45. The Appreciation of The Chinese Yuan
The United States has a very large trade deficit with China and overall. It
has low interest rates also, now at 1% for inter-bank deposits. Normally,
this combination would result in a weaker currency. People hold a lot of
surplus dollars (received from goods sold to the US) and have little reason
to hold us debt. However, Japan and China - among others - decide to buy
us government debt to prevent their currencies from strengthening against
the dollar. This protects their exports and weakens manufacturing in the
US, which has lost nearly three million jobs in the last three years. As a
result, the us is asking China to change the value of its currency against the
dollar.
Now a yuan is worth about 12 cents (8.28 yuan = $1), and this rate is not
allowed to change by the Chinese government. They fear that a stronger
yuan worth, say, 14 cents (7.1 yuan = $1) would allow more us exports to
China and fewer Chinese exports to the us. A shirt produced in China
costing 100 yuan would then rise in dollars from $12 to $14, and this would
give us (or other) shirt makers a better chance to compete. Since China
exports five times as much to the us as it imports, the us thinks that a
revaluation is fair and needed.
If China does not change its exchange rate, it is possible that
protectionist moves will be initiated by the Congress and even possibly
approved by President Bush. But even without this, the trade surplus plus
the capital inflows are creating a liquidity bubble in China. Real estate
prices are rising very rapidly, and experts fear that bank loans backed by
real estate could go bad if the bubble collapses. This would hurt the banks
in China that are already weak and ultimately slow the Chinese economy.
Thus, it is likely that China will eventually change its exchange rate to
avoid these problems.
