RMB’s devaluation: good or devilish and when is an end?

 

Up until now, RMB, namely China’s yuan, has been continuously depreciating dramatically to make itself an eye-catching issue all over the world, and also a breath-holding exchange rate reform from some economists’ view.

 

RMB

A Chinese one-hundred yuan banknote sits on a pile of U.S. one-hundred dollar bills. — XAUME OLLEROS/BLOOMBERG

 

Although Beijing’s motive for devaluating RMB is unclear, the biggest benefit is obvious: stimulating economy through export growth. China has a great reputation of amazing GDP growth rate, so the recent slowing down of economic pace must exert pressure on Beijing to make a difference. Thus, as an important part of China’s exchange rate reform, devaluation of RMB entered the historical arena full of anticipation.

China has gained a lot from improving pricing position for export products in global markets. However, the dark side of the story seems to get more attention by the world.

“China apparently believes it needs the export growth badly enough to risk the political and policy downsides,” Brad McMillan, senior vice president and chief investment officer at Commonwealth Financial Network, wrote in a research note. Clearly, this devaluation shock will bring international policy risk and potential domestic policy change.

RMB’s devaluation might send a signal of the end of party for Trans-Pacific Partnership (TPP), which aims to import “American value” into China’s neighbor fellow countries. Primarily speaking, it puts Obama’s TPP idea a policy rethink. For countries that has similar comparative advantages of cheap labor, such as India and Thailand, the improving pricing position of China and more appealing Chinese goods might push these countries to devaluate their home currency as well to compete. Thus it is hard to tell who is the biggest winner in the game.

“Trading and clearing yuan in the U.S. will lower transaction costs, increase efficiency, and help build stronger trade and business partnerships—all of which creates jobs and spurs economic growth,” said Michael Bloomberg, former New York City mayor and the leader of a group pf U.S. heavyweights to foster closer ties to China, responding to  public worry that devaluation of RMB may reduce yuan trading in US.

Seen from the country itself, a weaken RMB is eroding China’s purchasing power, which is a bad idea as Beijing aims to develop an advanced consumer-oriented economy. This can be easily predicted from international students’ increasing tuition burden due to the devaluation if we think foreign education is the good China wants to invest in. And this trend might hinder China’s building new comparative advantages.

Beyond the near term, when would RMB’s devaluation complete its mission of exchange rate reform? HSBC’s global research team said in a client note that “we believe the RMB will likely weaken moderately on a broad basis, given the challenges on the cyclical front and in China’s balance of payments…We expect China to increasingly allow the exchange rate, rather than overly rely on FX reserves, to respond to capital outflows.”

In particular, China has been burning its foreign exchange reserve due to public caution of RMB’s devaluation, and falling currency stock might release the pressure on central bank. However, capital outflow that goes uncontrolled will make the trend unpredictable if RMB value remains uncertain.

“There is no basis for persistent [yuan] depreciation from the perspective of economic fundamentals,” said Zhou Xiaochuan, China’s central bank governor, in a speech on the meeting of top financial policy makers from the Group of 20 largest world economies.” One theme of G20 conference in Shanghai was to restore global confidence in RMB. Mr. Zhou also promised that China will not engage in competitive devaluation.

This promise assures the concern for China’s economy and partly restores public confidence in yuan. The influence of RMB’s devaluation illustrates a greater say of China in global financial system.

Currently, People’s Bank of China works to manage RMB’s value to targeting a basket of currencies, in which US dollar is still the most important benchmark. And in early March 2016, RMB becomes stronger to trade at 6.543 per USD (stronger than previous 6.5550) after the central bank’s announcement of Monetary Easing.

 

 

 

References and Relevant articles:

http://www.usnews.com/news/articles/2015/08/12/chinas-yuan-devaluation-will-ricochet-to-us

http://blogs.wsj.com/economics/2016/02/26/g20yuandevalue/

http://www.wsj.com/articles/at-g-20-china-aims-to-take-worries-off-its-currency-1456497814

http://www.wsj.com/articles/china-shares-choppy-after-cut-in-reserve-requirements-for-lenders-1456799354

http://www.wsj.com/articles/bloomberg-led-group-faces-delay-connecting-u-s-china-markets-1453732880

 

 

 

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2 Responses to RMB’s devaluation: good or devilish and when is an end?

  1. jzhao88 says:

    It is a very comprehensive valuation of the impacts of RMB devaluation. You have mentioned some aspects that I have not though about before. Especially for the claim that Chinese currency devaluation is a response to the TPP agreements. There are so many opinions going on about why China decided to devalue its currency. Some said it is because the government finally determined to increase the market power. Others said it is a currency manipulation. I would say it is because the government saw the need to let the market play its role while still taking moderate control on the exchange rate. On the micro level, the purchasing power of RMB drops and the public may lose trust in Chinese currency. The companies would transfer their investments abroad to avoid future risk. On the macro level, it seems that a weakening currency would help increase one country’s international competitiveness and would be beneficial to its exports. However, for China, it is a different story. It is not easy for Chinese companies to implement large cash outflows overnight due to strict regulation and monitor. As for exports, the effect is neglectable since the demand side is relatively stable. I hope that China would not continuously devalue its currency which would have disturbing effects on the world economy. At the same time, the authorities would come up with the right structural reforms to promote a healthy economy.

  2. thomasgyh says:

    This article gives me the whole view of the depreciation of RMB and its potential impacts to the world. I think you have done a great job! Also combined what we have learned in the class. You have inspired me a new point of view about the relationship between TPP and RMB depreciation. When the depreciation of RMB happens at the first time, many finalists discussing about the intentions of Chinese government behind this event. Now I see a new and interesting idea, it is to give an example to the developing countries to devalue their home currency to get more competitiveness in the export markets. This also could be related to what we learned on the Macro class.
    One thing that I suggest you could improve is to put some graphs in this interesting article. For example, you could put the exchange rate of RMB during the time period to give readers a visual sight of the change, which could make us to learn this article better.
    Thanks for posting such a great article and congratulations!

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