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Editorial: Yuan changes could speed outflows

The timing of China's decision last week to revalue its currency and allow it to fluctuate against a basket of currencies came as a surprise, despite widespread expectations that it would eventually happen. The move does not, however, mark a complete end to China's decade-old peg to the US dollar, but rather the start of a new currency regime.

The announcement by the People's Bank of China of the revaluation caught most people off-guard, as the news was released on Thursday evening when most Asian foreign exchange markets were closed. But it was also in line with expectations, given increasing international pressure from Beijing's major trading partners that the undervalued currency gives China an unfair advantage.

Now that China has made the first step in a series of adjustments to its exchange rate, market reaction has shifted to wild speculation over what further measures or changes will come, as well as the extent to which China will allow its currency to appreciate over the longer term. In fact, Beijing's smaller-than-expected step has only created expectations for even greater changes and further room for the yuan to appreciate -- and even more capital inflows.

As anticipated, the yuan's revaluation also lifted the New Taiwan dollar, the Korean won and most Asian currencies on Friday. The local currency gained almost 1 percent to close at NT$31.648, while the won soared 1.4 percent to close at 1,021.30. But experts are sceptical that this will last, saying that the currency markets, especially in Taipei, might be overreacting.

According to statistics provided by the nation's central bank, Taiwan's trade surplus dropped by a hefty US$3.47 billion, or 89 percent, to US$425 million, during the first half of the year from a year earlier. The surplus is much lower than Japan's US$42.59 billion, China's US$39.69 billion, Korea's US$12.82 billion and Singapore's US$7.34 billion during the same period of time, suggesting there's room for the NT dollar to depreciate, not appreciate.

Meanwhile, many Taiwanese businesspeople appear confident that the change in the yuan's value will not hurt their operations in China, since a 2 percent rise in operating costs there is tolerable.

A preliminary study by the Ministry of Economic Affairs also suggests that the change will have a limited impact on the economy. But as the yuan is expected to appreciate further in the future, the ministry warned that, over the longer term, it may cause companies in Taiwan to advance their investments in China, creating another wave of capital outflows and hurting the nation's export-oriented economy.

These concerns are not unfounded. The latest ministry statistics show that around 40.5 percent of Taiwan's export orders for last month were produced overseas, up from 31 percent a year earlier and 22.43 percent in June 2003. Taiwanese manufacturers are continuing to shift production offshore, especially to China, to lower their production costs. The yuan's revaluation therefore may accelerate, not stall, company relocations overseas, creating more problems such as unemployment here in Taiwan.

While the impact of the yuan's 2 percent revaluation will take time to assess, the issue of potential capital outflows to China from Taiwan has also caught the attention of the Mainland Affairs Council. Last week the Cabinet said it would monitor the potential impact on the export sector and help small and medium-sized enterprises hedge against the risk of currency fluctuations.

As China is run by an opaque regime, its next move regarding the yuan cannot be predicted. For democratic economies such as Taiwan, the change in the yuan's value has become a regional and global issue we have to face.
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