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China's Currency & Exchange Rate
Probably the most common complaint against China by its trading partners is that its currency is undervalued. An undervalued currency makes a country’s products cheaper in world markets, thereby increasing the country’s ability to export its goods.
Until 2010, China has maintained a fixed exchange rate regime for the renminbi (RMB) pegged to the dollar. Every time the dollar would rise or fall, the RMB, also called the “yuan,” would too.
While China still maintains control over its currency, the government has moved to make the exchange more flexible. On July 21, 2005, China allowed the RMB to appreciate by 2.1 percent against the U.S. dollar. It also moved from a pegged exchange rate regime to a managed float measured against a basket of currencies—the U.S. dollar, the Euro, the Japanese yes and the Korean won; and to a smaller extent the U.K. pound, the Thai baht, and the Russian ruble were also included.
The government branch managing the currency is the People’s Bank of China (PBC).
Since June 2010, China’s exchange rate regime has been classified as a “crawl-like” arrangement. This is a managed floating arrangement that allows the RMB to move up or down within a crawling band of 0.5. From June 2010 to April 2011, the RMB appreciated 4.7 percent.
How exchange works
China has also amended the method it trades the RMB on a daily basis. It still uses a centralized spot foreign exchange trading system (CFETS), which is a sub-institution of the People’s Bank of China. But it has expanded that system to include 44 market makers (up from 13 banks), which help determine the daily price of the RMB.
China manages investment flowing in and out of the country. China increasingly permits trade transactions and inward and outward investments to be settled in the RMB.Source: IMF Country Report No. 11/192 (2011)
Impact:The downside for China of having a weak currency relative to its market value is that China’s buying power abroad is lessened and imported goods are more expensive. Inflation may also be a problem.
Measures of exchange rates include purchasing power parity (PPP), capital flows and interest rate differentials.
(ITMD commentary)
About China’s CFETS (foreign exchange) System:
According to ChinaMoney.com, a web site sponsored by the China Foreign Exchange Trade System (CFETS), the CFETS “provides the interbank FX market, RMB lending, bond market and paper market with services of trading, clearing, information and surveillance. CFETS has played a significant role in safeguarding RMB exchange rate stability, transmitting central bank monetary policies, serving financial institutions and supervising market operations.”
RMB Appreciation:
In January 2001, 8.36 RMBs equaled one dollar. By Sept. 2011, 6.38 RMBs equaled a dollar. See ExchangeRate.com for updated information.
News Updates:
Is the criticism against China fair?
Sept. 2011-China is not alone in its manipulation of its currency exchange. Central banks around the world, most recently in Japan and Switzerland, have taken action to prevent their currencies from appreciating in the midst of global instability and speculation. Brazil, losing trade competitiveness as its national real spikes higher, complains that U.S. monetary policy is to blame for aggravating market volatility and raising the likelihood of a global currency war. (FT, Sept. 6, 2011)
Brazil has recently asked the World Trade Organization to allow countries to take retaliatory trade measures to protect themselves against currency fluctuations. Brazilian President Dilma Rousseff calls for a global approach, managed by the G20, to coordinate large economies’ fiscal, monetary and exchange-rate policies. (FT, Sept. 21, 2011 op-ed)
Meanwhile, as U.S. politicians continue their rattle rousing against China’s currency, unveiling legislation they say is needed to treat currency undervaluation as an illegal trade subsidy. (Reuters, Sept. 22, 2011) A coalition of U.S. business groups came out against the legislation, saying the unilateral approach would be counterproductive. (The Hill, Sept. 21, 2011)
