free floation of chinese yuan
TRANSCRIPT
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FREE FLOATATION OF
THE CHINESE YUAN
CRITICAL ANALYSIS OF ITS
IMPACT ON US AND INDIA
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Prepared By-
Sunaina Kain- 16004
Siddharth Mehta- 16044
Raghav Srivastava- 15956
Keshav Dogra- 16037
Rohit Kirar- 16051
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AGENDAo Introduction
I. History of Chinese Currency
II. Fixed Rate v/s Floating Rate
oChinese Exchange Rate and its
Undervaluation
oChinas take on free floatation
I. Chinas viewpoint
II. UNCTADs opinionoUSAs Concern
o Implication on India
oSynopsis
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INTRODUCTION Renminbi or Yuan was always officially pegged to
the USD, hence China has always had a fixed
currency regime
Chinese Yuan - 30% to 50% undervalued. Pegging lead to current account surpluses for china
and deficit for America.
Peg was lifted on 21st July, 2005 and Yuan was
allowed to free float and helped China to followflexible exchange rate system.
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HISTORY THE RENMINBI RMB:Peoples Currency
Unit is Yuan () round coin
1 Yuan
y
10 Jiao 100 Fen
Issued by Communist Party in 1948 beforewinning the war and establishing PeoplesRepublic of China
Revaluation in 1955 to end hyperinflation at 1 new Yuan = 10 000 old yuan
From 1994-2005 Yuan was pegged to dollar atthe rate of 8.2/$.
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FLOATING EXCHANGE RATE
Currency's value allowed to fluctuate
according to the foreign exchange market
Floating exchange rates automatically adjust
In cases of extreme appreciation or depreciation,
a central bank will normally intervene tostabilize the currency, known as managed float
No need ofmaintaining high level offoreign
reserves.
High chances of speculation in the rates inorder to make personal profits
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FLOATINGRATE V/SFIXEDRATE
BASIS FLOATINGEXCHANGERATE
FIXEDEXCHANGERATE
Determined by Private market
through demand and
supply
The government
How it works Works on auto
correction mechanism
Works on the fixed
rate given by the govt.
Need to maintain
foreign reserves
No such need There is a need to
maintain high level of
foreign reserves
Speculative tendencies High chances of
speculation
Quite less
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HOWISTHEYUAN VALUED ?
From 1994 until July 2005, China maintained a policy of
pegging its currency.
At an exchange rate of roughly 8.28Yuan to the dollar
Chinas foreign exchange reserves grew from $403 billion in
2003 to
$2.27 trillion as of September 2009
$3.83 trillion as of Sept 2010
Chinese Govt. modified its currency policy on July 21,
2005
Yuan now became, adjustable, based on market supply
and demand with reference to exchange rate movements
of currencies in a basket
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exchange rate of the U.S. dollar against the Yuan was
adjusted from 8.28 to 8.11, an appreciation of2.1%.
From July 21, 2005 to July 21, 2009, the dollar-RMBexchange rate went from 8.11 to 6.83, an appreciation of
18.7%.
U.S. imports from China rose by 5.1% over the previous
year, compared to import growth of 11.7% in 2007;
U.S. exports over this period were up 9.5% compared withan 18.1% rise in 2007.
China appears to have halted its currency appreciation
policy around mid-July 2008.
Generally averaged 6.83Yuan per dollar throughDecember 1, 2009
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Chinastarted
maintaining
a policy ofpegging rate
Yuan becameadjustable,
US imports
from chinarose by 5.1%,
US exportsfrom china
rose by 9.5%
US importsfrom china
rose by 11.7%,
US exportsfrom chinarose by 18.15
Chinaappears to
have haltedits currency
appreciation,
Generallyaveraged 6.83
Yuan perdollar
Chinasforeign
reserves from$403 billionin 2003 to
$3.83 trillionas ofSept
2010
1994
2005
2007
2009
2010
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CNY/USDMOVEMENTS
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YUAN TO USDRATES OF 2010
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ALLEGATIONSAGAINSTCHINA
China is alleged to devalue its currency ( 15% to 40%)
Unlike a true floating exchange rate, the RMB would be allowed tofluctuate by up to 0.3% (later changed to 0.5%) on a daily basis
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Makin false commitments to deflect criticism inthe G20 summit
Accumulating foreign reserves
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Chinas exchange rate policy is holding backglobal growth.
Appreciation of the RMB halts further lossesfrom $1 trillion US held assets.
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CHINASCONCERNOVERMODIFYING
ITSCURRENCYPOLICY
It might hamper economic stability
Spark an economic crisis
They further argue that Chinese banking
system is too underdeveloped Economic stability critical to maintaining
political stability
Could cause employment disruptions
This might cause worker unrest
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ECONOMIST VIEWSONTHEINTENT
BEHINDCHINASDECISIONON
YUANFLEXIBILITY
Both domestic compulsions and external pressure
were responsible for China to allow its currency to
float within the intra-day trading band of +/- 0.5
percent.
Domestically, a stronger exchange rate would:
- transforming the growth structure from
being export led to domestic consumption
- tackle the inflation situation
By allowing its currency to be flexible, china has
managed todouse trade tensions with the US and
EU as well.
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CHINASTAKEONFREEFLOATATION
The current exchange rate system is benefitting
china in the following ways:
Exports and foreign direct investment:
China as a responsible stakeholder:
Avoidance of trade tensions
Protecting the value of chinas investment
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OPINION BY UNCTAD
Imbalances of theglobal economy cannotbe resolved by a free
floating Chinesecurrency
Burden of rebalancingthe global economy
should not be put on asingle country and its
currency
"to leave currencies tothe vagaries of themarket" would not
help solving theproblem
Imbalances in worldtrade and the global
economy lie insystemic failures,require
comprehensive andinclusive multilateral
action
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MOVEMENT OF YUAN
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CURRENT SITUATION OF YUAN
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USAS CONCERN
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PURCHASING POWER PARITY
MODEL (PPP) PURCHASE POWER PARITY (PPP)
Based on the Law of one price.
