US CHINA EXCHANGE RATE

STAND OFF
BY:-
AARSHI- 19BS0019
ADITYA-19BSP0137
AMAN-19BSP0264
ANAND-19BSP0326
ANKIT-19BSP0380
ASHWANI-19BSP0545
 INTRODUCTION
• The exchange rate of the Yuan-Dollar was a sad point in us-
china trade relation in the early to mid 2000s, with the us
government arguing that the Yuan is undervalued and that this
gives china an unfair advantage in trade.

• While some analysts criticize China for not letting the Yuan
appreciate against the US Dollar, others consider the low US
savings rate to be the root cause of the US trade deficit with
China. The case discusses the issue and attempts to analyze the
impact of China's currency policy on the economies of both
countries.
• China became member of WTO in 2006, which gave him access to
foreign market which helped them to grow their
exports from
4.1% in 2001 to 8% in 2006.

• On January 31, 2007, the fair currency bill was introduced in the
us congress. The bill was introduced to allow us industry to seek
relief from damage caused by "imports that benefit from a subsidy
in the form of foreign exchange-rate misalignment.

• Prior to 1870, countries adopted different monetary system such as

bimetallism, gold, silver and inconvertible fiat currencies.

• After 1870, many countries adopted gold convertibility and it was

chosen because of its international recognition and its
characteristics such as divisibility into standardized units and
storability.
 CURRENCY IN CHINA
• In 1940’s the communist took over the control of the government in china
and established people’s bank of china and started issuing Renminbi which
was inconvertible.

• From 1995 to 2005, US exports of metalliferous ores to china increased by

12 times and 9 times of textiles fibres.

• US emphasized exchange rate should be determined by the market forces

as Chinese currency was undervalued.

• In June 2005, Zhou Xiaochuan, governor of public bank of china said

fixed rate helped to maintain china high level of employment, China PM
stated that “there is no hurry to revaluate the country’s currency.”
 CHINA SOFTENS IT’S STANCE
•The Chinese economy advanced 6.0
percent in the September quarter of 2019,
slowing from a 6.2 percent expansion in
the previous quarter.

•It was the weakest growth rate since the

first quarter of 1992.

•Trade tensions with the US, weakening

global demand and alarming off-balance-
sheet borrowings by local governments.

•China's producer price index declined by

0.5 percent year-on-year in December,
following a 1.4 percent drop in the
previous month and compared with market
consensus of a 0.4 percent fall.
 CHINA’S
ALTERNATIVE POLICIES

• Replace the existing exchange

rate policy.

• Focus more on domestic

consumption than exports.

• Start accepting the Yuan for

international transactions.

• Yuan would be pegged to a

basket of currency instead of
the US dollar only
 DETERMINATION OF EXCHANGE
RATES IN FREE MARKETS
• Changes in inflation rates, differences in interest rates, or changes in expected
exchange rates, all of this have impact on current exchange rate in short run.

• The major long-run factors determining exchange rates are: trade policies,
differences in price levels of products in domestic versus foreign countries,
differences in productivity, and preferences for foreign versus domestic products.

• Overall, relatively productive countries, countries with low inflation and higher trade
barriers tend to have a relatively higher value of their currency.

• In this case too if China had let its currency to fluctuate freely, the value of the Yuan
was expected to be much higher since the demand for Chinese products has been
continuously increasing across the world, which puts upward pressure on its
currency.

• The higher value of the Yuan would have lowered China’s exports due to more
expensive international prices of its products
 MANIPULATION OF EXCHANGE
RATES
• The stability of currencies can be essential especially for long-term planning of
countries’ international trade and export-oriented production. This fact is
understandably considered as China’s main aim to peg its currency to the US dollar.

• Central banks ,state banks and the Central Bank of China started manipulating
currency by purchasing U.S. dollars or U.S. denominated financial assets,
especially US Treasury bonds, to keep the demand for the US dollar artificially
high (Figure below explains accumulation of reserves in China versus the US).
Because of these purchases, nearly 60 percent of foreign assets in the Central Bank
of China, which correspond to approximately 1.3 trillion U.S. dollars in 2009, were
issued by the U.S. Treasury.

• For instance, if the rate jumps to 1 Yuan equals 0.25 U.S. dollars, the price of the
same bag will rise to 25 dollars in the U.S. Since Chinese products get more
expensive, the demand for them in the US is expected to drop. This is expected to
lead to less exports of China to the U.S. after the appreciation of the Yuan.
EXHIBIT 1

•This figure shows Chinese yuan

per U.S Dollar

•This figure shows stock of

reserves in China vs US (in US
dollars)
 BENEFITS AND COSTS OF
UNDERVALUED CURRENCY IN CHINA
Benefits :-
• Low production costs, especially the cost of
labor, and increasing efficiency because of Share of China’s export in
enormous amount of public and private GDP in %
investments on fixed capital and
infrastructure.

