Strong RMB, Yen Not Good for the World

China's November's exports fell 2.2 percent from the year-earlier period, the first decline in seven years. While exports fell 2.2%, imports fell by 17.9%. As a result, the trade surplus ballooned to $40.1 billion.

It had been thought that a strong RMB would boost China's imports. The evidence suggests that this strategy is not working. China had been an engine of growth for the world. With China's exports engine grinding to a halt, China's appetite for imports has plummeted, and that is bad for the rest of the world.

The same logic applies to Japan. Exports-dependent as Japan it, if Japan's exports fall it will not import much. As big an economy as Japan and China are, if their imports decline, the effects on the world are significant.

A strong Yen and strong RMB have a "substitution effect" and an "income effect." The substitution effect of a currency appreciation will boost imports, other things being equal, as foreign goods become cheaper relative to domestic goods. The income effect refers to effects of declines in incomes and profits as employment falls and business failures mount. The cumulative appreciation of the Yen against a benchmark basket of major currencies since January 1 is 28.7% as of December 10; that of the RMB is 13.3% (see here).

The degree of appreciation is very difficult to swallow for many manufacturers, who face very narrow profit margins. Many people have been laid off. The dire business and employment prospects have caused many consumers to cut their consumption. To the Chinese, in particular, many imports represent a luxury that they will avoid in an economic downturn. Feeling poorer, they are turning to cheaper home-made products.

Policy makers should beware that the world cannot afford to cripple China's and Japan's exports. If they cannot export, they will not import. While China was exporting a lot to the rest of the world it has also sucked in so much imports from America, from Europe, and from its neighbors that according to one estimate that I have seen it had contributed as much as 25% of the world's economic growth in the recent past. A prosperous China and a prosperous Japan are just too important to give up if we want to sustain world economic growth, now that America and Europe are both depressed by the financial crisis.

Comments

[drone:]

So even though I"ve lost my job and have zero savings, I'm gonna run out and buy a flat screen TV just to support these guys,

2008 Dec 11 05:07 AM

[GrandpaTwiggy:]

The value of a country's currency is just one factor in global trade as are tariffs etc. The market place should set the value of currency not government policy to encourage trade. China's policy of keeping their currency low helps their economy at the expense of others. I do not agree at all with the thoughts expressed here.

2008 Dec 11 08:24 AM

[Lok Sang Ho:]

Remember the Plaza Accord in 1985 in which joint pressure was put on the USD to depreciate against market forces?

2008 Dec 11 08:36 AM

[Buprestid:]

Are you serious? So should we continue forever the trade imbalance these two countries have. I say they need to have sustainable growth with imports balanced with exports. It is an unstable situation having continually running large trade deficits with the rest of the world.

Something has to give and if that means exports going to 0 and imports going to 0 for sustainability then it will have been these two countries fault for continually export without ever importing stuff back.

2008 Dec 11 10:41 AM

[sidney:]

The problem isn't too much appreciation in the RMB but rather its not enough; not even close. There is no way the RMB has appreciated enough for the Chinese middle class to replace the USA middle class in purchasing power. Clearly China can force the US to default at anytime by no longer purchasing US treasuries and floating(that is where gov't doesn't intervene) the RMB. Once the RMB explodes up the Chinese consumer can buy their own goods(this is where stuff is produced); they can import raw goods into China just like the USA did for decades while they produced the finished products. By delaying the appreciation of the RMB they are just assuring a more crushing defeat later for the USA. Enough already. The game is over. China won. Now stop making everyone suffer longer while you think you can move every last ounce of manufacturing to China. Haven't you gained enough capacity and US$ reserves? Is 2 trillion not enough? Aside from floating the currency China should allow its citizens to invest anywhere and travel anywhere. By letting the RMB float the Chinese citizens will want to come back to China thus you can drop the stupid ransom paid by every Chinese traveler abroad. The Chinese middle class needs to be able go visit the USA and rub their new found wealth around a bit. The Chinese investor needs to be able to choose where they put their money. Who are the old Japanese, European, or American's supposed to sell their assets to if the Chinese investor is locked behind the curtain. The WTO people should be fired for letting such imbalances exist with currency,travel, and investment restrictions in place. "Free travel" and "Free investing" should have been rock solid requirements for WTO's "Free trade". China will win WWIII without firing a shot as a result of the world going along with its "Free Trade/Locked RMB/Locked investment" strategy. Without a way for the Chinese consumer to get access to the surplus and send it back in some form(spending(imports or travel) or investment) China essentially is a vampire sucking the life blood of the world. Now that the US is so clearly "printing" money how long will the Chinese consumer tolerate the inflation that results from China printing RMB to give to the exporters in exchange for US$? Right now USA gets to export inflation to China. Of course right now deflation is rampant around the world so while that is true US should just kick 5-10 trillion US$ China's way and see how much we can buy before someone in China realizes we took them to the cleaners with funny money.

2008 Dec 11 02:58 PM

[User 142738:]

sidney: The paragraphs you wrote are similar to the words written in the book “The Japan That Can Say No.” Oddly enough, the appreciating yen has increased Japan’s government debt, in dollar terms, from $8.5 trillion to $9.2 trillion; in yen it’s approximately ¥850 trillion. If Japan’s debt increases by ¥50 trillion and the yen rises to ¥85 per dollar, they’ll regain the dubious distinction of being the world’s most indebted country — and will cement their place as most indebted per capita.

I use Japan as a recent example of how an export-centric economy utilizes its foreign currency reserves as collateral for issuing debt. This is in conjunction with depreciating the currency. Depreciation of China’s currency was actually part of Deng Xiaoping’s economic plan; off the top of my head, I believe the yuan was devalued from $0.52 to $0.12. The United States did this in the 1930’s (from 0.05 oz. t. gold to 0.024 oz. t. gold), Japan did this in the 1990’s (from $0.0139 to $0.0069), and China will more than likely do this (again) in the 2010’s.

Also, sidney, I wouldn’t give the World Trade Organization too much credit. China collects taxes by levying high tariffs on imports — a no-no for most WTO members. It’s China, not the WTO, that you should be blaming.

2008 Dec 11 09:01 PM

[Even Walser:]

J-curve ever hear of it? A strong RMB IS in the worlds interest. China cannot defy the laws of economics indefinitely and the longer the Chinese government attempts to rig the global economic order to suit its own narrow national interest the larger and harder the day of reckoning will be. As it stands now China very much looks like a giant Ponzi scheme waiting to collapse. China needs to bite the bullet and allow the RMB to dramatically revalue while liquidating their US dollar holdings and diversifying. Otherwise sooner or later the the dollar will rapidly collapse and China's economy along with it. China allow economics to work its magic which would mean less export driven growth and more sustainable consumption driven growth.

2008 Dec 13 07:19 PM

[Umpa:]

I think that if China will not appreciate the value of their currency, Federal Reserve Bank can do what it knows best, that is, Quantative Easing. It will enable US to pay down their trade deficit, bring down the value of the currency to 1/7 of its value. Canadian dollar will follow suit to adjust to 1/8 through QE to keep pace with the US artificially destroying the currency. This will bring export of natural resouces to China cheaply and economic stimulus will ensue. This is the solution that I want to see occur.


On Dec 11 05:07 AM drone wrote:

> So even though I"ve lost my job and have zero savings, I'm gonna
> run out and buy a flat screen TV just to support these guys,

Mar 19 06:28 AM