Buttonwood: Musings on a Chinese revaluation
This week the Tokyo based Buttonwood column from The Economist has been in China which has prompted him to ponder whether China should revaluate the yuan. His starting point is that: "If you think China is going to revalue its currency, think again".
"(...) Buttonwood will not be so foolish as to predict when the property bubble will burst. But he will predict that, contrary to the keenest market expectations, there will be very little in the way of appreciation of the Chinese yuan this year."
It is not only Buttonwood who is interested in the Chinese yuan. In USA it has long been the notion amongst the so-called China bashers that a strong revaluation of the Yuan was needed to curb the massvie trade deficit USA has towards China. The Economist has described this before speaking about "America's struggle to embrace the new face of globalization" See also NewEconomist's post about "The Fed's explanation of global current account imbalances: it's not all glut". Furthermore, China did actually revaluate its currency last summer by pegging the Yuan to a basket of currencies.
However, Buttonwood believes there is room for more and one of the best points he makes in my opinion are the political dynamics surrounding American demands to revalue the Yuan along side Chinese authorities' tonguetwisting to avoid a strong and fast exodus of speculative capital.
"America wants a drastic revaluation of the yuan, and whenever the Americans are silent for long about the matter, Chinese officials themselves drop tantalising hints. Many billions in hot money is riding on a revaluation."
But why does Buttonwood in the end argue that a Chinese revaluation is not on the table any time soon?
"Yet take, in turn, the three common justifications of the revaluation bet: strong exports, a big trade surplus and China’s vast foreign reserves."
Firstly, Buttonwood reports how a slowdown in global demand might induce China's export growth to fall below two-digit figures. So, although Chinese exports are still impressive a relative drop in growth would prompt that the Yuan should be held steady in order not to further dampen exports, from China's point of view that is
Another perspective on trade patterns which conventionally seen should induce a revaluation is the large surplus. However Buttonwood narrates it differently: "A big surplus, in other words, is actually a sign of steam escaping: fixed-asset investment is being hurt by falling profit margins and widespread overcapacity."
Lastly Buttonwood takes on the currency reserves held by China and here the argument is more interesting in my opinion. The argument is that only about a sixth of the reserves is explained by "export success and inward investment." The rest is speculative based on, yes you guessed it, a revaluation/appreciation of the Yuan. This brings us back to the political/economic dynamics described above in which China is balancing on a two-edged sword.
"So the balancing act, for the authorities, is to keep up the expectation of a revaluation through talk and an exchange rate that crawls up fractionally—by another percent or two here or there. Will this act succeed? There’s no safety net."