China’s Renminbi Gambit


Over the weekend, China announced just ahead of the Toronto G20 summit that it would "enhance the RMB exchange rate flexibility" in response to" the recent economic situation and financial market developments at home and abroad, and the balance of payments (BOP) situation" at home. What does this mean?

According to a Washington Post report,

Facing growing pressure from around the world, China’s central bank announced Saturday that it is prepared to allow the country’s currency to float more freely against the dollar and other foreign currencies, potentially raising the cost of Chinese goods.

The statement, from a spokesman for the People’s Bank of China, gave no details on when China would allow its currency — known as the yuan or the renminbi — to appreciate or by how much. But the timing of its release, just before the leaders of the world’s largest economies gather for a G-20 meeting in Toronto, was clearly aimed at taking pressure off Beijing.

Many countries, including the United States, have criticized China’s fixed exchange rate, which critics say was keeping the country’s exports too cheap and hurting manufacturers and traders worldwide. A group of U.S. senators had even threatened to slap tariffs of as much as 25 percent on all Chinese goods coming into the United States if China did not allow the yuan to appreciate against the dollar.

Whether Saturday’s announcement will help the U.S. economy depends on how much Beijing lets its currency rise. A jump of 20 percent, for example, could cut as much as $150 billion off the U.S. trade deficit with China and create as many as 1 million U.S. jobs by making American exports more competitive, according to estimates by C. Fred Bergsten of the Peterson Institute of International Economics. From 2005 to 2008, China let the yuan appreciate 20 percent against the dollar before it stopped the process while it confronted the global financial crisis.

Few economists think China will let the yuan rise by that much, at least not yet. "This is a step in the right direction," said Bergsten, who has advised the Chinese government on the currency issue, "but the question is how far they will let the yuan rise — and how fast."

Thus far, the answer is:  Not all that fast.   Tufts political economist Daniel Drezner,  notes that, "Today, the PBoC also left the midpoint trading for the RMB unchanged, indicating that there would be no initial appreciation of the currency, unlike what transpired in 2005.  That said, the RMB appreciated by 0.42% today, its largest appreciaton in five years."

The Economist:

That in itself is not a momentous change. But it is best to see this weekend’s move as an institutional reform, rather than a change in price. It was a slow, deliberate step towards a more sophisticated currency regime, rather than a stronger currency per se. As China’s economy evolves over the next few years, weaning itself off investment spending and towards consumption, it now has a suppler exchange rate that can help guide and cushion that process. Presumably that is what the PBOC meant by an “adaptive” currency.

FT analysts Geoff Dyer and Alan Beattie:

Beijing’s statements appear to be a delicate political compromise aimed at defusing the mounting international criticism of its exchange rate, especially in the US, while reflecting the lack of domestic support for a significantly stronger currency given the ongoing problems in Europe.

The result is that China is expected to return to a policy of gradual appreciation of the renminbi against the US dollar, after almost two years in which the rate has remained unchanged. Most analysts expect only very modest strengthening in the short term.

The FT editorial page itself is even more direct:

The politics is clever. But the real economic implications are unclear. When Beijing lifted its currency peg in July 2005, it allowed the renminbi to appreciate against the dollar by 21 per cent over three years to mid-2008 when the peg was reinstated. Beijing could again allow a similar pace of appreciation. But it could go much slower. China remains nervous about Europe’s debt crisis and divided over the wisdom of giving up export competitiveness. The central bank pointed out that China’s current account surplus had already fallen significantly, adding: “The basis for large-scale appreciation of the renminbi exchange rate does not exist.”

China conducts exchange-rate policy in its own interests, not in those of US politicians, baby-kissing or otherwise. It is right to take a gradualist approach. But its own interests do require it to nudge along the process of global rebalancing. In the second half of this year, China may once again run up big surpluses that are, in the long run, unsustainable. A stronger currency would be good for China by raising the purchasing power of workers and fighting inflation.

In a separate piece, Dyer terms this "a deft political move."

By indicating that the peg between the renminbi and the US dollar is now likely to be broken, Beijing has “stolen the thunder” from the US and other governments which hoped to use the summit to put pressure on China, said Eswar Prasad, a former IMF China economist now at Cornell University.  “They have taken the issue right off the table for the G20 and can refocus attention on what they see as the real problem for global financial stability – rising government debt in the advanced economies, especially the US,” he said.

This is not the first time that Beijing has used carefully timed announcements to deflect attention from its policies. In the run-up to the first G20 summit in April last year, international debate about the global financial crisis was beginning to focus on China’s large current account surplus.

But, Dyer and Beattie note, the move may not have the desired impact:

Earlier, Tim Geithner, US Treasury secretary, said: “We welcome China’s decision to increase the flexibility of its exchange rate.” But he added that “vigorous implementation” was needed to help boost the global economy.

There was a critical response from Senator Charles Schumer, who has been pushing for legislation over China’s exchange rate. “Just a day after there was much hoopla about the Chinese finally changing their policy, they are already backing off,” he said. “It vindicates our initial scepticism. We intend to move forward as quickly as possible with legislation.”

The Eurasia Group’s Damien Ma tells The Atlantic’s James Fallows:

I think this was ultimately a political decision, and was in some way a signal of the mutual leverage between the US and China. There was a time during the depths of the economic crisis when the currency peg had a decidedly economic logic, but I think once they saw their 1Q GDP was growing at 12%, that turned the corner on thinking. The argument [inside China] had always been between the exporters and the inflation hawks (the liberal financial set in the central bank, think tanks, et al). The exporters quickly lost their support when the emphasis shifted to inflation and overheating.


I think it’s worth noting that with all the exaggerated perception of Chinese leverage and clout, this announcement suggests that US leverage over China is not "weak." It would be hard to read this move from Beijing, on a weekend four days before the G20, as something other than tacitly acknowledging US and multilateral pressure. There is no doubt that China will push back harder on a host of issues going forward given its newfound strength, and we might have to work harder to secure their cooperation. But to hyperbolically magnify Chinese leverage is a mistake. This is a country, after all, that still is unwilling to admit that the DPRK [North Korea] torpedoed the South Korean corvette and cannot tame a wily country that behaves more like a "rogue Chinese province."

Drezner agrees that politics, not economics, is primarily at play here.

China’s aim is to do just enough to placate the G-20 without enraging its domestic producers and online nationalists.  By switching to a basket — one in which the euro seems headed downward — China has greater flexibility to do whatever the hell it wants with respect to the exchange rate.

Going forward, I’m curious about the extent to which Chinese authorities will play up their domestic constraints.  It’s very chic to point out the ways in which China’s government does have to deal with nationalist pressures — but the government also has an incentive to play those up as part of a two-level game.  One of the great unknowns is the extent to which Beijing can turn that nationalist sentiment up and down like a volume control.  I don’t know the answer, and I’m not convinced that China-watchers know either.

A pretty safe bet.  Still, I’m intrigued by Ma’s point.  Clearly, despite what would seem to be tremendous leverage as the world’s leading creditor, China knows it can only go so far in flouting the rules of the international economic system.    That’s no small thing.

James Joyner is managing editor of the Atlantic Council. AP Photo.

Image: china-usa-currency.jpg