China’s Undervalued Currency Robert B. Cassidy Director of International Trade Collier Shannon Scott
China’s Undervalued
Currency
Robert B. CassidyDirector of International
Trade Collier Shannon Scott
Introducton
• China’s undervalued currency affects all countries including China– East Asia has maintained parity with the yuan
since the Asia Financial Crisis
• Creates global financial imbalances and distorts trade– U.S. current account deficit (EU as well)– Asia’s current account surplus
Yuan: Fixed Peg to the US$
• In 1994, China unified and depreciated its currency by 50%
• During1994-2005, exchange rate virtually fixed at 8.28 Yuan to US$1
• July 2005, China appreciated currency to 8.11 Y/$ based on a basket of currencies.
• In practical terms, yuan is still pegged to the $ -- 1.2% appreciation since 7/05
Export Growth Strategy
• China’s and Asia’s undervalued currencies are a basic component of an export led growth strategy– Subsidize export– Subsidize foreign direct investment
• Japan still restricts investment
– Tax imports
• Requires high savings rates to maintain
Table 1: General and Financial Indicators of the People's Republic of China
(All figures are in billions of RMB or percent unless otherwise indicated)
Main indicators 1997 1998 1999 2000 2001 2002 2003 2004 2005
Gross Domestic Product (GDP) 7,897.3 8,440.2 8,967.7 9,921.5 10,965.5 12,033.3 13,582.3 15,987.8 18,282.0
Real GDP growth 9.3 7.8 7.6 8.4 8.3 9.1 10 10.1 9.9
Consumer price index 2.8 -0.8 -1.4 0.4 0.7 -0.8 1.2 3.9 1.8
Urban per capita disposable income (RMB)
5,160.3 5,425.1 5,854.0 6,280.0 6,859.6 7,702.8 8,472.2 9,421.60 10,493.00
Rural per capita net income (RMB) 2,090.1 2,162.0 2,210.3 2,253.4 2,366.4 2,475.6 2,622.2 2,936.40 3,255.00
Unemployment rate* 3.1 3.1 3.1 3.1 3.6 4 4.3 4.2 4.2
Financial indicators 1997 1998 1999 2000 2001 2002 2003 2004 2005
M0 supply 1,017.8 1,120.4 1,345.6 1,465.3 1,568.9 1,727.8 1,974.6 2,146.8 2,403.2
% growth over previous year 15.6 10.1 20.1 8.9 7.1 10.1 14.3 8.7 11.9
M1 supply 3,482.6 3,895.4 4,583.7 5,314.7 5,987.2 7,088.2 8,411.9 9,597.1 10,727.9
% growth over previous year 22.1 11.9 17.7 16 12.7 16.8 18.7 13.6 11.8
M2 supply 9,099.5 10,449.9 11,989.8 13,461.0 15,830.2 18,500.7 22,122.3 25,321.0 29,876.0
% growth over previous year 19.6 14.8 14.7 12.3 17.6 16.8 19.6 14.6 18
Exchange rate (RMB/$) 8.0 8.28 8.28 8.28 8.28 8.28 8.28 8.28 8.07
Foreign exchange reserves (US$ billion) 139.9 145.0 154.7 165.6 212.2 286.4 403.3 609.9 819.0
Government deficit 58.2 92.2 174.4 249.1 251.7 315 293.5 209.0 NA
Domestic debt 247.7 331.1 371.5 418.0 460.4 567.9 615.4 687.9 NA
Foreign debt ($ billion) 12.6 146.0 151.8 145.7 170.1 171.4 1936.3 228.6 NA
Sources: PRC National Bureau of Statistics (NBS), China Statistical Yearbook, 2004; The People's Bank of ChinaNotes:*According to official SSB figures, which do not include underemployment or the migrant population, NA = not available
Copyright 2006 by the US-China Business Council. All rights reserved.
Rising Chinese SurplusesChina's Indexed Foreign Exchange Reserves and China's
Indexed Surplus with the U.S., Annually 1995-2005
0
200
400
600
800
1000
1200
1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005
Year
Ind
exed
Val
ue
(199
5=10
0)
Indexed Surplus
Indexed FER
SOURC E: Official Statistics of the U.S. Department of Commerce, IM F International Financial Statistics
Prepared by Georgetown Economic Services
Table 1: Foreign Investment in China, Jan.-Nov. 2004
Note: Percentages may not add up because some categories were omitted from this table.Sources: Ministry of Commerce and the USCBC
Investment Vehicle Number of Contracts Amount Contracted Amount Utilized
Total % Change % of Total $ Billion % Change % of Total $ Billion % Change % of Total
Foreign Direct Investment (FDI) 43,664 6.29 100.0 153.47 33.38 100.00 60.63 13.32 100.00
Equity Joint Ventures 11,570 -7.60 26.50 27.64 8.37 18.01 16.39 6.46 27.03
Contractual Joint Ventures 1,343 -13.19 3.08 7.79 4.13 5.08 3.11 -18.88 5.12
Wholly Foreign-OwnedEnterprises
30,708 13.97 70.33 117.28 43.70 76.42 40.22 20.49 66.34
Share-based Enterprises withForeign Investment
43 16.22 0.10 0.77 99.09 0.50 0.77 136.68 1.27
Cooperative Development 0 -100.00 0 0 -100.00 0 0.11 226.45 0.18
Enormous Increase in FDIForeign Direct Investment in China
0
10
20
30
40
50
60
70
80
90
100
110
120
130
140
150
160
1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004
Year
Bil
lio
ns
of
U.S
. D
oll
ars
Total FDI Contracted
Total Utilized FDI
US Share of Total Utilized FDI*
US Share of Total FDI Contracted*
Source: China M inistry of Commerce
* Estimated for 2004
Prepared by Georgetown Economic Services
Chinese Trade Data Incorrect
Year China Data Partner Data Understatement1999 $27.8 $118.6 $90.82000 $30.4 $147.6 $117.22001 $26.0 $151.2 $125.32002 $31.5 $174.3 $142.82003 $29.7 $201.8 $172.12004 $45.8 $278.6 $232.8
2004 (Jan-Mar) ($3.1) $51.5 $54.62005 (Jan-Mar) $21.0 $81.0 $60.0
China’s Global Trade Surplus (Exports-Imports), Adjusted for Hong Kong Re-Export Trade, 1999 – 2005 YTD
By Source, in Billions of US$
Prepared by Georgetown Economic Services
Chinese Trade Data Incorrect
Country China Data Partner Data UnderstatementCanada $1,187 $13,512 $12,325Japan ($15,946) $15,752 $31,698
European Union (15) $35,232 $81,914 $46,682United States $84,674 $163,553 $78,879
Prepared by Georgetown Economic Services
Comparison of China-Reported Data with Trading Partner Data2004 Bilateral Trade Surplus(+)/Deficit(-)
Million U.S. Dollars
Effects of Undervalued Yuan
• Chinese exports subsidized; imports taxed• Investment is cheap• Foreign exchange (F/X) increases• Money supply increases• Inflation increases• Free floating currencies bear the burden of
adjustment: euro, Pound, C$
Is the Yuan Properly Valued?
