The Implications of China’s Exchange-Rate Policy
The actual exchange rate influences open economy policy choices within the countries it affects. They may have detrimental consequences not just on the economy where currencies are over or overvalued but also on other businesses with which it is directly or indirectly linked. In this sense, the exchange rate must stay stable. This finding shows an unfair exporting advantage that harms the EU macroeconomic performance (Alfaro, L., & Ditella, R. 2010). In other words, allowing more market flexibility for China’s currency would likely reduce its surplus in trade between the two areas. This claim is hazardous since the consequences of a rising exchange rate on imports are unclear, given the Chinese market’s peculiarities. Considering China is a factory for re-export, its imports inevitably arise at a comparable pace. This change in policies may be an opportunity for EU nations. They should use their capital-intensive comparative advantage to expand their trade with China.
Exchange Rate Policy in China and Its Development Strategy
Moving to a flexible exchange rate regime usually means removing capital restrictions that prevent people from freely buying and selling foreign exchange. The China government acknowledges capital restrictions since it fears a big private money outflow. A significant capital flight may trigger a Chinese financial crisis, causing the floating currency to devalue rather than rise. China may try to float its currency while retaining capital restrictions. This approach eliminates the risk of currency depreciation due to private capital outflows. While rare, it is conceivable. However, the changing currency would make effective capital restrictions more difficult. To prevent future crises, the current global financial crisis details the need to decrease global savings, development, and trade imbalances, particularly between China and the US.
Many economists believe China should rebalance its economy, reducing its reliance on exports and private investments while increasing domestic consumer demand. According to some experts, China manipulates its currency to obtain unfair economic advantages over its trade agreements. They also claim that China’s depreciated currency has led to huge yearly US-China trade imbalances and substantial mass unemployment in the US, particularly in manufacturing. In February 2010, President Obama said that China’s devalued currency hurt American businesses and promised to confront China’s currency policies.
How Changes in Exchange Rate Policy Impact Growth in China as Well As The Rest of The World
It would be decided by private market players based on the market forces for Chinese products and assets compared to US commodities and assets. If the RMB appreciated, this would help US exports and US manufacturers compete with China. The United States trade imbalance would likely shrink drastically and cause inflation. The Central bank will also stop buying US assets to preserve the peg. Borrowers in the United States, including the legislative branch, would have to find new lenders, increasing interest rates. In light of the current huge US budget imbalance, some experts worry that a rapid decrease in economic recovery for US assets may collapse the US economy (Alfaro & Ditella, 2010). To prevent future crises, the current global financial crisis details the need to decrease global savings, development, and trade imbalances, particularly between China and the US.
The global economic downturn has dampened worldwide demand for Chinese goods. A high level of gross investment spending funded by credit expansion policies is not sustained. It may eventually undermine China’s financial system by increasing non-performing loans, according to the International Finance Corporation, IMF, and some other global economic organizations. They encouraged China to adopt policies that promote private consumption and remove obstacles to markets deciding the most efficient resource allocation to guarantee long-term economic development. Financial sector reform, particularly a market-determined currency exchange system, would certainly be essential in this process.
Reference
Alfaro, L., & Ditella, R. (2010). China: to float or not to float? (A). Harvard School of Business.