Why China Probably Won't Revalue the Yuan Soon

Posted by: Bruce Einhorn on February 16, 2010

As China shows more signs of overheating, Goldman chief economist Jim O’Neil says Beijing is poised to allow an appreciation of its currency, the yuan, to slow the economy. As my Bloomberg colleagues reported on Monday, O’Neil thinks the Chinese could allow the yuan to strengthen by as much as 5%. “I have a strong opinion that they’re close to moving the exchange rate,” O’Neill said in a telephone interview from London after China’s central bank told lenders on Feb. 12 to set aside larger reserves. “Something’s brewing. It could happen anytime.”

While there are solid economic reasons to move quickly, there are also some solid political reasons to stay put. The U.S. has been loudly calling for the Chinese to let the yuan appreciate. For instance, President Obama said in an interview with Bloomberg BusinessWeek, “China and its currency policies are impeding the rebalancing [of the global economy] that’s necessary. My goal over the course of the next year is for China to recognize that it is also in their interest to allow their currency to appreciate because, frankly, they have got a potentially overheating economy.” (You can read the whole interview in the current issue of Bloomberg BusinessWeek.) The president is right, but China’s leaders are probably in no mood to give an inch to the U.S. right now. They’re still fuming over the arms sales to Taiwan, U.S. criticism of China’s Internet censorship and a meeting between Obama and the Dalai Lama that’s scheduled for Thursday. A change in currency policy now would be a big win for Obama – and might lead people in China and overseas to conclude that putting pressure on Beijing works. So even if a revaluation of the yuan is in China’s interest, it probably isn’t going to happen for a while.

Reader Comments

YX

February 16, 2010 10:25 PM

It will be in China's interest to revalue the yuan in 5-10 years when the world market has been fully expored and exploited. China can then consider raising the value of its currency against the likes of the yen, the euro and the US dollar. I am for slow appreciation in the range of 1-2% a year, thereby making the so-called hot money long term investment in Chinese capital markets. Mild inflation(3-5%) is good for the rapid growth of the economy. The Chinese government is the only government in the world able to put a brake on the economy when it is deemed necessary. So let the economy grow while keeping an eye on the inflation.

Strategery

February 16, 2010 10:35 PM

The reason the Chinese can keep the Yuan so low is because they buy treasuries (government debt). If we balanced or even reduced the deficit, the Chinese would lose their pricing power. Alternatively, we could use the printing press to fund the deficit and devalue China's existing dollars, plus weaken the dollar to help our exporters (which is what I think we should do).

Tommy

February 16, 2010 10:42 PM

The lesson: don't mess up with your biggest creditor (sorry, 2nd biggest now as China just reduced their US treasury holding & Japan re-gained the 1st place). About the arms sales, is the U.S. so desperate they have no other means to reduce fiscal deficit than selling arms to Taiwan which everyone in this planet knows will anger Beijing? and what is so important for Obama to meet Dalai Lama, is he looking for Wizard of Tibetan who can magically reduce unemployment?

forest

February 17, 2010 3:08 AM

You can't say Chinese yuan is overvalued because we have a trade deficit. The main reason of trade deficit is that Chinese are willing to make razor thin profit on deals. You need to know pricing structures to understand currency values. Let me ask you this first: why we are not seeing people here complain that $1 would worth about 90 Japanese yan while all of our electronics industry and auto industry were decimated by Japanese imports. The answer is that a bowl of noodle in Tokyo costs about 2500 yan. Same reason if you really know the pricing structure in China, you will come to the conclusion that the Chinese yuan is way over valued. For those who have been to China know that if you stay in a five-star hotel, it will cost you at least 2000 yuan a night, about $300 with current exchange rate. A motel 6 type of hotel will cost you about 400 yuan a night, about $60. The price of a base model Honda Accord or a Buick LaCrosse in China is about 350,000 yuan, a whopping $54,000. Now you tell me what the right exchange rate should be. You really think the yuan should appreciate to a point that a Motel 6 type of hotel would cost $200 a night? A Buick LaCross will cost $100k? One-way air fare to China will cost about $5k. Imagine what will that mean for China? Would you rather keep yuan at current fair value? Or let it free flow so that it would appreciate sharply, and then crash to 20 yuan for $1? So the currency issue is a political issue. It is not going to solve trade deficit or unemployment.

