Jane Golley
The Australian Centre on China in the World
This lexicon entry consists of the following sub-sections:
Overview
Background
Reforms of China’s exchange rate regime have played a fundamental role in facilitating the country’s growing participation in the global economy since 1978.[1] Prior to this time, as part of the government’s strategy of import-substitution industrialisation, the RMB was deliberately overvalued so that the government could provide imported machinery and equipment to priority industries at relatively low cost. This was done via the People’s Bank of China (PBC), which was the only institution allowed to deal in foreign exchange currency. The RMB was therefore inconvertible and subject to extensive exchange rate and capital controls.
In 1981, the State Council introduced an ‘internal settlement rate’ of RMB2.8 to the USD, which applied to all trade transactions conducted via government sanctioned ‘swap centres’ at which exporting firms were allowed to sell their retained foreign earnings. This rate operated alongside an official exchange rate of RMB1.5 to the USD, which still applied to all non-trade transactions (for example, for foreign direct investment). Through to the mid 1990s, the exchange rate regime gradually moved away from this dual exchange rate system towards one in which the currency value was determined by demand and supply in foreign exchange markets. While there was a gradual easing of controls on trade and other current account transactions (i.e., a move towards current account convertibility), extensive controls remained on capital flows during this period, particularly on outflows.
On 1 January 1994, the unification of market and official exchange rates was accompanied by a substantial reduction in exchange controls on the current account and the adoption of a managed float exchange rate regime. In December 1996, the PBC announced full current account convertibility. Between 1994 and 2001, the RMB gradually appreciated, apart from during the East Asian Financial Crisis in 1997-1998, during which time China resisted depreciation in line with the other Asian currencies (receiving much praise at the time for helping to maintain stability in the region).
On 21 July 2005, partly in response to mounting pressure from US President George W. Bush to float the RMB, China officially ended the fixed RMB-dollar peg, switching to a managed float in which the RMB was allowed to float within a narrow range relative to a basket of currencies, including the USD, the Euro, the Japanese yen and the Korean won. Currency appreciation continued against all major currencies through to mid 2008, when the PBC returned to a fixed RMB-dollar peg in response to the Global Financial Crisis (GFC).
In June 2010, the PBC announced the return to a managed float with basket of currencies and, in April 2012, the currency’s trading band was widened from a daily range of 0.5 per cent to 1 per cent, letting market forces play a bigger role in determining the value of the RMB.
However, this value is far from being freely determined by market forces. Since 2003, the PBC has intervened heavily in foreign exchange markets to maintain the RMB at the desired value. In particular, the PBC has sold bills in the domestic market and increased reserve ratio requirements for commercial (largely state-owned) banks, to soak up the foreign currency (mainly USD) flooding into China in exchange for Chinese exports. This ‘sterilisation’ of currency inflows from abroad has led to the accumulation of more than USD3.3 trillion in foreign reserves by the PBC by the end of 2012 (see Figure 2 in Box 1), which in turn has fuelled accusations that China is deliberately undervaluing its currency.
A string of US Congressional bills since 2003 have labelled the RMB as a ‘manipulated’ or ‘fundamentally misaligned’ currency, calling for retaliatory measures unless substantial appreciation occurs. While the US Treasury Department has followed the IMF in declining to designate China as a currency ‘manipulator’, the value of the Chinese currency has remained a central point of tension in official talks between the United States and China, despite the substantial appreciation of the RMB against the USD since 2005 of over 20 per cent, including a 10 percent rise since the end of the dollar peg in mid 2010 (through to end 2012).
A number of recent policy initiatives indicate that Chinese authorities are actively promoting the international use of the RMB and further (although not complete) liberalisation of the capital account.[2] This process began in April 2009 with the pilot RMB Trade Settlement Scheme (RTSS), which enables enterprises to channel their funds between Mainland China and Hong Kong. This has been accompanied by the growth of Dim Sum Bonds (RMB-denominated bonds issued by residents or non-residents in Hong Kong) and Panda Bonds (RMB-denominated bonds issued by non-residents onshore); the signing of currency-swap agreements with a number of foreign central banks; the extension of the qualified foreign institutional investors (QFII) scheme, which allows designated foreign institutional investors to invest in China’s onshore interbank bond market and to access A-shares on the Chinese stock market (previously only available to domestic investors); and the opening of the Qianhai Bay Special Economic Zone in July 2012, through which Hong Kong banks will be able to lend RMB directly to mainland companies, significantly reducing the severity of China’s capital controls. However, the RMB has a long way to go before it is completed internationalised, with RMB trading about level with current account transactions, compared with highly internationalized currencies like the USD, euro and yen, which turn over close to 100 times their respective current transactions.