• Consensus that the Yuan is undervalued– International Organizations (IMF)– Administration Statements (Bush, Snow, others)– Scholarly Research: including CRS
• Only Dispute: Degree of undervaluation– 10%-75%, depending on data on exports/imports– Treasury and IMF: use Chinese data– CCC, others use trading partner data: reverse
engineering
Source Publication Date Percent Undervalued
World Bank PPP Level 2000 75%
Big Mac Index The Economist Apr. 2003 56%
Preeg MAPI Sept. 2002 40%
Yang and Bajeux-Besnainou
Is the Chinese Currency
Undervalued?
Nov. 2003 27.99% based on PPP (using 1985 as fixed base
year)
Williamson IIE lecture Oct. 2003 Over 25%
Anderson/UBS The Complete RMB Handbook
Oct. 2003 Nearly 25% in real terms
Goldstein Testimony to Congress Oct. 2003 15-25%
O’Neill & Wilson Goldman Sachs Rpt. Sept. 2003 10-15%
Bhalla Chinese Mercantilism: Currency Wars and
How the East Was Lost
July 1998 10-15% as of 1998
Estimates of Undervaluation
What Do We Do
• Three approaches:– Jawboning: Treasury approach up to now
• Yuan appreciates by 2.1% in July and further 1.2% since then
– IMF Pressure: IMF sets up medium-term review of global imbalances
• All countries’ measures put on the table
– Domestic Legislation
Chart 1: U.S. Dollar Exchange Rate for the YuanDaily, July 18th, 2005 - Present
4.9
5.2
5.5
5.8
6.1
6.4
6.7
7
7.3
7.6
7.9
8.2
8.5
Yu
an p
er U
.S. D
olla
r
Hypothetical Yuanper US$*
Actual Yuan perUS$
Yuan Revalued
40 Percent Appreciation
Progress to Date
X/R for Asian Currencies
Chart 2: U.S. Dollar Exchange Rates for Various Asian CurrenciesDaily, July 18th, 2005 - Present
91
93
95
97
99
101
103
105
107
109
7/1
8/2
00
5 =
10
0
China
Japan
Malaysia
South Korea
Yuan Revalued
Legislative Approaches
1. Broad monetary approach: Grassley/Baucus legislation
2. Broad trade approach: Schumer/Graham legislation
3. Trade remedy approach: – House: Thomas/English; Hunter/Ryan– Senate: Collins
Latest Legislation
• Grassley/Baucus (S-2467): Currency Manipulation– Fundamental Misalignment: Deletes intent
• Disparity between observed levels and rate consistent with underlying economic fundamentals
• Consultations with government and IMF• Failure of government to consult:
– Deny OPIC Investment (Mainly China)
– Deny World Bank loans (Mainly China)
– Deny Increased voting share in IMF (Mainly Japan)
– No provision on CVD cases against China
Broad Trade Approach
• Senators Schumer/Graham (S-295)– Impose Tariffs of 27.5%– Would take 2 years to impose tariffs– Held off vote until after President Hu’s visit. – WTO inconsistent– Likelihood of passage: slim
Trade Remedy Approach
• Senator Collins and Rep English/Thomas– Allow CVD investigations
• Does not define undervalued currency as prohibited export subsidy
– Thomas/English passed the house – New bill by Senator Collins (S-1421) tracts
the Thomas Bill• Minor problems regarding double counting
Trade Remedy Approach
• Rep Hunter/Ryan (HR 1498)– Allows CVD investigations; defines currency
manipulation as prohibited export subsidy– Currency manipulation also a factor in section
421 safeguard actions– WTO compliant
• Advantages: – Targets remedies to industries that are hurt– Targets undervalued currencies.
Conclusion
• HR 1498: Only legislation that provides relief to injured companies– Only legislation that will get China’s attention
• Thomas, Collins: Permits CVD cases but doesn’t focus on currency undervaluation
• Grassley: Uses existing mechanisms of Treasury reports and IMF actions; no remedies for specific industries.