renminbi | Jeffrey Frankel's Blog

The current visit of Secretary Tim Geithner to Beijing once again shines the spotlight on the Renminbi (RMB) and on demands by US politicians that the People’s Bank of China (the country’s central bank) abandon the peg to the dollar.

Throughout the period 2003-2008, I, as some others, have thought that demands from American politicians of both parties that China loosen the dollar link have been misguided in a number of particulars. They were misguided in thinking that an appreciation of the RMB would, alone, do much to boost US output or employment. The demands were especially misguided in putting such high priority on the entire exchange rate issue, given that we need China’s help on more important things, such as preventing a nuclear-armed North Korea. But my arguments during this period might reasonably have been viewed by non-wonks as quibbles. After all, I did agree, along with a majority of other economists, that an increase in the flexibility of China’s exchange rate would be a good thing. read more

In July 2005, the Chinese government announced that it was changing its official exchange rate regime.As American politicians had been demanding, the yuan or renminbi would no longer be pegged to the dollar.Rather the authorities would:

(1) set its value with reference to a basket of foreign currencies (with numerical weights unannounced), and
(2) allow a margin of fluctuation in the exchange rate that, though small in any given day, could cumulate substantially over time.
What has the actual or de facto exchange rate regime been, as opposed to the official or de jure announcement?It would not be surprising if the two differed. Many currencies show such a discrepancy between de jure and de facto.Accordingly, statistical techniques were developed some years ago to discern the true exchange rate regime.

The standard techniques show that, in practice, the RMB initially continued to maintain a tight peg to the dollar after July 2005. Gradually, in 2006, the relationship loosened.Statistical analysis suggests that the People’s Bank of China did indeed begin to assign a little weight within the anchor basket to a few non-dollar currencies, beginning with the Korean won during a period centered on January-March 2007. However most of the weight remained on the dollar. [Frankel & Wei, in Economic Policy.]

The use of a new, more sophisticated, statistical equation reveals that during the course of 2007 the anchoring basket began for the first time to assign substantial weight to the euro. For a period that ran up to approximately May 2008, the anchor was a true basket that put virtually as much weight on the euro as on the dollar. There was also some limited flexibility around that anchor. When high or low international flows were working to push the currency away from the basket, the authorities would intervene, or “lean against the wind,” to push the currency back. [Frankel, 2009, forthcoming in Pacific Economic Review.])

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 $

FIGURE: FOREIGN EXCHANGE VALUE OF THE RMB, MEASURED IN TERMS OF 3 ALTERNATIVE NUMERAIRES

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! read more

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Tag Archives: renminbi

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