Ultimately, the internationalisation of the RMB will depend on whether the rest of the world is receptive to using a currency that is still heavily controlled by a central bank, and therefore on how far the Chinese authorities are prepared to go in relinquishing that control. Thus debates regarding exchange rate reforms quickly escalate into debates about central government control over the economy in general, which in turn link into debates about how to achieve domestic harmony and stability – both socio-political and economic. Nothing is as simple as it seems!
The Key Debates
The first major debate surrounding the RMB is whether it is, or has been, ‘artificially low’, ‘undervalued’, ‘misaligned’ or ‘manipulated’, and if so by how much? While the majority of evidence indicates that the RMB was undervalued during the 2000s, the extent of undervaluation varies enormously, depending on methods, data, time period, exchange rate definitions, and theoretical frameworks: for example, estimates for 2009-10 range from a -41 per cent undervaluation to 36 per cent overvaluation.[3] Many scholars in the United States take RMB manipulation as a given and conduct their analysis in this context. However, according to the IMF’s Article IV definition (see Glossary), the IMF itself has never found China guilty of manipulation. While President Obama has refrained from labeling China a currency ‘manipulator’, Republican Presidential candidate Mitt Romney has insisted that he will do so as soon as he wins the election, stating publicly in 2011 that:
China is on almost every dimension cheating. We got to recognize that. They’re manipulating their currency and by doing so they’re holding down the price of Chinese goods and making sure their products are artificially low-priced. It’s predatory pricing. It’s killing jobs in America.[3]
The second debate centres on whether China’s rising current account surplus (and the United States’ rising current account deficit) has resulted primarily from the undervaluation of the RMB or from other factors, including the extraordinarily high saving rates of monopolistic state-owned enterprises and households (arising for a number of reasons, ranging from a repressed and under-reformed financial system to the One-Child Policy and rising gender imbalances)[4]; measurement errors in the balance of payments (because of ‘hot money’ inflows in disguise at export revenues that falsely enlarge the current account surplus); industrial relocation from other East Asian countries into China; the swathe of policies (beyond the exchange rate) that promoted growth and productivity, and thereby boosted China’s exporting capacity; and factor market distortions (which have tended to depress factor prices and production costs at the expense of domestic consumption). Most of these factors are not mutually exclusive, and economists have struggled to reach consensus on cause and effect.[5]
These debates extend into questions such as: Would a sizeable appreciation of the RMB prove effective in substantially reducing its large current account surplus, and hence in improving current account deficits elsewhere, particularly in the United States? What impact would RMB appreciation have on job creation in the United States (with estimates ranging from virtually no impact to millions of jobs) and, more generally, is China to blame for America’s economic woes? What would be the internal costs of RMB appreciation (in terms of reduced export competitiveness and unemployment), and how would these measure up against the benefits (of rebalancing the economy, reducing import prices, and so on)? Would other Asian and emerging-market economies respond by following suit and revaluing their own currencies (also assumed to be undervalued by some), thereby strengthening the extent of global rebalancing? Are the US congressional bills a necessary ‘beggar-thy-neighbour’ response to China’s exchange rate management, or are they a kind of ‘currency terrorism’, escalating in the worst-case scenario to a currency war?
The next debate revolves around the pace and sequencing of future reforms to China’s exchange rate system, and the extent of RMB appreciation this would entail. Some argue for the optimality of fixed exchange rate regimes for economic stability[6]; others support the continuation of the gradual approach that has governed much of the reform process to date; and yet others are calling for a more dramatic and rapid move to a fully floating exchange rate, which would require the elimination of capital controls, full capital account convertibility and substantial reforms in the domestic (and largely state-controlled) banking and financial sectors.
