Chinese Central Bank governor Zhou Xiaochuan announced the Chinese yuan will be kept at an appropriate level and no new strategy has been adopted, signaling a continuation of the current strategy. The yuan has been allowed to appreciate 21% against the U.S. dollar since the end of its peg in July 2005. However, the Central Bank has halted any gains since July 2008 signaling a de-facto return to the fixed currency regime.
This has not been lost on U.S. officials as Treasury Secretary Timothy Geithner last month called China a “currency manipulator”, a term not lobbed at the Chinese in the last four years.
Our comment: While the intention of China is to rejuvenate its slowing export market by providing traders with a stable currency, U.S. officials are afraid a return of a pegged yuan will hinder their attempts to rejuvenate their own economy. This can have potentially damaging affects to the U.S. economy as any movement in the dollar will be met with a synchronized movement in the yuan, reducing forex risk to Chinese traders but also limiting any reduction in the U.S. balance of payments. Under normal circumstances, a self stabilizing mechanism exists between a nation’s currency and balance of payments. If the volume of imports is significantly higher than exports, the supply of the country’s currency will be higher than normal thus reducing the value of its currency and making imports more expensive, correcting the initial problem. The reverse is also true for a nation with high exports. However, with the return of the yuan peg, this mechanism will no longer effectively work for China or the United States.
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