After 20 years, the Chinese government must be used to it—being bashed by US politicians and Congress as a “currency manipulator.” Indeed, the exchange value of the yuan (or renminbi [RMB]) is fixed each morning by its central bank, the People’s Bank of China (PBoC), with a narrow band of only + 2 percent allowed, up or down, within which market forces can have their say. In effect, it is an exchange rate set and controlled by the PBoC.
But why pick on just China?
Most countries “manipulate” their exchange rates…
According to the IMF (International Monetary Fund), well over half its member countries’ governments meddle, in a mild or total fashion, to influence or fix their exchange rates. As shown in Figure 1, “Fixed Peg” and “Currency Board” are countries with currency values fixed for a considerable period of months or years. In “Managed Float” cases, market forces are allowed to play, but with the government intervening (buying or selling) to bias the exchange rate upward or downward. “Adjustable Pegs” are situations where the government fixes the rate temporarily—for months at a time or daily, as in the case of China. It is only with a few major currencies, such as the dollar or euro, that the government allows a “Free Float” with minimal or no intervention.
Figure 1: Percentages of IMF Member Nations Intervening in Foreign Exchange Rates (Source: IMF)
What exactly is behind the accusation of “currency manipulation”?
Generally, the accusation alleges that the government is keeping its currency too weak, overly devalued, or undervalued in order to give an artificial boost to exports while keeping out imports. This has the effect of boosting jobs in that country.
Take China as an example. A Chinese exporter earning a dollar turns it into the bank and gets 6.4 RMB yuan. By comparing costs in China and elsewhere, IMF and other economists calculate a hypothetical purchasing power parity (PPP) rate of 5.7 RMB/$, which would supposedly prevail under market equilibrium and without government meddling. At 6.4, some economists argue the RMB is still undervalued. But if the theoretical rate of 5.7 RMB/$ were to happen, the Chinese exporter would get only 5.7 RMB per dollar at the bank counter. The 6.4 RMB/$ rate provides a 12 percent higher revenue to the Chinese exporter, compared with the hypothetical 5.7 RMB/$ rate that some economists say should prevail. The still-undervalued 6.4 RMB/$ rate, they allege, gives the Chinese exporter an advantage.
By the same token, imports into China cost 12 percent more at the allegedly undervalued 6.4 RMB/$ rate than at the PPP 5.7 RMB/$. This, they allege, makes imports into China 12 percent more expensive than they should be, thereby keeping some foreign products out of China and benefiting (or protecting) Chinese firms that produce substitute products that compete with imports. On both the import and export side, an undervalued exchange rate boosts or preserves jobs in China (at the expense of jobs in the rest of the world).
But the Chinese have already massively appreciated their currency since 2005…
It must be particularly galling to the Chinese to hear accusations of currency manipulation since, succumbing to pressure from Western countries, they have already massively appreciated their currency in the 10 years since 2005. In June 2005, following more than a decade of a fixed exchange rate at 8.27 RMB/$ (when it was indeed undervalued), the Chinese gradually appreciated their currency all the way to 6.2 RMB/$ by July 2015. In the minds of many Chinese economists, their currency is no longer undervalued at around 6.2 for three reasons:
1. Between June 2005 and July 2015, the RMB appreciated/strengthened by 36 percent (see Figure 2)
This means that Chinese exporters in 2015 earned as much as 33 percent less that they would have at the 2005 exchange rate. Several Chinese exporters found themselves uncompetitive with the stronger currency and had to shut down their operations in China and relocate production to Vietnam, Bangladesh, or Africa.
Figure 2: China’s RMB Exchange Rate History (Source: Oanda.com)
By the same token, imports into China costing 33 percent less in 2015 than in 2005 means that some Chinese domestic production was displaced by imports.
In both cases, the appreciation of the yuan (RMB) has meant reduction of jobs in China, although this is consistent with the peaking of the Chinese labor force (partially as a consequence of the one-child policy). Indeed, several areas in China have labor shortages.
2. The yuan (RMB) has appreciated even more against other currencies
The PBoC fixes the RMB only against the US dollar. But in the last two years, this has meant that as the dollar has risen against most other currencies (such as the euro or emerging-country currencies such as the Brazilian real), the RMB has appreciated or strengthened even more, piggybacking on the dollar (see Figure 3).