Finally, the focus has recently shifted to debates regarding the future of the international monetary system, and the role of the RMB in that system. One issue here is the basket of currencies included in the IMF’s Special Drawing Rights (SDR), which currently precludes the RMB because it does not satisfy the two key criteria for inclusion – capital account convertibility and exchange rate flexibility. The G20 Cannes Summit in November 2011 reached an agreement to review this basket of currencies to ‘reflect the role of currencies in the global and financial system and be adjusted over time to reflect currencies’ changing role and characteristics’. While there is growing consensus that the RMB should be in the SDR basket at some point, there is less agreement agree on whether this should be conditional on the two criteria currently required for inclusion, or whether adjustments to these criteria are called for.
Figure 1. Various RMB exchange rate indices (2005=100)
Figure 2. China’s foreign exchange reserves (USD trillions)
Figure 3. China’s current account balance (% of GDP)
Perspectives
The Official View
As with most of the economic reforms undertaken in China in the last three decades, the path of exchange rate reforms has been cautious and gradual, and the official Chinese view is of course that this path has been the correct one. Since 2004, the Hu-Wen leadership has emphasised the need for China to rebalance its growth, an objective that is firmly embedded in the 12th Five-Year Plan (2011-15). While ongoing reforms to the exchange rate regime are an integral part of this rebalancing strategy, these reforms are only considered important insofar as they help to achieve the guiding principle of achieving social and economic development while maintaining stability.
There is little to suggest at this stage that the leadership change in 2012-2013 will bring about any substantive change in this stance. At the Central Economic Work Conference in April 2012, Vice-premier (and soon to be Premier) Li Keqiang gave a lengthy speech on how China would be pushing ahead with the strategy of ‘strengthening domestic demand during the process of reform and opening up’. Yet in this nearly 8,000 word speech (English translation), Li Keqiang only has this to say about the RMB: ‘We need to deepen reforms to make interest rates subject to market forces and improve the RMB exchange rate regime, promote RMB capital account convertibility in a step-by-step manner, and expand the use of RMB in cross-border trade.’ Given their preoccupation with domestic development issues, the official line on the RMB often seems to be a case of ‘the less said the better’.
This approach is echoed in official dealings with the United States. For example, at a press conference with President Obama and President Hu Jintao in January 2011, Obama welcomed China’s moves to increase the flexibility of its currency, but also ‘had to say that the RMB remains undervalued, that there needs to be further adjustment in the exchange rate, and that this can be a powerful tool for China boosting domestic demand and lessening the inflationary pressures in their economy’. There was no direct mention of the RMB from Hu Jintao in response to this other than to note that: ‘We discussed some disagreements in the economic and trade area, and we will continue to appropriately resolve these according to the principle of mutual respect and consultation on an equal footing.’
This does not mean complete silence on the issues. In September 2010, Wen Jiabao said that China’s exchange rate was not the problem, and indicated that China would continue to resist pressure from Washington to appreciate the RMB. He said:
There is no basis for a drastic appreciation of the Renminbi. You don’t know how many Chinese companies would go bankrupt. There would be major disturbances. Only the Chinese premier has such pressure on his shoulders. This is the reality.
In March 2012, Wen reiterated that reforms would be undertaken slowly to keep the economic stable, and that the RMB was very close to a ‘balanced level’ (i.e., neither over- nor undervalued). By May 2012, top Chinese central bank officials concurred that the value of its currency was close to equilibrium after more than six years of gradual appreciation, indicating that efforts to further appreciate the currency are unlikely.
Officials were particularly vocal in their criticisms of the US Congressional Senate bill in September 2011 (which didn’t make it past the House), with one Ministry of Foreign Affairs spokesman stating that the bill is: ‘doing good to nobody, and it will bring nothing but harm. The passing of the act, under the pretext of so-called ‘currency imbalance’, is a protectionist measure in nature, which severely violates the WTO rules. Not only will it fail to solve the economic and employment problems in the US, but it will severely obstruct China-US economic relations and trade.’ This quote attests to the official line on many of the debates mentioned above.
