“China may not have simply re-pegged to the dollar,” Keidel told us. “My analysis leaves open the real possibility that China has simply been following its ‘basket guidance’ with one huge exception: if basket guidance would tell it to devalue with respect to the U.S. dollar, it sticks with the dollar instead.”
Yes, he said “devalue.” Keidel notes that for a while – prior to July 2008 – China did seem to be following a policy of gradual appreciation against a basket of major currencies. The yuan was appreciating the dollar, and its gains partially matched the euro’s own appreciation against the dollar.
But investors’ rush to the relative safety of the dollar during the financial crisis pushed the dollar sharply up against the euro – the dollar rose 27% against the euro between July and November 2008. At that point, strictly following the basket rule would have meant pushing the yuan down against the dollar. And that would have looked a lot like Beijing dealing a blow to U.S. exporters just as the American economy was teetering on the brink of oblivion.
The last line of this article pretty much sums up the crux of the financial issues surrounding the state of the yuan: it absolutely, under no circumstances, wants to devalue itself against the dollar. If it does this, the tremendous export industry in China, which is by some estimates over 35% of its economy, would be dealt a massive blow across all regions. Yes, unsurprisingly, the Chinese government is doing what will protect domestic stability and, more importantly, preserve jobs.
Of course, the other side to this equation is that China needs the US economy to recover and start spending more. While there is much talk of the Chinese buying up our treasuries in record amounts, there is good reason for that: the more they buy of our debt, the more we can spend on their goods. Yet this system almost became horribly decoupled last year during the crisis, where a collapsed US (and most certainly EU) economy would have lead to a staggering termination of exports from China. The consequences of this would have been nothing short of enormous for China's internal stability. These factories are frequently manned by some of the most poor and otherwise disadvantaged groups of China's society; particularly dangerous is the massive 'floating population' of roughly 10 million migrant workers that is hard to keep tabs on.
So what the world is seeing in regards to the yuan is a simple protectionist act that is based on intense phobia of having the Chinese domestic export sector suffering loses in any shape or form. The yuan may well appreciate, but it will appreciate as soon as the dollar appreciates. What this means is that it is certainly likely China and the US will remain friends, simply because their destinies are now so intertwined. Other regional blocks such as the EU are going to find themselves in a lose-lose situation in regards to pushing either the US or China to get something done about the currency devaluation. Yet as the dollar continues to devalue, the treasuries the Chinese have bought will also continue a steady decline in net worth. If the Chinese have a stronger yuan than the dollar, they will begin to lose money on their treasury investments.
Strictly speaking, the Chinese have absolutely no reason to bow to any pressure to adjust this yuan-dollar relationship.
Read the full article here.
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