Chinese

Exchange Rate

Policy

ECO209 Dr. Farzana Munshi

Samiya Yesmin 11304043

16.03.2015

11304043 ECO 209: Intermediate Macroeconomics II

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Chinese Exchange Policy

The Chinese currency is known as renminbi yuan, "Renminbi" is the official name of the

currency introduced in 1949 by the Communist People's Republic of China and "Yuan" is the name of a

unit of the Renminbi currency. (Mulvey, 2010)

Initially the Chinese Yuan (CYN) Renminbi was set to unrealistic exchange values and as a

result, severe currency guidelines were put in place. In 1978, when China's economy opened, the Yuan

Renminbi was only used domestically and foreigners used exchange certificates; this led to a powerful

black market. (CNY - Chinese Yuan Renminbi). A cornerstone of China’s economic policy is managing

the yuan exchange rate to benefit its exports. From 1997 to 2005, the Chinese government pegged the

Chinese Yuan Renminbi to the US Dollar at approximately 8.3 CNY to 1 USD. In 2005, a flexible

managed float system of exchange rates was adopted making Yuan adjustable, based on market supply

and debate with reference to exchange rate movements of currencies, in a basket, (Foreign Policy Index:

China). But after the financial crisis in 2008 which caused a worldwide demand dump for Chinese

products, Yuan was again pegged to US Dollar at 6.81 Yuan, briefly. This was heavily criticized by the

US Government and many economists, in 2010, including Nobel Prize winner Paul Krugman. As this

gives the Chinese an unfair advantage, by making Chinese exports artificially cheap, and this acts as a

drag on the rest of the world economy (Chinese President Hu Jintao resists Obama calls on yuan, 2010).

China's currency, the Yuan, remains "significantly undervalued" and has been urged to

appreciate in par its GDP growth rate. Thus (in Figure 1) we see the sluggish of the Chinese Yuan (to

US Dollar) since 2005. Even with the currency appreciation, China recorded a Trade surplus, reaching

an all time high of 606.19 USD Hundred Million Trade balance in February of 2015 (See Figure 2).

This was caused by a surge in exports, while imports dropped (China Balance of Trade). Another

criticism of China’s currency policy is that it hinders the emergence of a strong domestic consumer

market in the nation because: a) the low yuan encourages over-investment in China’s export

manufacturing sector at the expense of the domestic market, and b) the undervalued currency makes

imports into China more expensive and out of reach for the ordinary citizen.

Overall, the effects of China’s currency policy are quite complex. The undervalued Yuan gives

consumers access to cheap and abundant manufactured goods, thereby lowering their expenses and cost

of living. China recycles its huge dollar surpluses into purchases of U.S. Treasuries, which helps the

U.S. government fund its budget deficits and keeps bond yields low. China was the world’s biggest

holder of U.S. Treasuries as of November 2013, holding $1.317 trillion or about 23% of the total issued.

11304043 ECO 209: Intermediate Macroeconomics II

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On the other hand, the low yuan makes U.S. exports into China relatively expensive, which limits U.S.

export growth and will therefore widen the trade deficit (Picardo).

Figure 1: CYN against USD over the years

Figure 2: China Balance of Trade

Works Cited

1. China Balance of Trade. (n.d.). Retrieved 03 16, 2015, from Trading Economies:

http://www.tradingeconomics.com/china/balance-of-trade

2. Chinese President Hu Jintao resists Obama calls on yuan. (2010, April 13). Retrieved from BBC

News: http://news.bbc.co.uk/2/hi/business/8617189.stm

3. CNY - Chinese Yuan Renminbi. (n.d.). Retrieved 03 16, 2015, from As the world's trusted currency

authority, XE.com: http://www.xe.com/currency/cny-chinese-yuan-renminbi?

4. Foreign Policy Index: China. (n.d.). Retrieved 03 16, 2015, from MIT Education:

http://web.mit.edu/cis/fpi_china.html

5. Mulvey, S. (2010, June 26). Why China's currency has two names. Retrieved from BBC News:

http://www.bbc.com/news/10413076

6. Obama should call China a currency manipulator: Romney aide. (2012, Sept. 24). Retrieved from

Reuters: http://www.reuters.com/article/2012/09/24/us-usa-campaign-romney-china-

idUSBRE88N12M20120924

7. Picardo, E. (n.d.). Why China's Currency Tangos With The USD. Retrieved 03 16, 2015, from

Investopedia: http://www.investopedia.com/articles/forex/09/chinas-peg-to-the-dollar.asp

Table of Figures

Figure 1: CYN against USD over the years ................................................................................................ 2 Figure 2: China Balance of Trade ............................................................................................................... 2