(June 11, 2016) I recently visited Algeria and Morocco. Like so many other developing countries, they are dealing with the sharp decline in global commodity prices that has taken place over the last few years. In meetings in Algiers and Casablanca, I offered four concrete ideas for policies to help commodity-exporting countries deal with global price volatility.
During the course of 2008, however, weight began to return to the dollar. My newly updated estimates show that during the most recent period, September 2008-February 2009, all the weight has once again fallen on the US currency. The regime has come full circle, virtually back to what it was in late 2005. At first glance, this sounds like news to get the juices of US Congressmen flowing.It sounds as though it might confirm recent complaints that the RMB has stopped its earlier slow-but-steady, appreciation against the dollar.Is it time to dust off the Schumer-Graham bill, which threatened tariffs against China’s exports if it did not stop “unfair manipulation” of its currency?
In fact, these results imply something quite different, almost the opposite.American politicians don’t really care whether the RMB is fixed or floating.What they want, of course, is for it to be stronger against the dollar rather than weaker, so that American firms have an easier time competing against Chinese exports.In 2007, when the RMB was loosely tied to a basket that put heavy weight on the euro, it appreciated against the dollar because the euro was appreciating against the dollar.Indeed from mid-2006 to the end of 2007, the overall value of the RMB did not in any month fluctuate outside a band of plus-or-minus 1%, if one defines the value in terms of a yardstick that assigns half-weight to the euro and half-weight to the dollar. The graph below shows the foreign exchange value of the RMB, in terms of three different measures. One can see around 2007: (i) the steadiness of the currency measured in terms of a euro+dollar average (the green line in the middle), and (ii) the resulting observed appreciation of the yuan against the dollar (the magenta line on top). The appreciation was apparently due to the presence of the euro in the basket, and not in fact to appreciation against the basket as usually implied in the press.
De facto regime of RMB: 100% weight on $ ↓Some weight on won↓½ weight on $ + ½ on € ↓ ↓100% weight on $
The recent link to the dollar is visible in the flattening of the magneta line at the end. What has been the implication of the movement back toward a dollar peg over the last year? It has been to strengthen the RMB above what it would be if Beijing had stuck with the regime of 2007. Why? Because over the last year, the dollar has appreciated strongly against the euro. If the RMB had stuck with the basket peg in 2008 and 2009, it would have depreciated against the dollar (because the euro depreciated) by an estimated 14%. This would have been the opposite of what congressmen really want!
The possibility that some Gulf states, particularly the United Arab Emirates, might abandon their long-time pegs to the dollar has been getting increasing attention recently (for example, from Feldstein and, especially, Setser). It makes sense. The combination of high oil prices, rapid growth, a tightly fixed exchange rate, and the big depreciation of the dollar against other currencies (especially the euro, important for Gulf imports) was always going to be a recipe for strong money inflows and inflation in these countries. The economic dynamism — most striking in Dubai — is admirable and fascinating as a longer term phenomenon, but also now clearly shows signs of overheating. Indeed inflation has risen alarmingly, as predicted. Among other ill effects, it is producing unrest among immigrant workers. An appreciation of the dirham and riyal is the obvious solution.