photo: FAB O LENS
Renewed allegations of “currency manipulation” in the US-China bilateral agenda have less to do with the Chinese renminbi than US election politics and the Fed’s anticipated rate hikes.
Even before the start of the eighth and final Strategic and Economic Dialogue (S&ED) of the Obama administration, the issue of the exchange rate is back on the agenda.
After the decline of China’s yuan shook global markets in January, the People’s Bank of China (PBoC) calmed investors by stating that the government had no intention to devalue the yuan. However, as the US Treasury sees it, China’s yuan has decreased to five-year lows against the dollar in recent weeks.
The real story is more complicated.
The “currency manipulation” debate
As long as China’s growth model relied on exports and investment, US allegations of “Chinese currency manipulation” topped the list of bilateral concerns in Washington. Before the S&ED meetings, Treasury officials would threaten labelling China a “currency manipulator” in exchange for “greater reforms” (i.e., economic initiatives deemed in the US interest).
After years of trade surpluses and large-scale FDI inflows, China’s foreign exchange reserves stand at $3.2 trillion. Nevertheless, the US has had a trade deficit with Asia for decades; first with Japan, then with small Asian tiger economies, more recently with China. US trade deficit has been regional and multilateral, not bilateral.
Indeed, it is not in Chinese interest to “manipulate currency” to boost exports, when China is moving away from net exports.
Still other critics argue that RMB is depreciating because China faces the challenge of capital outflows, but they tend to mistake cyclical fluctuations with structural trends. Besides, China’s foreign-exchange reserves actually rose in April; for the second straight month. In fact, the Treasury’s effort to “press China” to move toward a “market-determined exchange rate” is also about election politics in the US.
China has intensified financial reforms. In its exchange-rate reforms, it is likely to emulate other Asian economies, such as South Korea – not the US.
So what’s the real story of Chinese renminbi today?
The real USD/RMB story
The exchange rate was about RMB 6.05 to the dollar in January 2014. As the Fed ended its quantitative easing and began to prepare for rate hikes, the dollar began to rise. In August 2015, it was around RMB 6.21 and, after the subsequent renminbi devaluation, RMB 6.36.
But after late March, the RMB began appreciating. Moreover, after the Chinese New Year, the USD/RMB ratio has largely correlated with the US Dollar Index (DXY), which measures the value of the dollar relative to a basket of foreign currencies.
The correlation is not a surprise. The basket of the US Dollar Index currencies accounts for some 70 percent of the weights in the Renminbi Index launched in December 2015. As the renminbi is now managed via a basket of currencies, China is not unilaterally driving the renminbi weaker – despite US election rhetoric.
Today, the exchange rate is about RMB 6.57 to the dollar. After hosting the G20 Summit, the renminbi will officially join the International Monetary Fund’s (IMF) international currency basket in early October. It is thus very much in the Chinese interest to keep the renminbi stable.
Fed expectations fuel destabilization
From fall 2014 to spring 2015, US dollar strengthened significantly, as evidenced by the US Dollar Index. In spring 2016, it declined somewhat as renminbi devaluation fears reinforced currency wars concerns.
In January, the Fed tempered rate hike expectations citing “global risks.” In late February, G20 countries agreed to move away from relying too heavily on zero-bound interest rate policies (ZIRP) to support growth. After these two measures, markets began to improve significantly.
However, rate hike speculation has returned in the past few weeks. As a result, economic uncertainty is increasing and market volatility climbing. But that is not driven by the renminbi, but uneasy labor markets in the US, rising global uncertainty and the Fed’s accompanying ambivalence.
If the Fed’s rate increases occur prematurely, the collateral damage will not be just domestic but global. In this scenario, renminbi is not the appropriate culprit but a convenient scapegoat.
The author is the founder of Difference Group and has served as research director at the India, China and America Institute (USA) and visiting fellow at the Shanghai Institutes for International Studies (China) and the EU Centre (Singapore)
A slightly shorter version of the original commentary was published by China Daily on June 7, 2016