollar in early 2015, today’s exchange rate is hovering at 6.8—that is, a small devaluation.)
But in the last couple of months, the yuan has more or less stabilized since the Chinese have brought out their “big gun” of more stringent currency controls and restrictions imposed by fiat. This has had the desired effect of not allowing the yuan to devalue below 6.9. The fact is that at 6.8 yuan per dollar, the Chinese currency has had a huge appreciation from 8.27 in 2005. (Actually, for China’s exporters, the appreciation has been even bigger—and more painful—against the euro and other currencies because the dollar itself has gotten much stronger since 2005.)
FOUR: The competitiveness (cheapness) of Chinese exports has also been undermined in the last several years by wages on the eastern seaboard of China—where most of the manufacturing takes place—rising by annual rates of 10–15 percent per annum. Since labor costs have risen dramatically, some Chinese exporters are no longer profitable (even at the 6.8 yuan per dollar exchange rate) and have themselves moved operations to Vietnam, Bangladesh, and Africa. This fact also partially undercuts the allegation of an undervalued currency.
CONCLUSION: The overall conclusion is that the yuan was indeed undervalued 12 years ago, in 2005. But today—following a 10-year appreciation and significant wage inflation—the Chinese currency is not substantially undervalued anymore.
I have visited China more than two dozen times since 1999, when everything seemed like a bargain for the American visitor. No longer. Prices at today’s exchange rates in major cities are hardly cheaper than in the US.
The Chinese must be as mystified as US citizens about President Trump’s pronouncements, which seem to relate to issues of the past.