jcage

February 17, 2010 3:28 AM

Strategery-----

Your plan of printing massive amount of Dollar to devalue the Dollar could lead to hyper-inflation in the USA.
You can not assume that people holding the Dollar will keep holding them while watching them being destroyed in value.
They might start to exchange it for hard asset and other currency and that would lead to the run of the Dollar.
China has just sold 33 Billion of T-Bills and who know if China start to sell more T-bill and stop purchasing American debt. It could lead to higher interest rate and in turn it would affect all the ARM.

Steven

February 17, 2010 9:57 AM

The main reason for US deficit is overconsuming of US people. Nothing else.

XR

February 17, 2010 10:29 AM

I share some of Forest's view. Since relocating to China 7 months ago, I have come to realize that the whole idea about Chinese yuan being undervalued may not be correct. Based on my experience of living and traveling in China, I felt Chinese yuan is actually overvalued. The problem with trade deficit is not about currency but trade policy and practice.

First of all, many Chinese companies are so used to gaining market share by lowering price. They do this in internatinal trade as well as domestic trade. Second, behind the export from China is the strong support by the Chinese government. A pair of Levi's jeans cost way more than in the US!

obsthetimes

February 17, 2010 11:04 AM

Its a mistake to think that remninbi revaluation shall be of much help to the US.
We still need a strong trade and manufacturing policy. Otherwise we will simply be substituting some chinese exports on our shelves with south/east asian exports.
Also, with the euro, sterling weakening by the day, those countries will probably make up the chinese export shortfall in international markets. Free trade without equal access and domestic competitiveness is fool's trade.

CompEng

February 17, 2010 11:11 AM

Jcage,

generally what you say is true. However, if the problem for most Americans is their level of debt, moderate inflation is a friend, not an enemy. That interest rates would rise and make future debt more expensive might not even be a bad thing. The only key is not to print too many dollars, not to go too far.

JiaMing

February 17, 2010 11:15 AM

I believe the Obama administration is really doing everything it can to keep China from appreciating her currency. The motive is obvious. Obama needs to borrow from China at rock bottom interest rates to fund his record deficit spending. If the yuan rises, it will push inflation in the US up, limiting the Federal Reserve's ability to print money and driving short-term rates up. China will certainly sell more US debts since it will get fewer dollars from falling exports due to the rising yuan. That means interest rates on US debts from T-bonds to mortgages will go up, driving back the US recovery. Of course, China's leaders are all about face rather than practicality, and Obama knows it. China will continue to subsidize the US just because Washington keeps slapping her face. Sounds stupid, but that is exactly what Beijing is doing.

Jeffcrystal

February 17, 2010 11:47 AM

The appreciation in the Yuan is something that's inevitable in the near future, the fact that Japan just replace China as the biggest US treasury holder is a hard evidence that the Chinese are gradually diversifying their asset away from US Dollar, which I think is the right move in the long term.
The fact that this shift from China back to Japan as our biggest debtor being not in any major news today has confirm me that this administration will do everything they could to keep the ignorant US population in their 'China bashing' mood for the diversion against their own mistakes. By piggybacking on the reality that China will have to revalue their currency sooner or later by saying that WE are the ones who pressures them to do so have shown how skin deep and shameless this administration has become.

Soothsayer

February 17, 2010 11:50 AM

The U.S. should implement an immediate 10% tariff on Chinese goods to force the decoupling of the yuan to the dollar. We did this with Japanese and it brought about the desired results very quickly.

Dan

February 17, 2010 1:08 PM

The simplistic view of Yuan affecting American jobs and trades is sold by US politicians to stupid electorates because they don't have a clue to solve American's economic ills. You think expensive Yuan will bring those jobs home to the US? They'll go elsewhere cheaper in the world! You think rise in Yuan will make US goods cheap thus China will buy more? China only buys what interests them. It's high tech. American won't sell most of it citing national security. Tough. Then it won't help US business much. Anyway you look at it, this "Yuan manipulation" is so bogus only a moron will believe. Those morons may be too young to know the Japanese had fallen for this currency appreciation dirty trick decades ago and they're still paying for it.