Officials from the People’s Bank of China have been among the most outspoken advocates for a more flexible and market-oriented exchange rate since the mid-2000s, including then deputy governors Guo Shuqing and Li Ruogu. The Governor of the PBC, Zhou Xiaochuan, given his ministerial ranking, is less likely to say anything that contradicts the current policy stance, but did declare in a widely published speech at Tsinghua University in September 2011 that China’s foreign reserves ‘have exceeded a reasonable level’. This indirectly implies a need for less intervention in the foreign exchange markets, and hence less government control over the value of the RMB.[7]
Governor Zhou also released an influential article in 2009 titled ‘Reform the International Monetary System’[8], in which he explored what kind of international reserve currency is needed to secure global financial stability and facilitate world economic growth, calling for the IMF’s SDR to serve ‘as the light in the tunnel for the reform of the international monetary system’, and putting the internationalisation of the RMB firmly on the official agenda. In September 2011, this was followed by Chinese officials hinting that the RMB might be fully convertible on the capital account by 2015, paving the way for the Chinese currency to be included in the SDR. It was also followed by a surge of academic discussion on the topic.
Views Within China
In general, scholarship within China is sympathetic to the official line, although there is still a willingness to point out problems with the current system, and to call for more rapid or deeper reforms.
It is therefore not surprising that there may be little, if any, research disseminating from China that concludes that the RMB has been ‘manipulated’, although most scholars agree that it has been undervalued. Some would argue that problems of measurement and definition make it impossible to conclude anything decisively regarding the extent of undervaluation. Jiang Yong, director of CICIR Centre for Economic Security, has put this more emphatically, mocking mathematical models that claim to demonstrate undervaluation and arguing that ‘American national interest is the mathematical model here’![9]
Most Chinese scholars support the notion of gradual reform, not one-step adjustment, to appreciate the currency. They also argue that RMB appreciation alone would not be enough to solve the problem of global imbalances. They are, not surprisingly, more likely than their international counterparts to focus on the internal costs of appreciation. For example, Fan Gang, Director of the National Economic Research Institute in Beijing, in response to calls for a larger and more rapid appreciation of the RMB, points out that Chinese leaders need to be sensitive to the employment prospects of some 300 million underemployed rural workers (each who earn about US$500 per year). And they recognise the wide range of domestic reforms that need to accompany exchange rate reforms, including the reduction of factor market distortions, the privatisation and deregulation large SOEs to reduce corporate savings, and efforts to build a social safety net and stimulate consumption.[10]
Yu Yongding, a former member of the PBC monetary policy committee and long-serving Director of the Institute of World Politics and Economics at the Chinese Academy of Social Sciences, has persistently called for more rapid exchange rate appreciation since 2005, arguing in 2011 that a persistent current account surplus is not in China’s best interests and that lending to the world’s richest country for decades via the accumulation of dollar reserves “is not reasonable”. In an article published in the Financial Times in 2011, Yu went as far as saying that: ‘The People’s Bank of China must stop buying US dollars and allow the renminbi exchange rate to be decided by market forces as soon as possible. China should have done so a long time ago. There should be no more hesitating and dithering.’[11]
In light of the Sino-US tensions surrounding the RMB, Chinese scholars have participated actively in trying to dispel common misperceptions about the RMB, in English blogs and newspapers. Huang Yiping of Peking University, for example, in response to Nobel Laureate Paul Krugman’s widely read criticisms of the Chinese currency regime (see below) wrote an article entitled ‘Krugman’s Chinese Renminbi Fallacy’, in which he pointed out that just because the RMB is undervalued, that doesn’t mean it’s manipulated; that the RMB is not the only factor determining China’s current account surplus, or US job growth; and also what might go wrong if the Obama administration were to follow Krugman’s advice, including slowing down, rather than speeding up reform as China’s leaders would not want to be seen as capitulating to American pressure. He also raised the possibility of a trade war between the two largest economies as the worst-case scenario, and a ‘non-trivial event for the world economy’.