E.g. Big Mac Index ( The Economist )
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PURCHASING POWER PARITY
MODEL (PPP)
y 2004: 1 USD = 2.021 yuan
y 2005: 1 USD = 2.047 yuan
y 2006: 1 USD = 3.462 yuan
y 2007: 1 USD = 3.621 yuan
y 2008: 1 USD = 3.798 yuan
INTERNATIONALMONETARYFUND
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LIMITATIONS OF PPP
PPP does not take into
consideration:
Purchase patterns
Difference in quality of goods in
different countries
Inflation
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Chinas Exportdriven Economy
Problem ofUnemployment
Weaker ExchangeRate Increases
Demand
WHY IS THE YUAN UNDERVALUED ?
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Factors Responsible for Revaluation
PoliticalFactors
Pressurebetweengovernments
Rapid Growth
EconomicalFactors
Cheap ChineseManufacturing
Rapid Growth ofMNCs setting
upmanufacturing
base
Impact onChinese
Companies
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AMERICAN TRADE DEFICIT
y China contributes with 20% of
US Trade Deficit
y
Appreciation of RMB willaffect the deficit
y The impact is proportional to
the overall trade
y
China contributes with 11% ofUS Trade
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IMPLICATIONONCHINESE
ECONOMY
Export orientedeconomic growth has led
to inexpensive Chinesegoods which haveinvaded marketsglobally.
Low inflation and high
financial stability
Large reserves decreasethe susceptibility toexternal shocks.
Long term
Fuel inflation,
overinvestment. Expansion of
nonperforming loans bythe banks
Opportunity Costs
Sacrificing purchasingpower over imports
Accumulated foreignreserves could have beenused to pay foreign debts
Advantages Disadvantages
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Effect on borrowers
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Effect on consumers
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U.S.-CHINATRADEAND
MANUFACTURINGJOBS
Manufacturing Employment Change in Manufacturing
(Thousands) Employment: 1995/2002
Total Change Percent
1995 2002 (Thousands) Change
United States 17,251 15,304 -1,947 -11.3
Japan 14,570 12,230 -2,340 -16.1
Germany 8,439 7,963 -476 -10.1
United Kingdom 4,402 3,956 -446 -10.3
South Korea 4,796 4,241 -555 -11.6
China 98,030 83,080 -14,950 -15.3
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IMPLICATIONS ON INDIA
Indo-China Trade Relations
Indias Trade deficit
Dual impact of revaluation
Implication of stronger Yuan How India will benefit from Yuan appreciation ?
Where will Rupee go as Yuan revalues ?
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INDO-CHINA TRADE RELATIONS
Trade relations date back to ancient times
1984- first trade agreement is signed
1992- full fledged bilateral trade relation
1993- border agreement is signed 1994- double taxation avoidance agreement
signed
2003- Bangkok agreement signed
2005- trade started growing significantly 2010- bilateral trade relations expected to reach
$30 billion by end of 2010
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INDIAS TRADE DEFICIT India reported a balance
of trade deficit of
US$9118.0 million in
September, 2010.
Indias major exportitems are gems,
jewellery, leather
goods and textiles.
Indias major import
items are coal,
machinery, fertilisers
and chemicals.
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INDIAN IMPORTS FROM CHINA/CHINESE IMPORTS FROM INDIA
JAN 2009- JAN 2010 (US$)
India imports China imports
Jan-09 2.06 billion 861 million
Feb-09 1.75 billion 1.14 billion
Mar-09 2.22 billion 1.31 billion
Apr-09 2.39 billion 1.35 billionMay-09 2.35 billion 1.02 billion
Jun-09 2.26 billion 927 million
Jul-09 2.78 billion 979 million
Aug-09 2.69 billion 799 million
Sep-09 2.67 billion 1.42 billion
Oct-09 2.44 billion 935 million
Nov-09 2.78 billion 1.19 billion
Dec-09 3.29 billion 1.78 billion
Jan-09 2.81 billion 1.82 billion
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DUALIMPACTOFREVALUATION
Chinese exports would become expensive. Thusother nations have a better chance to compete as
exporters.
Chinas foreign exchange reserves of $2.3 trillion
would get devalued. This includes holdings of US
treasuries of $798.9 billion, as of September
2009.
Chinese imports would become cheaper and
which would give the government a strong tool to
manage inflation and increase the purchasingpower of the people
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IMPLICATION OF STRONGER YUAN
Indias trade deficit with China in 2009 was US$
15.8 billion.
Stronger Yuan will help in eliminating this
deficit and would also help in increasing thw cost
of Chinese imports to India which would benefit
Indian manufacturers.
A higher Yuan would also slowdown American
trade deficits and thus cap the American trade
deficit
Yuan revaluation could have a marginally
positive effect on Indias trade account.
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CONCLUSION
an undervalued RMB neither increases nor
decreases aggregate demand in the
the gains and losses in employment andproduction caused by trade deficit will not be
dispersed evenly across the regions of the
economy: on balance, some areas will gain while
others will lose.
If output in the trade sector falls more quickly
than the output of U.S. recipients of Chinese
capital rises, aggregate spending and
employment could temporarily fall.
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FUTURE EXPECTATIONS
Challenges:
Banks have a positive foreign asset position;
currency appreciation will be bad
Risks from the loans exposure to the exportsector
Limited capacity to manage currency risk and
deal with currency fluctuations
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