• As the value of the Yuan remained constant

against US dollar it led to the undervaluation
of Yuan helped to increase its exports
because this policy allowed international
prices of Chinese products to remain
relatively low in global markets.

• The share of its exports in GDP increased

exponentially making china second largest EXHIBIT 2
economy after US leaving behind Japan.
 Cost
• China is heavily dependent on Raw Material and oil for production, after Yuan
undervalued, domestic prices of imported products in China got expensive.
These high prices of imported inputs increased the cost of production as a
result final price of a product rose up. It was main reason for currently rising
inflation in China.

• Another negative impact of an undervalued Yuan on China was excess

accumulation of foreign financial assets to continue to keep the value of the
currency low. As the value of the dollar dropped or interest rates on newly
issued U.S. financial assets increased , the value of China’s financial investment
dropped significantly.

• Another issue was undervalued Yuan caused imbalances throughout the

world. The US was able to borrow in international markets easily because
China was always there to purchase all type of US financial assets to peg the
value of the Yuan to the US dollar. It led to low interest rates in the US for a
long period of time, which increased the risk level significantly
 Benefits and Costs of the undervalued Yuan in US

Benefits
• The biggest benefit to the U.S. is the availability of cheap Chinese products in its
domestic markets, because of which inflation rate remained low in U.S.

• Another benefit of the undervalued Yuan in the U.S. was low domestic interest rates.
because the Central Bank of China was continuously purchasing U.S. dollar denominated
financial assets, especially Treasury bonds, the U.S. government was able to borrow at
lower cost and keep interest rates low.
Cost
• The major negative impact of a manipulated currency was that it caused imbalances in
international markets such as large current account deficit or surplus if it was a dominant
country’s currency. U.S. was one of the most affected one due to imbalances in trade.
• since the trade agreement was signed between China and the U.S. While the share of
imports to the U.S. from China was increasing significantly, the share of U.S. exports in
the world was dropping significantly. Figure below compares the share of China and US
exports in total world exports.
Another major negative effect on the US economy is that US became debt-dependent to China.

The concentration of debt assets in the hand of China puts the U.S. in a weaker position
against China from the U.S. perspective.
The negative impact of low interest rates felt in the U.S. housing market through mortgage
markets as well. The high demand for houses, which had been fed by cheap credits, caused
house prices to increase dramatically in the US market and led to a major bubble. When the
bubble burst, it started to shack all related markets such as subprime mortgage markets.

Share of the US and China’s Exports in World Exports in %

EXHIBIT 3
 OTHER POINT OF VIEW

• The Chinese government maintained that YUAN-US was favorable to

bilateral trade. It rather argued that having trade surplus with US was
not a proof that the currency was undervalued.

• Another argument against a Yuan revaluation was that since the

Chinese Banks were burdened sizable non-performing assets, they
wouldn’t be able to deal effectively with speculative pressures in the
currency exchange market arising from transition to a floating
exchange rate system.

• Many economists believed that the reason behind the growing trade
deficit was not an undervalued YUAN but low savings rate which
made the country reliant on foreign investment.
Now unfolding, the opportunity for India
from US-China trade tension
Escalating trade tensions between the US and China can turn into a blessing in disguise for the

Indian economy. Industry watchers and economists hope the ongoing tussle may slow down the

world’s two biggest economies and channel some overseas investment to India The ongoing tariff

war may also benefit select industries and cap the upside in crude oil prices, which can help ease

the pressure on India’s current account deficit. In an escalation of the standoff, the US on May 10

increased tariff on $250 billion worth of Chinese goods from 10 per cent to 25 per cent.

President Donald Trump also threatened to impose higher tariffs on the remaining $325 billion

Chinese imports in the coming months if China fails to agree on a trade deal China retaliated by

increasing tariffs on $60 billion worth of US imports from 5 per cent to a 5-25 per cent. This
From a de-risking perspective the US companies importing goods from China

could be looking at alternative countries for imports,” says Rusmik Oza, Head of

Fundamental Research, Kotak Securities.

Economists look at both China and India as long-term growth stories. The trade

war will also rattle investors who are looking at China from the emerging markets

pack with a long-term perspective.

Thankyou