Many Chinese experts have misgivings about, and criticisms of, the current international monetary order, although they are careful to stress that what China wants is ‘reform, not revolution’.[12] The internationalisation of the RMB is seen by some as a way of escaping accusations of currency manipulation from the US, and by others as a strategic option ‘as important as New China’s becoming a nuclear power’. While some scholars are advocating for a gradual de facto internationalization – first strengthening the use of the currency for trade, and only later for investment, loans and reserves – others continue to argue that China must maintain controls over capital and restrictions on foreign currency holdings by Chinese enterprises.
In a 2010 article titled ‘Peaches and Plums Have no Need to Speak, the World Comes to Them by Itself’ 桃子无言自成蹊, Lin Limin (a researcher at CICIR and chief editor of its journal) argues that RMB internationalisation must ‘follow its own path, flowing separately’ 曲径通幽, indicating the notion of a Chinese model to which the rest of the world will need to adapt. As with other aspects of China’s currency reform, the internationalization of the currency is viewed within the broad context of China’s reform process, with scholars recognising the need for internal reforms to pave the way for external liberalization, for example, clearer and deeper financial liberalization and regulation, and an increasing role for Chinese private savers to invest their funds abroad, rather than having China’s vast currency reserves controlled by the bureaucracy.
International Scholarship
International scholarship on the RMB, stemming predominantly from the United States, is striking for the differences (in general) in emphasis, findings, and prescriptions compared with Chinese points of view.
For example, considerable attention has been directed towards determining whether, and to what extent, the RMB has been, and remains, undervalued. The Peterson Institute for International Economics (PIIE), a Washington DC-based think tank, has been particularly vocal in asserting that evidence of undervaluation is ‘increasingly robust and, by now, simply overwhelming.’[13] The Institute’s views on each of the debates outlined above fall clearly on one side: the exchange rate has been seriously undervalued as a result of China’s failure to live up to its IMF obligations regarding currency manipulation, exchange rate reform is essential for China to rebalance economic growth and correct global payment imbalances; the internal costs of such appreciation would be minimal (in contrast with Fan Gang’s point above) and so on. In 2007, they urged China to adopt a relatively rapid approach to exchange rate reform that would culminate in a freely floating exchange rate (with no sterilization or intervention) within four to six years – something that seems highly unlikely to occur by 2013.
However, recent trends in the RMB are likely to bring an end to this focus on the extent of RMB undervaluation. By mid-2012, a PIIE policy brief acknowledged that China has ‘improved its record on currency manipulation’, with attention now shifting to the millions of job losses in American and Europe caused by widespread currency manipulation in other developing and newly industrialised economies.
Another focus has been on the cost to America of China’s exchange rate policy, with the manipulation of the RMB often being taken as a given, not a point of contention. For example, in 2011 Robert E. Scott of The Economic Policy Institute (EPI) in Washington wrote pieces entitled ‘Why Revaluing RMB would Boost American Economy’, and ‘China’s Currency Manipulation Reached Record Level’. The EPI has estimated that at least 2.4 million manufacturing jobs were lost between 2001 and 2008 because of China taking over the production of manufactured goods, amounting to 67 per cent of all jobs displaced in that seven-year period. Similarly, articles published in The New York Times in early 2010 by Nobel Laureate Paul Krugman attracted much attention (see here and here). In these, Krugman argued that the US Treasury should accuse China of currency manipulation in order to affect Chinese policy, after some ‘back-of-the-envelope’ calculations revealed a loss of around 1.4 million US jobs because of China’s exchange rate policy. He also claimed that it was in China’s interests to appreciate the RMB, and urged ‘China’s government to reconsider its stubbornness’.
Another cost, according to Nicholas Lardy, appears to be that China has turned the United States into a country of addicts:
The United States is the addict. We are addicted to China … China is the dealer. They’re supplying the credit [through their accumulation of foreign exchange reserves because of their undervalued currency] that makes it possible for us to overconsume.
