Every country would like to do this, but few have China's ability to manage it so well. China's currency power comes from its many exports to America. The top categories are electrical machinery, machinery, and furniture and bedding. The finished goods are considered imports when the factories ship them back to the United States.
That's how the U. These firms then deposit the dollars into local banks, in exchange for yuan, which can be used to pay their domestic workers and vendors. The PBOC holds the dollars in its foreign exchange reserves and regularly adjusts these reserves by buying or selling dollars via foreign currency markets in exchange for yuan. By stockpiling dollars, the PBOC reduces the supply of dollars available for trade, putting upward pressure on the dollar and downward pressure on the yuan. By selling dollars, the PBOC effects the opposite result.
It is important to note that the PBOC does not sit on cash reserves. It uses the dollars it accumulates to buy U. Treasuries, which are safe-haven assets that provide some incremental return over cash. Market forces and China's currency management efforts can lead to notable fluctuations in the value of the yuan. For example, China's modification to its exchange rate allowed the yuan's value to fall from just over 6. By taking the yuan out of circulation, the Bank raised the currency's value.
At the same time, it lowered the dollar's value by putting more dollars into circulation. In January , China further relaxed its control of the yuan. The uncertainty over the yuan's future contributed to the Dow falling by almost 1, points. By , the yuan had fallen to its lowest point since But China wasn't in a currency war with the United States. Instead, it was trying to compensate for the rising dollar. Between and , the dollar rose Because it was pegged to the dollar, the yuan followed it.
It had to lower its exchange rate to remain competitive. China's economy impacts the dollar's value in other ways. The investment bank did not have updated analysis to share as of late Tuesday. Skip Navigation. Key Points. The Chinese yuan has strengthened to three-year highs against the U. The People's Bank of China made a rare announcement Monday that financial institutions will need to increase the ratio of their foreign exchange deposits. On Wednesday, the central bank set the yuan's midpoint fix weaker against the U.
In this article. VIDEO Capital Connection. And even with China's reduced current account surplus and the diminished U. Likewise, the decline in China's current account surplus was caused by a more rapid decline in China's exports than imports during the worldwide economic downturn—when worldwide growth picks up again and reaches pre-crisis levels, that trend could reverse.
Table A Figure A Chinese and U. Current Account Balances: Gross saving is the total level of domestic saving, including private, corporate, and government. Saving represents income that is not consumed. Physical investment spending on plant and equipment can be financed from domestic or foreign saving. Over the past several years, the United States has maintained one of the lowest gross saving rates i. From to , U. Chinese gross savings levels have declined over the next three years, reaching Notes: Aggregate national savings by the public and private sector as a percentage of nominal GDP.
China's investment as a percent of GDP rose to China's private consumption as a percent of GDP dropped from Chinese private consumption as a percent of GDP was Although private consumption has been a much smaller share of China's GDP than other countries, the growth rate of China's private consumption has been significant.
From to , Chinese private consumption grew at an average annual rate of 8. Many analysts contend that, although Chinese labor productivity has risen rapidly over the past several years, workers' wages have not kept pace with those productivity gains, largely due to the lack of worker rights in China, especially for migrant workers who tend to seek work in labor-intensive, export oriented, manufacturing.
Rather, it is argued, the gains from productivity have largely accrued to Chinese firms. Most choose to deposit their savings in a Chinese bank. However, bank interest rates are set by the central government, and oftentimes, the rates of return on savings deposits are below the rate of inflation see Figure A Chinese depositors faced negative real interest rates in , , , , and Many economists contend that this policy represents an effort by the central government to keep the cost of credit low for Chinese firms in order to boost fixed investment , but that this comes at the expense of Chinese households whose savings deposits can actually lose value, thus forcing them to save more of their income to cover the costs of health care, retirement, and other large expenses.
That rate fell to Many economists contend that the goal of rebalancing the Chinese economy toward greater reliance on personal consumption cannot be achieved until the central government eliminates distortive economic policies that favor firms over households. Once such policy relates to the government's control over much of the country's banking system.
Chinese Real Deposit Interest Rates: Notes: Interest rates on one-year deposits adjusted for changes in the consumer price index. Gross fixed investment some of which is linked to tradable sectors was the largest contributor to its real GDP growth over much of this period. In , changes to net exports in China were a drag on the Chinese economy, while in they provided a modest contribution to GDP growth.
In , private consumption was the largest contributor to China's GDP growth. The next few years could be a critical period for China's economic policymakers.
A number of economists have questioned the quality of China's massive investment efforts over the past two years and the ability of local government to repay the loans they took out to fund major investment projects. Thus, the importance of fixed investment to China's economic growth over the next few years could decline.
The Chinese government's 12 th Five Year Plan states that rebalancing the economy, promoting consumer demand, boosting rural incomes, addressing income disparity such as boosting wages , promoting the development of the services sector, and expanding social welfare programs such as education, social security, and health care will be major priorities.
