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Republican Quality Intelligence

Will China Allow the Renminbi to Appreciate?

Brad Setser writes:

RGE - Show me the money (really, show me China's reserves): In order to understand China's exchange rate policy, I think it is becoming increasingly important to understand China's exchange rate politics.... Different parts of the state have different interests.... The central bank fairly clearly wants a stronger exchange rate, accelerated banking reforms and more monetary policy independence. It is worried that China's economy is too dependent on investment and exports - and thus is dangerously unbalanced. Other parts of the Chinese state are not so sure.... I don't think China's unwillingness to let the exchange rate move more is just normal prudence... there are times when not moving is more risky than moving. I think this is one of those times.

The combination of faster productivity growth in China than in the US... and the fall in the dollar/ renminbi v. Europe led to a surge in investment in China's export sector.... By the end of 2005, exports will account for 40% of China's GDP, up from about 20% a few years ago. About 2/3s of those exports... go to the US and Europe. That is an enormous sum. More importantly, China is investing over 50% of its GDP, and a very large of that investment is going into the export sector. China is gearing up to export 60% of its GDP - with most of that output going to the US and Europe....

It is widely known that the central bank wanted a bigger move in July, but was overruled by the State Council.... [T]he longer China waits, the bigger the impact of any change will be. The more China invests, the more unbalanced China's economy becomes - the more vulnerable it becomes to a global slump, or to a political tsunami that would reduce the openness of the US and European markets...