Ming Zhu

February 17, 2010 1:40 PM

The main reason China is holding its currency steadily with the US dollar is not about any offence to anyone else in the world, but to create the jobs by being the world factory as for more than 50 millions of new entries every year! It is about their internal stability that is the core national interest than any other international politics. Image that China will get less than, say, 5 to 6 percent growth (not depression!), then there will be massive unemployment rocketing into 100 millions very quickly, that would lead huge instability in a country having vast differences in wealth/poverty, even speaking languages, daily customs and background culture within itself. Former President Bush understood this as he was in China along with his father in 1970s, and respected this which made him done well with China, that is said as very few things successful in foreign diplomacy during his presidency in White House.

In such scenario, China would become a big black-hole for the world that require international rescue and aids to feed its hungry hundreds of millions people. I do not know when Obama and other world leaders talking about the Chinese currency, they really understand what China is about. I guess everyone have their own domestic agenda that come into conflicting situation internationally. I would say if the US have the same situation, it would do the same thing to keep its national interest at the highest priority.

On the other hand, with a virtual new Bretton Woods system between the US dollar and Chinese currency, China is immune from the free market speculations which have caused massive financial crisis worldwide in 1997 Asian crisis with South Korea and Thailand, and now happening in Europe these days. This is like a business model within a corporate, by doing so, the US can get low interest loan and China can make steady development of its still fragile economy.

So I would say that the world would appreciate more that Chinese got thousands visiting Macy’s in New York City like this time at the occasion of Chinese New Year, buying America rather than crying for help of international aids. Obama should know such difference that a China with bright prospects will benefit the world. China is a country measuring the decade or century, not by the intermediate politics or some presidents coming to force it to do something that would deeply hurt its national interests. Let us not be so naïve.

Two cents from a Chinese living in Paris, France

sissi

February 17, 2010 2:25 PM

The intention to make China to appreciate of US is very cheeky. It will only benefit American economy and do harm to China's economy. Why dose China have to do what America wants it to do?!?!

jim

February 17, 2010 4:34 PM

our national debt increased from 4T to 11.5T from the end of Clinton era to present, the stimulus program was 780B+, essentially these are money printed without backing, therefore, dear Strategery, your proposal does not work.

Strategery

February 17, 2010 6:29 PM

jcage, explain to me why the US government should have to issue bonds and pay interest when the constitution authorizes congress to issue money...

Mark-Anthony

February 17, 2010 8:22 PM

Forest .... love you analysis, never really thought about the relative pricing factor when evaluating currency exchange differentials ... thanks

Fardream

February 17, 2010 9:09 PM

@Forest,

I can agree with much of your statements, but your price for Honda Accord is somehow unbelievable - It's around 250,000 RMBs, everything included. The most expensive models may cost that much - but if a Chinese can waste 350,000 on a honda, he/she definitely will waste it on something like BMW or Audi or Benz, which is of better quality, especially Audi

jcage

February 17, 2010 10:13 PM

"Strategery
February 17, 2010 06:29 PM

jcage, explain to me why the US government should have to issue bonds and pay interest when the constitution authorizes congress to issue money..."-------->
Well, you tell, why the USA allows the central bank that is a private entities to print money? I don't know why the USA allow such as set up. It is unconstitutional but it is allow to exist. But my point that printing too much money will lead to inflation and it can become into hyper inflation.

