A presentation On

Case Study: The Chinese Yuan-Beware of Dragon’s tail

Presented by: Md Khalid Ekram (11510947)Equbal Mahboob (11510948)Anju (11511129)

INTRODUCTION World's most populous country with a

population of over 1.4 billion. China is 3rd biggest country in the world in

term of area. The 1st in manpower (in term of population). 2nd economy (in terms of nominal GDP) of

the world after United State of America (USA).

More than 700 million of its 1.4 billion people live in rural area,

The 2011 Human Development Report shows China lies at 101 in a list of 187 countries

THE RENMINBIRMB : People’s Currency1 Yuan = 10 Jiao =10 FenIssued by communist party in 1948

before winning the war and establishing people’s republic of China.

Revaluation in 1955 to end Hyperinflation at 1 new Yuan = 10,000 old Yuan

China’s Exchange Rate HistoryFrom 1985 to 1993, the Chinese government follow dual exchange rates policy.On 1st January 1994, China radically changed its policy.

The double exchange rate system was suppressed, China fixed the value of Yuan again U.S dollar.

On 21 July 2005, the Chinese authorities decide to revalue the Yuan 2.1% against the dollar, to switch from the dollar peg to a basket, and to allow the currency to float more freely.

Since this date, the Yuan was time to time revalued against the dollar.

From 2005 to 2009 the Yuan appreciated of 17% in terms of dollars and its real bilateral rate appreciated of 18 %.

China’s TradeChina’s Trade• After China enter to the WTO in 2001, this effects on

bilateral trade volume

• In 2004 China had a trade surplus of $155 billion with united states.

• In 2004 China had a trade surplus of $86 billion with EU.

• China then became Japan’s largest source for imports for a share of 18.3% of Japan’s total import volume, which is higher than 17.1% from the U.S. The imbalance gap has widened over 4 times.

• According to reports by China’s General Administration of Customs and the Department of Commerce in the U.S., Sino-U.S. bilateral trade also increased rapidly after China acceded to the WTO.

Political pressuresPolitical pressures

1.The Chinese government was forced to buy the dollars and issue Yuan denominated bonds as a way of “sterilizing” the currency.

2.The silent kept by the government of China in order to maintain the secrecy, because government was not in favor of revalue the Yuan.

3.According to their population size they had also a problem of employment, so at that time China’s 1.3 billion population is growing at only 1% a year.

4.China needs to add enough jobs as well displaced workers from its agricultural sector and state-owned firms.

5.In figures, China had to add 15 to 20 million new jobs per year. In comparison, The USA created 2,75,000 new jobs in April 2005, where as China needed to create at least 1.25 million new jobs per month to keep with its demand.

6.In order to keep the balance if China had focused on the inflation in check, It needed to have a strong export sector otherwise it might create complex situations for China.

The currency basket issuesThe currency basket issues1.In July 21, 2005 China delinked the Yuan from its decade-old peg to the U.S. dollar in favor of a currency basket. The basket was largely dominated by the dollar, the euro, the yen, and the won because these currencies had a great impact on China’s foreign trade, investments, and foreign debt.

2.The Yuan was also influenced by other currencies of other countries like Singapore, Britain, Malaysia, Russia, Australia, Thailand, and Canada.

3.Because of the settings in the currency basket Yuan was increased by 2.1%, which leads Yuan at the price of 8.11$ from 8.28$.

4.In 2006, the Yuan appreciated by 5.68% which leads to deficit in U.S. trade and this deficit increase and continued the pressure on the China.

5.In 2007, Central bank of China thought widening the trading band of the Yuan, but in that debate with the U.S. treasury department the China got punitive steps by the U.S. senate. 

What if the Chinese currency continues What if the Chinese currency continues to rise in small increment?to rise in small increment?

• If the Yuan rises too much, China’s U.S. dollar foreign exchange reserve will fall.

•Chinese have basically invested their reserves in U.S Treasury bill, It will effected.

