Friday, January 30, 2004
Re: outsourcing and China's currency exchange rate


Sorry for the delayed response.

Let me address the China question you raised. As you must have realized, the argument is that the Chinese currency is undervalued. Which means that if the RMB was allowed a free float, it would appreciate. This makes Chinese exports less competitive and imports into China can be expected to increase, which in turn will have positive impacts on the world economy as such. There seems to be consensus among many on this topic but there are counter viewpoints worth noting -

1. According to a Bank of America research report, though China has a current account surplus, it has one of the highest growth in imports. "Thus, China puts downward pressure on prices in the industries of its exports, but puts upward pressure of similar magnitude on the prices of the industries of its imports. The difference is that the impact on exports prices is more concentrated than the impact on the world price of imported products, making the latter less noticeable."

2. One of the requisites of a successful conversion to a free float is the presence of a stable financial structure and a strong banking system. Free floats will also expose the currencies to the vagaries of the foreign exchange market and the lack of adequate derivative and hedging instruments can cause havoc in global markets.

3. There is also debate over the real exchange rate versus the nominal exchange rate. I need to read more on this point before I can comment. But I believe that revaluation will adjust the nominal exchange rate, but at some time the real exchange rate needs to be balanced. Some suggest, doing so requires China to open its markets for imports, which takes care of the trade surplus issue. However, as I said, I need to research this some more.

This really is a complex issue with several opinions on the matter. Good you raised this issue. It has implications for the world economy.

More on Kerry's policies later.

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