Analysis

February 17, 2010 11:37 PM

Currency revaluation will not solve the trade US-China trade imbalance. In the mid 1980s, Japan had a huge trade surplus against the US and was forced by the US to increase the value of its YEN rapidly. And the result was that Japan's economy stagnated but its trade surplus against the US continued to widen! The trade imbalance is mainly a result of China making the right products that the US consumers want to buy but the US cannot make as many products China consumers want. So, we ought to seriously work on how to produce stuff that China consumers need if we want to reduce the trade deficits. Of course this will be more difficult to do than just blaming everything on the exchange rate and then asking the Chinese to revaluate its currency as if that is the source of all evils.

jcage

February 18, 2010 2:16 AM

I guess that the USA want to simply derail China economy by forcing it to suddenly reevaluate its currency in such as short time like Japan did during the Plaza Accord and we all know what happened to Japan economy and still Japan got a current surplus against the USA.
The USA got a eve growing trade deficit since 1980 until now and the Plaza accord did not fix that but just to make the Dollar weaker and weaker.

peace4all1

February 18, 2010 11:53 AM

Some readers have correctly pointed that currency exchange is more a political than trade issue. Instead of venting unnecessary emotions and ineffective rhetoric as done by our politicians, we need to understand the cold facts in World economy, past and present.
In 1980s U.S. ran into the same issue of severe recession plus big federal deficit. Besides printing more paper money and depreciating US dollar, U.S. Federal Reserve Bank working with the rest Western Central Bankers succeeded in forcing Japan Central Bank to appreciate Japanese Yen to offset the trade imbalance. Depreciating US dollar is a quick way to reduce the value of American debt hold by other countries. Coupling with the appreciation of your competitor’s currency, it’s doubly fast to get rid of American debt. An overly appreciated Japanese Yen created some unrealistic financial data such as the small piece of land on which Japanese Imperial Palace residing at that time was valued more than the whole state of California! As a result, Japan suffered the worst real estate bubble in 1990s and has never recovered from that malaise yet.
Fast forward to 21st-century, why couldn’t this same strategy work against China? Here are some facts: In 1980s, more than 80% of Japanese exports were concentrated on American and European markets while a smaller portion went to Asian market. African market for Japanese goods was almost negligible at that time. That left Japanese Government with no other choice but acquiescence to West’s demand on the currency issue.
Today, more than 50% of Chinese exports go into Asian and African markets. Despite the recent trade frictions and severe recession in U.S., Sino-America trade is still the world’s largest bilateral trade but its share has gradually being dropped down to 22% among Chinese overall exports in 2009. Most of all, in 1980s Japan had a small and closed domestic market to most foreign companies while China today has a domestic market which is relatively open and offers huge growth potential for foreign companies as long as they don’t mix business with Chinese domestic politics. With the rest developed countries still mire in deep recession for some time to come, 8% growth in China offers the choice of Life or Death for many Western multinational companies and in turn it means job opportunities in those Western countries too.
Mr. Obama was sworn in as the President to protect American interest so is President Hu Jintao whose job is to protect Chinese, not American, interests. Unless U.S. can bring meaningful exchanges to the negotiation table, we could not realistically expect Chinese to give in on any issue which is only beneficial to American no matter what we complain about.

jcage

February 18, 2010 4:23 PM

"CompEng
February 17, 2010 11:11 AM

Jcage,

generally what you say is true. However, if the problem for most Americans is their level of debt, moderate inflation is a friend, not an enemy."

Hi CompEng,

I do have some disagreement with you wit respect to inflation. Inflation most of the time is not a good sign. For example, inflation in health-care, education and food and energy are not good for the economy. The reason why American are into heavy debt is due to the high inflation in education, health-care and in housing price the danger of inflation. Upper education is a good example, the price of tuition in some college is more than 3 times now than 12 to 15 years ago and that is inflation in the education, therefore, more and more students are just accumulating a lot of debt once that they graduate. Inflation is not a sign of progress and advancement but the opposite, for example semiconductor, CPU now a day are more powerful than a decade ago but their price are cheaper! There is deflation in the electronic and not one is complaining about it since the quality improve.
There have been massive inflation for the last decade in education, food, energy, housing, health care that are not accounted in the Government core inflation!