Lardy has written extensively on the need for more comprehensive exchange rate and financial reforms in China to address both China’s internal imbalances and global imbalances as well, concluding in his 2012 book on the topic that:
If China does not accelerate the pace of reforms that would support rebalancing the sources of its economic growth, the economic challenge for the United States and, in turn, the global economy, becomes much greater.[14]
Not all of the Western analysis has been one-sided. For example, in response to the US senate bill in 2011, the Federal Reserve Bank of St. Louis released a report on ‘Why ‘Fixing China’s Currency is No Quick Fix’, in which they asked whether such a China-currency bill would really create hundreds of thousands of US jobs, to which they replied ‘probably not to any meaningful degree.’ They went further to point out that the bill was largely symbolic, since the president would be able to waive the penalties if he chose to, concluding: ‘Why risk costly Chinese retaliation for the sake of a measure whose practical impact could be so easily nullified anyway?’ Similarly, UBS Investment Research examined whether multinational firms scaling back their China outsourcing operations would bring the return of jobs to the US economy, to which they responded ‘Really? You must be kidding’.
Media Representation
It is difficult to keep up with the global media coverage of the RMB, with the focal issues shifting rapidly over time and place. This section provides links to some of the world’s major newspapers and their latest coverage of the RMB.[15]
The state-controlled Chinese media not surprisingly supports the Party line on RMB-related issues. In 2012, RMB internationalisation has dominated the coverage, with headlines such as ‘First bonds to African banks’, ‘Hong Kong relaxes yuan restrictions’, and ‘Yuan bonds provide funding opportunity for struggling Italian companies to raise funds by issuing (RMB-denominated) dim-sum bonds’. Numerous articles have also pointed out that the internationalisation of the RMB is an ‘inexorable trend, not to be hurried’, reflecting the official line of gradualism. For some recent examples see:
- The China Daily article in July 2012 on ‘Journey may matter more than destination RMB’, which presents numerous reasons why it will be a long time before the RMB is truly an international currency.
- Caijing Magazine (the Chinese equivalent of The Economist) articles in Chinese and (online) in English, from both Western and Chinese scholars, including ones in April by American economist Stephen Roach on ‘America’s renminbi fixation’, 美国如果丢掉中国机会很丢脸 calling for a shift in focus in the US towards more important matters; and in May by Robert Skidelsky, member of the British House of Lords, in Chinese and English on ‘Why China Won’t Rule’ 如何中国无法称霸; and Yu Yongding on ‘Greece-proofing China’ 中国怎样抵抗希腊风险 and why the timing could not be worse to consider speeding up capital-account liberalization. (English and Chinese)
In general, US media appears to becoming more sophisticated in dealing with RMB-related issues, and does not necessarily follow the ‘China is guilty’ stance of many US politicians. For examples, see ‘Romney’s China Blunder’, published by The Wall Street Journal in September 2011; and ‘Trade trauma’ published by The Washington Post in October 2011.
The Renminbi (yuan) is one of The New York Times’ ‘Times Topics’, with reports covering a wide range of issues written by both Western and Chinese analysts and scholars. For examples of some of the latest news see:
- ‘Times Topics’ on the Renminbi
- ‘China promises flexibility on RMB’, March 2013
- ‘Better ways to deal with China’, October 2012
The Financial Times also provides extensive coverage on a wide range of RMB issues. See ‘RMB: Global Challenge’ for a link to videos and written articles on issue ranging from RMB undervaluation/manipulation to the US Senate bill and ‘China bashing’, to implications of RMB internationalisation for the Eurozone.
Chronology
1948: The Chinese Communist Party’s People’s Bank of China begins issuing a unified currency in Communist-controlled areas of China, denominated in yuan元 and referred to by a variety of names, including ‘new currency’ 新币 and People’s Bank of China notes 中国人民银行券.
June 1949: The term Renminbi 人民币 (RMB), literally ‘People’s Currency’ used to denote Chinese currency for the first time.
1949-1978: Under a fixed exchange rate system, the value of the RMB is held at a very high level (RMB2.46 to the US dollar, or USD, between 1951 and 1971, and even higher at RMB1.68 to the USD by 1978) to limit exports and facilitate an import-substitution model of industrialisation.
1980-1994: Dual exchange rate system (of an official exchange rate and an internal settlement/swap market) in place. Successive devaluations of the RMB occur as currency becomes increasingly market oriented, with the exchange rate reaching RMB3.72 to the USD by 1986. Separate currency, or foreign exchange certificates (waihuiquan 外汇券), exist alongside RMB, for use by foreigners in China.