Such policies, if implemented, could provide a significant boost to consumer spending. Based on China's historical economic model, it will likely take several years for a significant rebalancing of the Chinese economy to occur. In addition, many economists have raised concerns that, as China's major trading partners, such as the United States and Europe, begin to experience more rapid economic growth, their demand for Chinese products will increase, which could discourage China's government from following through on economic reforms necessary to promote a rebalancing of the economy.
The official name of China's currency is the renminbi RMB , which is denominated in yuan units. Both RMB and yuan are used interchangeably to describe China's currency.
These were government-sanctioned foreign exchange adjustment centers established in to allow a limited amount of trade in foreign exchange, although the central government intervened to prevent the RMB from strengthening beyond 6 yuan per dollar. Source: U. Overseas investment by Chinese citizens is tightly regulated and restricted by the central government.
For example, it would be very difficult for a Chinese citizen to open a savings account in another country or invest in shares of foreign stocks without permission from the government. Limiting capital outflows from China is a key policy tool of the central government to control exchange rates within China. In addition, some analysts contend that China fears that an open capital account would lead to capital flight, which could undermine its financial system.
It was later announced that the composition of the basket would include the dollar, the yen, the euro, and a few other currencies, although the currency composition of the basket has never been revealed. If the value of the yuan were determined according to a basket of currencies, however, it would not have shown the stability it has had against the dollar between mid and mid, unless the basket were overwhelmingly weighted toward dollars.
The fact that the currency has appreciated some days but has depreciated on others raises a number of questions as to the extent and pace the PBC will allow the RMB to appreciate over time. Many observers believe that this is a sign that appreciation of the RMB will happen over a long period of time, but in an unpredictable way in an effort to limit RMB speculation and inflows of "hot money," which could destabilize China's economy. A trade-weighted index reflects the relative importance of each partner's trade with China.
The index itself is calculated as the geometric weighted averages of bilateral exchange rates. Thus the dollar accounts for a significant portion of the index—it averaged 19 points out of from to , while the euro averaged In general, U.
China emerged as the world's largest merchandise exporter in accounting for These rankings have stayed constant through The current account balance is the broadest measurement of trade flows because it includes trade in goods and services. It also includes income flows and current transfer payments. China's accumulation of foreign exchange reserves in the first quarter of was 3.
Note, the IMF's July estimates of China's current account surpluses as a percent of GDP in and were different than the estimates it made in April at 2. Fred Bergsten and Joseph E. Gagnon, December Scott, August 23, Note, some have criticized the methodology used in the report, which assumes that the U.
New York Times, December 31, Krugman also estimated that China's currency policy caused 1. Many members sharply criticized the Department of the Treasury's decision in April to delay issuing its first exchange rate report usually issued in March or April.
That report was issued on July 8, after China made its announcement on currency reform , and it did not cite China or any other country for currency manipulation. Testimony by C. Of particular concern to some groups are proposals that would require the U.
A September 22, , letter sent by a group of U. A number of U. Some petitioners have argued that when Chinese exporters are paid in dollars and subsequently exchange those dollars for Chinese RMB, the payment RMB they receive is larger than would occur under market conditions because of the Chinese government's intervention to keep the RMB artificially low against dollar. This policy is viewed as constituting a financial contribution or price support. The Commerce Department has yet to include an undervalued currency as part of its countervailing duty investigation.
In one case involving imported aluminum extrusions from China, which included a charge by petitioners that China's undervalued currency was a countervailable subsidy, the Commerce Department stated that additional study of the issue was needed, given the unique nature of the alleged subsidy and the complex methodological issues that it raises under U.
The benefit would be defined as the difference between the amount of foreign currency received by the exporter from the transaction and the amount that would have been received if the currency was not undervalued. In other words, the undervalued currency could be considered to be a measure that is contingent upon export performance. Real effective exchange rates are defined as a weighted average of bilateral exchange rates, adjusted for inflation. Under U. In such cases, Commerce uses price information from "surrogate countries" that have a market economy to determine the normal value of the imported products in question.
Some analysts contend that this practice results in higher antidumping rates on imports from nonmarket economy countries than on those from market economy countries. Takatoshi Kato , September 30, China's currency issue was also a major topic under the U. The multilateral approach may also act as an inducement for China to reform its currency policies.
If other economies especially Asia agree not to intervene in currency markets to prevent their currencies from appreciating or depreciate them to gain a competitive edge against Chinese exporters , China might agree to quicken the pace of currency appreciation and reform. If China went ahead and appreciated its currency, other Asian economies might do the same. This might help minimize Chinese concerns that an appreciating currency would disrupt its export sector.
