China's_Renminbi

Problem Statement China is under pressure to revalue its currency, the Renminbi (RMB), from US policy makers and the decision will affect the economic stability of adjacent countries. Should China give in to the demands or keep its currency at the current rate' Background Near the 20th century China was subjugated by foreign powers and became an economically and politically powerless nation. The totalitarian party developed with increasing influence within the country and they single-handedly united the national government with economy for the first time. In the early stages, China had considerable levels of progression of labor-intensive exports with a massive increase of inflows of foreign capital and domestic savings. In 1997 China’s GDP enlarged to 8.8 percent and in 1998 it grew to 7.8 percent (K.C.Fung, and Wong, 2008). This is astonishing, considering the negative impact of progression for the neighboring countries at this time. People’s Bank of China (PBoC) is the main source of currency and the innermost financial institution for the country. The affairs of the Bank of China are foreign currency and international accounts. The China’s Central Bank developed interest rate cuts to promote spending by enterprises and households; however, prices fell. With China’s refusal to devalue its currency in 1997, there was a negative impact in the exporters segment; therefore, the government created policies to stimulate exports. In the 1990s China’s economy returned to its healthy expansion, and the government forecasted an annual growth rate of 8-10 percent by the end of the decade. The Gross Domestic Product (GDP) of China grew to 8.8 percent by 1997 and 7.8 percent by 1998 and sustainability by 1999. (See table 1) By 1998, exports increased by 0.5 percent while imports decreased by 1.5 percent. By 1999, exports fell by 5.3 percent while imports increased by 15.3 percent. Because China’s exports were less competitive in contrast to imports from other countries, this affected the exchange rate policy (“US China Trade Deficit-Why the US Trade Deficit with China”). To promote exports, the exchange rate was devalued many times to the US dollar in 1981 and declined progressively in 1988 due to the market-determined rates in special economic zones for importers and exporters (K.C.Fung, and Wong, 2008). In 1986 the exchange rate was pegged to the U.S. dollar. The terms for China’s currency is often interchangeable-“Yuan” and “Renminbi”. China sets the value of its money, the Yuan, to continually match a set amount of a basket of currencies which includes the dollar. When the dollar loses worth, China buys dollars through U.S. Treasurers to aid it. In this way, the Yuan's value is always within its targeted scope. As long as the Yuan's value is lesser than the dollar, China's goods are cheaper in comparison. Analysis The exchange rate of the Renminbi, its devaluation and valuation, are at the center of China’s monetary and economic policies. US policy makers recognize the speedy accumulation of foreign reserves possessed by China, which is over $850 million, as proof of currency manipulation. They argue that by maintaining a low position of the Renminbi, through the retention of foreign reserves, it reduces the US current account balance with China due to the competitive pricing to US industries. They also argue that if the RMB appreciates it will strengthen the US companies and intensify output and diminish the discrepancy in the current account. China is cautious about the revalue because it has gone through an astonishing growth of the last decades and do not want to undermine their efforts. Before 1978, China had a strict central planning where the Renminbi was pegged to a basket of currencies with a high exchange rate. Foreign residents and tourists had to obtain foreign exchange certificates from the government to live and travel in China (K.C.Fung, and Wong, 2008). In 1978, China initiated an “open door policy” allowing foreign investments in special economic zones (SEZs). China has greater than an 8 percent progression annually by undergoing structural changes in the economic governing with the transition from a centrally planned economic distribution of resources to a socialized marketplace influenced method of supremacy. China has a sound financial system even though other countries within the region were experiencing financial meltdowns. While exports to the U.S. and European countries increased, exports to East Asia declined. It becomes difficult to believe that China is a third world country because they have shifted to an extensive market economy supported by an effective infrastructure. They are