Investor Jim Rogers created somewhat of a stir when he made his prediction that China's renminbi (CNY) will appreciate 300-500% to the US dollar (UUP) in 20 to 30 years. He was quoted saying that if anyone wanted to sell him renminbi he'd be a buyer. For now, there are plenty of people who will take him up on that offer. These type of predictions however raise attention to important questions on what the role of the renminbi (FXCH) will be as China grows and America is affected. Briefly digging into China's macroeconomic past, present, and forecasts of the future provides relevant insights.
The Role of the Renminbi In the Global Labor Market
Looking back 30 years starting in the early 1980s, the creation of special economic zones to attract foreign investment was a large step towards market reforms, but the global impact it would have on the world labor markets is understated. China has kept its wages low through monetary policy to attract capital investment from manufacturers. With well over a billion people added onto the global workforce this was a huge abrupt change that has kept labor wages low since. China has been a exporter of deflation as low labor wages keep prices of manufactured goods lower. Not only is this a great thing for consumers around the world who purchase these products but the role of the renminbi, which is valued lower than the dollar, has spurred economic growth elsewhere as most consumers who save on these goods spend it on other goods.
Monetary Policy and Controlling Inflation
China's central bank will intervene to keep inflation relatively low. China's economic growth is a offshoot of monetary policy. Compared to the boom-bust cycles of the past China's inflation has since stabilized considerably. There were two periods in 30 years, the late 80's and the middle of the 90's, where unsustainable inflation topped 25%.
China's CPI Inflation 1994-2013
Source: Inflation.eu Worldwide Inflation Data
The simplest explanation of such inflationary growth is an expanding economy within the context of decentralizing market reforms and a laid-back approach to supervising the financial system. More detailed and complex explanations exist.1 These events however were important lessons for Chinese policy-makers to strengthen their resolve in holding back inflation during boom cycles while using gradual economic austerity, rather than abrupt, to achieve soft-landings. There was a period of deflation after the mid-90's for several years while somewhat recently inflation reached its highest in a decade at 6.5% in 2007. Inflation has since been controlled. In light of the recent economic downturn in 2008, inflation has picked up again as countries around the world, including China, injected stimulus packages into their economies. In the case of China, its $4 trillion renminbi Keynesian intervention is unsustainable for any protracted period of time though. China's current administration has made it clear that it would maintain economic growth at 7% however. Although there will be intervention to stop any significant amounts of deflation that would curtail economic growth, like in 2008, run-away inflation is a thing of the past as China seeks stability in its financial markets which does rely on imports. More importantly, the periods of significant amounts of inflation are likely to be over in China. It is precisely this reason why appreciation of the renminbi is likely to continue in the future rather than devaluation, barring any significant worldwide economic slowdowns.
Recent Renminbi Appreciation
With demands for China to revalue its currency only a few years ago by the US Congress, the renminbi has appreciated over 32% since 2005.
There are several ways the US can benefit from renminbi appreciation. To list a few briefly, first the US would find an easier time paying off its mountain of debt to investors if the renminbi appreciated. Second, it would increase US exports as goods are priced more competitively. China kept its 8 to 1 USD peg for well over a decade so these type of moves by its central bank is worth considering.
In the short-term, the renminbi is likely to stay where its at. The renminbi faces contradicting pressures as it has to remain relatively weak to a stronger dollar and a weakening yen. China's economy still heavily relies on US imports. On the other hand, Japan seeks to cut its trading deficit with China by giving its exporters a boost with yen devaluation. China also relies on Japanese imports so an appreciating renminbi would deter Japanese consumers. The other pressure is that the renminbi needs to remain relatively strong to stabilize its financial market. A few reasons for this includes protecting the savings of its very large rural population, decreasing incentives for capital flight, and maintaining faith in the renminbi for investors.
Forecasts of the Future and Continual Appreciation
Looking forward, economic growth is likely to slow down in the future. With that being said, there will still be growth as China's expected date of surpassing the US in GDP will probably be pushed back to 2025 rather than 2017. Goldman Sachs (GS) strategist Jiming Ha estimates the annual growth rate to slow down to 6% from now to 2020. He cities a slowdown in the investment activity cycle as the reason behind slower growth. In contrast, the IMF estimates China to grow at 8.5%. This year China is likely to finish at 7.5%.
In the medium-term spanning five years, renminbi appreciation is likely to continue. Some estimates predict that the renminbi will appreciate by 10% within this time as China's economy continues to grow leading to more internal consumption. Other reasons include differences in interest rate levels between China and other countries. One example of this is the recent Federal Reserve decision to postpone tapering its $85 billion monthly Treasury purchases while China's central bank is sending harsh signals to its banks to cut back on credit lending by creating a cash squeeze.
In the long-term, renminbi (CYB) appreciation will continue. The main reason why China's renminbi is so much weaker than the dollar is because its economic model currently favors exports over imports. China's household consumption rate is currently lower than other countries but will increase as its economy continues to expand. As its consumption rate increases in the future the renminbi will likely appreciate as China's central bank will pursue monetary policy which will favor consumers rather than exporters. The World Bank's data on household consumption (% of GDP) indicates that China's consumption is only at 34% in 2011 and has remained around that level for several years. In the case of Japan in 1980, their consumption rate was at 55% but since then the yen has appreciated well over 110% to the dollar. For a country like Japan that also has a high level of savings but is more developed, their consumption rate was at 60% in 2011. Although, it is important to point out that Japan's GDP growth has been trapped in stasis since 1980. In comparison, the household consumption rate in the US is at 70%, Greece at 74%, and Indonesia is at 60% in 2011. As the average Chinese household gets richer consumption rates and imports will increase. As consumption plays a bigger role in China's economy rather than exports monetary policy will shift and reflect this change.
Although Jim Roger's prediction is very premature and likely over exaggerated, it brings into attention the importance of the role of the renminbi to global markets. Arguably, China has been an exporter of deflation as its entrance into the global labor markets have kept labor wages low. Monetary policy has a large role in China's economic growth and will define the future role of the renminbi. On whether policy will cause appreciation or devaluation, recent events and future trends reveal that China will likely appreciate its renminbi as imports play a more important role in China's economy.
Naughton, Barry. The Chinese Economy: Transitions and Growth. 1. London : The MIT Press, 2006. 442-445. Print.