1 January 1994: A unified exchange rate replaces the dual exchange rate system, with the adoption of a ‘managed floating regime’. In practice, the RMB remains closely pegged to the USD.
1996: Full current account convertibility achieved, tight capital controls (on outflows) remain in place.
1994-2001: The RMB appreciates gradually through to the Asian Financial Crisis in 1998, at which point China resists depreciation. It then fluctuates within a narrow band around RMB8.28 to the dollar.
2003: First US Senate bill labelling China a currency ‘manipulator’ and calling for a 27.5 percent tariff on all Chinese goods unless currency revaluation occurs within six months.
21 July 2005: China officially ends the fixed RMB-dollar peg, switching to a managed float relative to a basket of currencies, including the USD, the Euro, the Japanese yen and the Korean won. Currency appreciation continues against all major currencies.
Mid 2008-June 2010: People’s Bank of China returns to fixed RMB-dollar peg in response to the Global Financial Crisis. Accusations of currency undervaluation and manipulation build in the United States. US President Barak Obama repeatedly raises Chinese currency undervaluation with Chinese President Hu Jintao. Internationalisation of the RMB becomes a policy priority in China.
June 2010: Managed float resumes.
2011: Steady appreciation of the RMB continues. RMB internationalisation gathers pace.
September 2011: US Senate adopts bill to address ‘fundamentally misaligned’ currencies, with China the main target.
April 2012: People’s Bank of China doubles size of daily trading band, as further step in liberalizing exchange rate.
July 2012: Establishment of Qianhai Bay Special Economic Zone, through which Hong Kong banks will be able to lend RMB directly to mainland companies, significantly reducing the severity of China’s capital controls.
Glossary
Appreciation/Revaluation: Decrease in the exchange rate (i.e., fewer RMB required to buy one USD), generally used when discussing floating/fixed exchange rates.
Bilateral nominal exchange rate: RMB (or CNY) per unit of a single currency.
Capital account: Reflects the net change in a country’s ownership of assets, with a surplus indicating a net inflow of money into the country.
Capital account convertibility: Ability to buy and sell RMB for purchase/sale of assets at home or abroad.
Current account: The sum of the trade balance (net export earnings minus import payments), plus factor income (earnings on foreign investments minus payments to foreign investors and cash transfers). In surplus when net payments are positive (generally, but not always, when exports exceed imports).
Current account convertibility: Ability to buy or sell RMB for all transactions on the current account (i.e. exports, imports, transfers)
Depreciation/Devaluation: Increase in the exchange rate (e.g. number of RMB required to purchase one USD), generally used when discussing floating/fixed exchange rates.
Exchange rate ‘manipulation’: According to Article IV, Section 1 of the IMF’s Charter, member countries are required to “….avoid manipulating exchange rates or the international monetary system in order to avoid effective balance of payments adjustment or to gain unfair competitive advantage over other member countries”.
Managed floating exchange rate: System of floating (i.e. market-determined) exchange rate where central bank intervenes to reduce currency fluctuations.
Nominal effective exchange rate (NEER): RMB per weighted average of currencies of major trading partners.
Real effective exchange rate (REER): NEER adjusted by relative prices in China and major trading partners.
RMB Internationalisation: the use of RMB by non-residents to invoice trade, make payments and denominate assets and liabilities.
Sterilisation: Activities undertaken by a central bank to offset monetary inflows in order to prevent inflation and/or to maintain a fixed exchange rate.
Special drawing rights (SDR): Foreign exchange reserve assets defined and maintained by the IMF, and set at a value determined by a basket of currencies (currently Euros, Japanese yen, sterling and USD). Representing a claim to currency held by IMF member countries, which can be exchanged for any of basket currencies.