•If the Dollar become weak then Chinese will invest in Euros.

•Price of Chinese goods increased ,which could reduce the demand of Chinese goods in USA.

•Export of china get down, which could lead to rise in unemployment in china.

Steps Taken By SAFE:Steps Taken By SAFE: (STATE ADMINISTRATION OF FOREIGN (STATE ADMINISTRATION OF FOREIGN EXCHANGE)EXCHANGE)

Trading and Quoting prices in 8 currency pairs, Including the dollar-sterling and euro –yen.

Licensed banks were only to allowed to trade the Yuan against four currencies: the US dollar, the Hong Kong Dollar,the euro and the yen.

Trade were at fixed rate, and they did not involves trade involvement in non-Yuan currencies.

Opened up trade with 7 international banks, HSBC, City Group, Deutsche Bank, ABN AMRO, ING, Royal bank of Scotland and Bank of Montreal and two domestic banks, Bank of China and CITIC industrial Bank.

SAFE is responsible for Foreign exchange rate guidelines.

Q.1 Evaluate the three choices that China faces in determining what to do with its currency value. Which choice would you choose, why?

Three Choices:

1. China has to keep fixed rate against dollar

2. Go for the free float, leading the market to fix the value of currency.

3.Peg Yuan against a basket of currencies.

If I were to make the choice I would prefer the third option that is to peg Yuan against a basket of currencies. This will reduce the probability of sharp rise in the value of Yuan and will make Yuan rather stable as even if one currency looses value another will gain. It is also possible to assign higher weight to the more stable currency like US dollar and Japanese Yen.

Q.2 on July 23, 2005 China revalued the Yuan by 2.1%. Given that the exchange rate was 8.2725 prior to the revaluation, look at the exchange rate today. How much has the Yuan revalued against the dollar since then? Do you think this is enough to take the pressure off China? Why or why not?

Current exchange rate of Chinese Yuan is 6.36

So according to simple calculation the Chinese Yuan appreciate by approx. 24 % (base year 2005).

According to the case there are mainly two reasons for the pressure on the China

Unemployment rateChina’s urban unemployment rate is 4.1% which was 4.4% in 2004-2005. Average unemployment rate is 4.04% (source: www.tradingeconomics.com/china/unemployment-rate)

ExportsChina’s export is good $177.97 billion, but it can’t balance the factor of unemployment rate with proportion to the population increase in China.

Q.3 which exchange rate arrangement is China using now?

Crawling pegs:

In this, the country maintains the value of the currency within a very tight margin, but it changes the value of currency as needed. Thus, tries to maintain the value of currency but does not hold rigidity to that value as economic condition change.

 

Q.4 Assume you are a Chinese exporter. Would you prefer a Chinese export tariff on selected garment and textiles export as a way to release the pressure against the Yuan or a revaluation of the currency? Why?

I would rather prefer the revaluation of the currency than exercising tariff on selected garment and textile exports. This is because export tariff will be a short term solution which might lead to closure of small enterprises

CONCLUSION

This case looks at the controversial issue of revaluing the Chinese Yuan. For many years, the Chinese currency has been pegged to the U.S. dollar. Critics argue that this policy has resulted in an unfair advantage for Chinese manufacturers exporting product to the U.S. Pressure to revalue, including threats of trade sanctions against China, has led the Chinese government to adopt a slightly more flexible policy which pegs the Yuan to a basket of currencies rather than the dollar alone. Chinese leaders feel that increasing the value of the Yuan relative to the dollar would contribute to economic and political instability in China.

Recommendations:China must let the value of it's currency by market forces

to maintain political and economic stability globally.

Constant large trade surplus is not a good strategy as due to it economy is largely effected by global economic changes.

Generate employment in the country.

China should more emphasize on the quality of its products in the global market rather than availability on lesser price.

China should use its trade surplus to increase the standard of living of its rural population rather than buying US securities.

Thank You. Thank You. ....