exporters of globalization into other third world countries like Africa and Latin America. The undervaluing of the Renminbi will expand China’s export market and take a benefit of its comparative advantage that is relative to global commerce and trade. Comparative advantage dictates that if a country can produce a good at a lower cost than another country then it has a comparative advantage in the particular product (E.Kennedy & F.Koehn, 1996). The problem with that is determining the production expense of individual products factoring in transportation and by China’s comparative advantage structure they ignore market realities that producing goods and services efficiently captures most of the markets from other countries. A country does not compete with other countries but it competes with itself by producing its own efficiencies rather than those of other countries. Countries must be aware of their strengths and act accordingly when it comes to the competitive markets. The argument given by the U.S is that the Yuan is undervalued vis-à-vis the US dollar because the Yuan is pegged at 8.28 per dollar. They have based their claim on the fact the undervalue of the Renminbi is a large trade surplus that China has with the US and the upsurge of the dollar asset reserves of China’s Central Bank and People’s Bank of China. Because of this surplus, China has $350 billion in foreign currency reserves and $122 billion in US government bonds. China is using the trade imbalance to become the largest creditor to the US government. China is organizing a trade surplus within the United States because of the demand for low price made in China goods. China’s current situation with the Renminbi trades range from 8.27 to 8.28 to the dollar which is kept in order by the Central Bank. China’s priority is to keep the Renminbi as stable as possible during these turbulent times and while there is a change in Chinese leadership. China is under pressure from the International Monetary Fund to do away with the RMB peg to the dollar and substitute it with a new flexible basket of currencies. Due to the US trade deficit of $233 billion with China, they have threatened to impose tariffs on Chinese imports if China does not revalue its currency (K.C.Fung, and Wong, 2008). China’s performance with its currency has been a smooth transition with liberalization after the Asian crisis. Capital account controls help protect China from instabilities in the international capital market. As China maintains a strict hold on its capital controls, it is smothering the competitive growth that is needs to change lending habits and stimulate reforms. Recommendations While an appreciation will increase China’s exporting price, a revaluation will decrease the competitive market and increase unemployment. It can ultimately raise the price of goods and services but would lower the input cost associated with production and offset the price competitiveness. China’s leaders will most likely not do what is right and drag their heels on the query of revaluation but they are conscious of their actions in the Asian economic crisis, keeping the peg, and gaining credibility for their economic growth and development. Beijing leaders will not give in easily or any time soon for that matter. Should China revalue the Renminbi' The answer to that question is absolutely yes. Because the United States has always rendered aid to other countries in need, China should come to the aid of the US to help reduce the deficit. This debate of the revalue of China’s Renminbi has long existed. The Chinese economy can actually benefit by shifting additional resources into China while the currency is low. China: Macroeconomic Indicators (1995-1999) Table 1 | 1995 | 1996 | 1997 | 1998 | 1999 | Real GDP (% real change) | 10.5 | 9.5 | 8.8 | 7.8 | 7.1 | Inflation (CPI% change) | 17.1 | 8.3 | 2.8 | -0.8 | -1.4 | Exchange Rate (RMB/US$) | 8.32 | 8.30 | 8.28 | 8.28 | 8.28 | Exports (% change in US$) | 23.0 | 1.5 | 21.0 | 0.5 | 6.1 | Imports (% change in US$) | 14.2 | 5.1 | 2.5 | -1.5 | 18.2 | Merchandise Trade Balance (US$ billion) | 16.7 | 12.2 | 40.3 | 43.6 | 29.2 | Source: National Bureau of Statistics of China References E.Kennedy, R., & F.Koehn, N. (1996). The Economic Gains from Trade: Comparative Advantage. Boston, MA: Harvard Business School Publishing. K.C.Fung, and Wong. (2008). China's Renminbi: "Our Currency, Your Problem"' The University of Hong Kong: The Asia Case Research Centre. T.Wells, L. (1997). Note on the Balance of Payments. Boston, MA: Harvard Business School Publishing. US China Trade Deficit-Why the US Trade Deficit with China. 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