This is often referred to as the real or equilibrium exchange rate and is broadly based on assumptions of what exchange rates would be predicted to be in order to be consistent with a country's fundamental macroeconomic conditions. Cline, William R. The ERER approach estimates an equilibrium real exchange rate for each country as a function of medium-term fundamentals, such as the net foreign asset NFA position of the country, relative productivity differential between the tradable and non-tradable sectors, and the terms of trade.
The ES approach calculates the difference between the actual current account balance and the balance that would stabilize the NFA position of the country at some benchmark level. The MB approach calculates the difference between the current account balance projected over the medium term at prevailing exchange rates and an estimated equilibrium current account balance, or "CA norm.
The semi-annual series of estimates of FEERs was coauthored with [author name scrubbed] until his retirement. House of Representatives, March 24, Some analysts contend that U. Trade varied from year to year. In , U. The current global economic slowdown led to a sharp reduction in U.
As a result, the U. Depending on the elasticity of demand for the product, some might be willing to pay the extra price and buy the same level as before, some might buy less of the product, and some might stop purchasing the product altogether. Some of the costs may have been borne by Chinese producers or workers. Alternatively, China might have been able to boost efficiency, thus lowering costs, or production could have moved inland where labor is less expensive.
The Case of Apple's iPod , March He also argues that reducing the federal budget deficit in the long run is the best way to boost employment and states that "in comparative importance, the value of the RMB is a footnote. Bureau of Economic Analysis, personal consumption expenditures is the primary measure of consumer spending on goods and services in the U.
See U. The standard economic model for determining whether countries should have a floating exchange rate is the "optimal currency area" model. According to this model, two countries can gain from fixed exchange rates if their goods and labor markets are highly interconnected and their business cycles are closely synchronized. By these criteria, China and the United States are unlikely to form an optimal currency area.
Many such firms contend that China's currency policy constitutes one of several unfair trade advantages enjoyed by Chinese firms, including low wages, lack of enforcement of safety and environmental standards, selling below cost dumping and direct assistance from the Chinese government. This trend is much larger than the Chinese currency issue and is caused by numerous other factors, including productivity gains in manufacturing such as through new technologies and the rise of employment in the service sector.
From to , China's holdings of U. China has expressed concern in recent years over the "safety" of its large holdings of U. It has criticized the U.
Federal Reserve's easy monetary policies to boost economic growth, such as quantitative easing involving large-scale purchases of U.
Treasury Securities. Chinese officials claim that such policies could lead to a sharp devaluation of the dollar against global currencies and boost U. Fair, Ray C. There have been numerous reports of labor unrest and strikes in different parts of China in , mainly over pay issues. Chinese officials are concerned that an appreciation of the RMB could induce Chinese export producers to try to hold down wages to remain competitive, or could force them out of business, which could lead to more job losses and provoke more unrest.
Some recent media reports indicate that data on the level of Chinese exports in may be overstated because some entities in China may be filing fake export invoices in order to transfer capital to China. The ultimate goal of trade is to obtain imports in exchange for exports.
The more imports a country can obtain from a given level of exports, the better off it is materially. China appears to be willing to "subsidize' its exports in order to boost jobs in export-oriented industries. However, Chinese consumers are made worse off. The government can and has attempted to sterilize the increase of the money supply by forcing state banks to buy and hold government bonds. Some economists argue that short-term movements in floating exchange rates cannot always be explained by economic fundamentals.
If this were the case, then the floating exchange rate could become inexplicably overvalued undervalued at times, reducing increasing the output of U.
These economists often favor fixed or managed exchange rates to prevent these unexplainable fluctuations, which they argue are detrimental to U. Other economists argue that movements in floating exchange rates are rational, and therefore lead to economically efficient outcomes. They doubt that governments are better equipped to identify currency imbalances than market professionals.
Alternatively, if Chinese citizens proved unconcerned about keeping their wealth in Chinese assets, the removal of capital controls could lead to a greater inflow of foreign capital since foreigners would be less concerned about being unable to access their Chinese investments. This would cause the exchange rate to appreciate. To some extent, China can reduce the effects of the accumulation of foreign reserves on the money supply through credit controls, although this is unlikely to be completely effective.
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List of Partners vendors. The Chinese yuan has had a currency peg since This approach keeps the value of the yuan low compared to other countries.
The effect on trade is that Chinese exports are cheaper and, therefore, more attractive compared to those of other nations. By motivating the global marketplace to buy its goods, China ensures its economic prosperity.
As long as a currency peg keeps the yuan low relative to other currencies, consumers using foreign currencies can buy more of China's exports than they would if the yuan was more expensive. Specifically, if the People's Bank of China keeps the yuan weak compared to the U. Exports are a major driver of any economy because they represent money flowing into a nation.
To keep the yuan artificially low and support robust export activity, the People's Bank of China engages in currency purchases. According to the Congressional Research Service, the nation became the world's largest manufacturer in While these facts and figures are positive for China, that is not the case for everyone. As a result, U.
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