If one combines the RMB appreciation in Figure 2 (36 percent) with the dollar’s appreciation against most other currencies since 2013 (15 percent), the local currency cost of importing Chinese products may have risen by more than 50 percent since 2005 for many prospective buyers in a large swathe of nations from Europe to Brazil.
3. Chinese wages and costs have risen
On the east coast of China, where most of its manufacturing and economic activity takes place, wages have recently been rising at least 15 percent each year. Some jobs go unfilled. The one-child policy (reversed in 2015) has led to a plateauing of the labor force. Other costs, such as real estate, have also risen sharply. Chinese exporters are beginning to feel a squeeze between (i) rising costs and (ii) the falling RMB conversion value for the dollars or foreign currencies they earn.
So, why pick on China?
By massively appreciating their currency, the Chinese have succumbed to Western government pressure. While most economists aver that the yuan (RMB) is still undervalued, they agree that in 2015 it is not undervalued by much.
Indeed, if one were to search for a more egregious recent example, it would be the Japanese yen, which has been consciously devalued by the Shinzo Abe government by around a third since November 2012.
Figure 4: Yen per Dollar Exchange Rate November 2012–November 2015 (Source: Oanda.com)
One of the Abe government’s top priorities on taking office was to drive the yen downward (devalue it) from a historically high overvaluation of 80 yen/$ (at which rate few Japanese exporters could make any money) to a more devalued rate of 124 yen/$ (by 2015 when Japanese exporters could make profits). The math is simple. At 124 yen/$, each dollar earned by the Japanese exporter converted into 55 percent more yen, compared with the 80 yen/$ rate. In retrospect, it seems astonishing that so many Japanese governments prior to Abe’s allowed the yen to remain at an overvalued rate of 80–100 per dollar, which not only grossly dampened Japanese exports, but also put the economy into the doldrums for so many years. Most economists would agree that at around 115 yen/$, the yen would be appropriately valued—that 80 was too high and that perhaps the 124 yen/$ at end 2015 is a tad too low. At any rate, the Abe government’s actions have jump-started the Japanese export engine and restored a plethora of Japanese exporters to profitability.
But is this not also a case of currency manipulation by the Japanese? And, as noted above, the IMF reports that more than half of the world’s governments have a hand in influencing or adjusting their exchange rates.
So why then pick on only the Chinese, especially if, at 6.2 RMB/$ and with rising costs inside China, they are not too far from a realistic PPP rate in 2015?
The exchange rate between the US dollar and the Chinese Renminbi Yuan (RMB) is of crucial importance to both the American and Chinese economies since the bilateral trade between the two nations (imports plus exports) is nearing $600 billion per year. America’s exports to China lag imports from that country—a huge deficit of $318 billion in 2013.
For at least 18 years, the US has been pushing China to appreciate its currency in order to make Chinese goods more expensive to US buyers and/or reduce profit margins for the Chinese exporters in order to reduce the deficit. Grudgingly, the Chinese have yielded to American pressure and entreaties, and under the direction of their central bank they have engineered a gradual 35 percent appreciation in the nine years since June 2005. The RMB, which was pegged at 8.27 per dollar in June 2005, has today risen to 6.1. All indicators point to an unwillingness on the part of the Chinese to appreciate their currency any further. With the now stronger RMB and persistently higher materiel and wage inflation in China’s manufacturing sector, many Chinese factories have reached the point where they are not as competitive anymore. This is the main reason we should not expect further appreciation of the RMB for a while.
My YaleGlobal article gives a rare historical perspective from the year 1980 on the RMB vs. dollar exchange rate, as well as on inflation figures from both economies. This analysis shows how the RMB has gone from overvaluation in the 1980s, to undervaluation between 1990 and 2005, to today’s exchange rate, which several observers feel is near an appropriate valuation.
This archive contains 2014 & 2015 posts discussing international business issues, focused on both economics and culture, in an unbiased manner. Managers, students, policy makers, and educated laypeople will gain insights on current issues, future trends, and historical perspectives.