Notes
[1] For a useful overview, see Morris Goldstein and Nicholas Lardy, ‘The evolution of China’s exchange rate regime in the reform era’, Chapter 1 in Morris Goldstein and Nicholas Lardy, eds, The Future of China’s Exchange Rate Policy, Washington DC: Peterson Institute for International Economics, 2009, preview available at http://www.piie.com/publications/chapters_preview/4167/01iie4167.pdf
[2] For further details on the internationalisation of the RMB, see Cheung, Ma and McCauley, ‘Why Does China Attempt to Internationalise the Renminbi?’, at: http://epress.anu.edu.au/wp-content/uploads/2011/08/ch043.pdf
[3] For the brave, see Yin Wong Cheung, Menzie Chinn and Eiji Fujii, ‘Measuring RMB Misalignment, Where Do We Stand?’, 2010, at: http://www.bundesbank.de/Redaktion/EN/Downloads/Bundesbank/Research_Centre/conferences/2010/2010_12_03_eltville_01_cheung_chinn_fujii_paper.pdf?__blob=publicationFile
[4] For a simple explanation of the link between current account surpluses and gender ratios, see Jane Golley, ‘Uncertain Numbers, Uncertain Outcomes’, in Geremie R. Barmé, ed., China Story Yearbook 2012. For the more technical version, see Qingyuan Du and Shang-jin Wei, ‘A Sexually Unbalanced Model of Current Account Imbalances’, NBER Working Paper 16000, 2010, at: http://www.nber.org/papers/w16000.pdf?new_window=1
[5] For a clear exposition, see Huang Yiping and Tao Kunyu, ‘Causes and Remedies of China’s External Imbalances’, 2012, at: http://en.ccer.edu.cn/download/6802-1.pdf
[6] See Stanford Professor Ronald McKinnon on why RMB stability, not appreciation, is optimal for China at: http://www.eastasiaforum.org/2010/03/20/analysing-the-debate-over-chinas-exchange-rate-and-the-trade-balance )
[7] See Nicholas Lardy, Sustaining China’s Economic Growth after the Global Financial Crisis, p.146-7, Washington DC: Peterson Institute for International Economics, 2012, 181 pages.
[8] The English version of this speech can be downloaded from the People’s Bank of China official website at: http://www.pbc.gov.cn/publish/english/956/2009/20091229104425550619706/20091229104425550619706_.html The Chinese version of the same speech is no longer available on this site, but see http://www.pbc.gov.cn/publish/main/527/index.html for the latest list of speeches by PBC officials in Chinese.
[9] Jiang Yong, cited in ‘Redbacks For the Greenbacks, the Internationalisation of the RMB’, see full details in Note [12].
[10] See Huang Yiping (Peking University), ‘Misperceptions About the RMB and Chinese Exchange Rate Policy’, at: http://www.eastasiaforum.org/author/yipinghuang/
(http://www.eastasiaforum.org/2010/04/11/misperceptions-about-the-rmb-and-chinese-exchange-rate-policy/) ; Xiao Geng (Brookings Institution, Tsinghua University), ‘US-China Economic Imbalances: Alternatives to Appreciating the Chinese yuan; and, Fan Gang’s chapter in Goldstein and Lardy’s The Future of China’s Exchange Rate Policy, Washington DC: Peterson Institute for International Economics, 2009.
[11] Yu Yongding, ‘China’s Moment to Break Free of the Dollar Trap‘.
[12] For more details on the discussion here, see ‘Redbacks for the Greenbacks: the Internationalisation of the RMB’, at: http://ecfr.eu/uploads/files/china_analysis_redbacks_for_greenbacks_the_internationalisation_of_the_renmimbi_november2010.pdf. This is a China Analysis issue in 2010 of the European Council on Foreign Relations (http://ecfr.eu), based mainly on Contemporary International Relations 现代国际关系, no.6, 2010: 1-19, online at: http://www.cicir.ac.cn/chinese/ArticleList.aspx?cid=399. See also Huang Yiping, ‘What Does China Want in International Economic Reforms’ at:
http://www.eastasiaforum.org/2011/09/25/what-does-china-want-in-international-economic-reforms/
[13] This quote is taken from ‘The Future of China’s Exchange Rate Policy’, p.17, the first chapter in Goldstein and Lardy’s, Debating China’s Exchange Rate Policy, Washington DC: Peterson Institute for International Economics, 2009. This introductory chapter provides a comprehensive summary of one side of each of the debates described here, and a far less comprehensive but still useful summary of the other.
[14] See Nicolas Lardy, Sustaining China’s Economic Growth after the Global Financial Crisis, full details at Note [7].
[15] This section will be updated every six months.
