Fri, Nov 26, 2004 - Page 8 News List

Beijing could let yuan appreciate

By Tung Chen-yuan 童振源

At the APEC summit, Chinese President Hu Jintao (胡錦濤) for the first time declared that China would allow a floating Chinese currency on the condition that it would not have a heavy impact on the economy. Is this the prelude to an adjustment of the Chinese yuan? Or is it superficial talk to deal with international pressure?

First, according to economist Frank Gunter's estimates, the total sum of capital leaving China between 1994 and 2001 reached US$69 billion, while in the period between 1997 and 2001, the sum was US$100 billion. This shows that there are big loopholes in China's capital controls. We can no longer define China as a closed economy, and must give full consideration to the relationship between China's domestic economy and the international economic situation.

From early January 2002 to early January this year, the US dollar lost approximately 40 percent of its value compared to the euro, 23 percent compared to the yen, and between five and 12 percent compared to the New Taiwan dollar, the Singaporean dollar and the South Korean won. From the beginning of this year to the middle of November, the US dollar continued to add between two to eight percent to these losses, and it seems it will continue to fall.

Because the yuan is pegged to the US dollar, its nominal value has fallen by the same amount as the US dollar compared to the above mentioned currencies. This is one very important factor behind the imbalance in the yuan's value.

In order to maintain exchange rate stability, China's central bank has been forced to buy more than US$10 billion per month since last year, and this has seriously affected the independence of its currency policies. The trend has continued this year, which has built strong pressure on the yuan to appreciate.

In the third quarter, China's central bank bought an average of US$14.6 billion per month, and the sum purchased in September was US$18.4 billion. The increase in interest rates by 0.27 percent will probably not be sufficient to cool down the overheating economy. Instead, it may add further pressure to appreciate the yuan.

In fact, the main reason China's money supply increased so sharply last year and this year, thereby creating domestic economic imbalances and overheating, was that foreign exchange reserves increased sharply.

Last year, the base currency increased by 748.8 billion yuan, and the total amount of foreign exchange transactions for the year contributed 91.5 percent of that increase.

For the first three quarters of this year, the base currency increased by 670 billion yuan, while the total amount of foreign exchange transactions for the year increased by 553 billion yuan (following write-offs on the open market), still contributing 82.6 percent of the increase in the base currency.

In addition, the US trade deficit with China is continuing to grow, and China is coming under heavy pressure from the US goverment to appropriately adjust the yuan. According to official US statistics, by the end of September, the US' trade deficit with China had reached US$114.4 billion, or 24.4 percent of the total US trade deficit, which was 27.5 percent higher than for the same period in the previous year.

The US treasury secretary has on several occassions requested that China implement a more flexible exchange rate system, causing increased market expectations for an appreciation of the yuan and a flow of hot money into China.

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