Call goes out for revaluation of yuan

By Anna McLauchlin

Date: 07/10/04

THE world's seven richest countries last Friday (1 October) called for a revaluation of the Chinese currency after inviting the Beijing government to its G7 meeting for the first time.

In a statement, ministers and central bankers from the US, Japan, Germany, France, the UK, Italy and Canada said: "We emphasize that more flexibility in exchange rates is desirable for major countries or economic areas that lack such flexibility."

In response, the Chinese delegation, led by Finance Minister Jin Renging, promised to "push ahead firmly and steadily" towards a market-based rate but did not say when or how this might be done.

US Treasury Secretary John Snow has repeatedly called on the Chinese government to float the yuan renminbi, which is pegged at around 8.28 to a dollar.

The US argues that the yuan is undervalued, making Chinese exports more competitive and hurting US producers. America's trade deficit is currently running at around 5.7% of gross domestic product - and about one quarter of it is with China.

Ahead of the meeting, Rodrigo Rato, the director of the International Monetary Fund (IMF), backed the US position, saying that now "is a very good moment" for a currency revaluation. This would give the Chinese greater "capacity to move the currency to respond to economic fundamentals", he added.

But economists are divided on whether China can afford to increase the value of the yuan at this time.

On one hand, some consider that letting the currency appreciate could help to stop China's economy 'overheating'. When this happens the economy grows so quickly that producers are not able to make enough goods to meet rising demand and raise prices instead, leading to severe inflation.

The Chinese government has already attempted to limit this by restricting credit for certain sectors, such as the building and automobile industries, and hiking reserve requirements for banks.

Others argue that making Chinese exports more expensive could threaten jobs in a country that already has a high level of unemployment after a decline in the state-owned sector and reduced trade barriers after it joined the World Trade Organization.

China's banking sector is still tightly controlled, meaning that the Chinese are not free to invest where they like. Banking reform has started but it is likely to take years and economists claim that China cannot risk appreciating its currency until it is complete.

Experts agree that a large appreciation of the yuan would badly rock the economy. "Because of the banking sector risk we do not expect a rise of more than 2-3% and we don't expect it until at least next year," says Nancy Verret, currency strategist at Fortis Bank.

Such a small appreciation would make a very small dent in the US trade deficit.

But Olivier Gasnier, of Société Générale, argues that the US argument is hypocritical. "Many of China's exports are from multinationals which have outsourced to China to re-export from there at attractive prices," he says. "So it's actually an advantage for many US companies."

While revaluation is an economic argument, it is also politically sensitive.

One expert on China told European Voice: "Even if the Chinese were ready to revalue now, they won't do it just because the Americans have told them to. They want to show that they are acting in China's interests, not in the interests of the US."

G7 ministers and central bankers called on China on 1 October 2004 to revaluate its currency.