Will

February 18, 2010 4:46 PM

If you believe in the impossible trinity theory (where government can't simultaneously control exchange rate, capital flow, and interest rates), then there is a strong argument for the near-term one-off revaluation of the CNY.
Inflation in China is accelerating at unsustainable levels and would be even more damaging to a country like China than the US, because it would cause political and social unrest in a more politically volatile nation. The recent lending standard adjustments by China are visible signals that they are preparing for a movement on the exchange rate; if they do not pursue this in the near-term, then the prospects of inflation will be extremely high given the inflow of hot money from overseas and continued loose monetary policy from the US.
To capitalize on a potential one-off revaluation of the CNY, you can initiate long trades in CYB, a WisdomTree currency ETF that invests in nondeliverable forward exchange contracts between the USD and CNY. Unless you believe that China will devalue the CNY, this is a riskless trade that allows you to capture event-driven upside if the CNY does indeed revalue.

Fardream

February 18, 2010 9:37 PM

@Analysis
The U.S. can make many things that China is willing to buy, from computer chips to high end machinery, from precise instruments to sensors - the problem is, China is willing to buy, the U.S. government simply bans these exports to China.

huangxu

February 19, 2010 4:50 AM

I am teaching English in China,my salary is about 2000yuan a month.I still can't make ends meet,because the goods here are more expensive than the US in dollar's term

Henry L.

February 19, 2010 8:28 AM

Do anyone here remember the asian crisis back in 1997? Back then many asian currency devalued dramatically. I recalled that the world was worried that China would also devalue but it never accurred. China back then states that they want stability in their currency and would not devalue. Everyone was relieved.

When the American dollar soars in the early 2000, the Chinese soars along with it (relative with other currency). Back then no one suggested currency manipulation but when China's economy didn't implode like eveyone expect and show continued strength that politicians and the media started to spout about manipulation.

I am amazed at how many people are like sheeps. They totally buy into the half-truths they hear from the media and politicians without any critical thinking.

I think the currency issue is probably more complex then we realized and that there's probably an ulterior motive to have China to pump up their currency. Maybe they want the same effect as what happened to Japan?

Humble-opinion

February 20, 2010 12:02 PM

Agree that any Yuan appreciation would help both American and Chinese economy at this point. But this may got deviated as the politic got in the way. Still hope if china doesn't make it difficult on those issues pertaining to American interests as oppose to Chinese issues of Taiwan's weapon purchase and Dalai Lama 's visit.

Vinay Upponi

February 22, 2010 3:49 AM

If not soon, China might do this later this year, especially if the measures it has already taken dont yield results soon.
To my mind, the likelyhood of China revaluating (upward) its currency offers a strong reason to go long gold with a six month outlook. A more detailed rationale appears on my blog: http://techvin.blogspot.com

Devalue the Dollar

February 26, 2010 9:08 AM

When the USD is devalued due to excessive printing of money, it will drag the RMB down to the bottom with it. By keeping the Yuan pegged to the dollar, China is employing its citizens. If the labor becomes more expensive, the world will go to the next country with cheap labor. To those Chinese who thumb their noses at the US: If the US sinks (as is the path that it seems to be on), your country is firmly tied to the US. It is like a little boat tied to a big sinking boat. Enjoy the ride!

C. H. Ng

February 26, 2010 10:28 PM

Very good comments here... all pretty knowledgable & logical facts posted by people who know the truth between reality & politic. Hope the great majority of the American people will wake up to the fact their politicians are trying to cover up their own failures in managing their country & economy by putting on all the blames on China, her people & yuan.

I love best those comments from Forest, Peace-for-All & Henry L. They really made sense.

rob

February 27, 2010 7:03 PM

It seems everybody had got it wrong. The chinese are clever enough, are they not. They should be peg the Yuan to the India Rupee. With each Rupee equal to each Yuan, we high caste Hindus will have a field day to buy huge quantities of Chinese goods, including those that kill us. With the Yuan pegged to the Rupee the chinese can divert all the fire on the Yuan to the Rupee, for which we are duely ready with our newly minted Arihant. Jai Hind!

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Bloomberg Businessweek’s team of Asia reporters brings you the latest insights on business, politics, technology and culture from some of the world’s biggest and fastest-growing economies.

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