The Telegraph
Since 1st March, 1999
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Regardless of what trading partners want, China is unlikely to change its exchange rate mechanism soon. Since 1994, the Chinese currency has been pegged to the US dollar in a band between 8.2760 and 8.2800 yuan, with central bank intervention used to ensure adherence to the band. The Hong Kong dollar is now also pegged in the same fashion. During the east Asian currency crisis of 1997, the dollar peg was not discarded, and this suited east Asian economies, as Chinese devaluation would have rendered export recovery difficult. Arguments about yuan under-valuation precede recent weakening of the dollar. Trading partners like the United States of America and Japan have complained about under-valuation contributing to distorted trade (or current) account surpluses. This has been compounded by recent dollar-weakening, since several currencies have appreciated against the US dollar, the yuan and the Hong Kong dollar. It is impossible to determine a priori the extent to which the yuan is under-valued. The purchasing power parity type estimates of under-valuation range between 15 per cent and a high of 40 per cent. Arguments that China should abandon the dollar peg in its managed float and move to a currency basket instead surface not only outside the country but also within it. Gross domestic product growth was 8 per cent in 2002, inflation is under control and the current account balance has improved.

Chinese economists have also been arguing for a switch. Even if the yuan appreciates against the US dollar, Chinese competitiveness and exports will not be affected, since competing currencies have also similarly appreciated. So runs the argument. However, Chinese policy-makers are unlikely to listen. First, there was the matter of World Trade Organization accession, and consequent structural adjustments are yet incomplete. Second, there was the party congress, and major decisions could not be taken before it. Third, there is the paranoia about non-performing assets in banks and a potential financial crisis. China’s central bank therefore makes a virtue out of currency stability, not just for China, but for the entire region. Stated differently, there are no immediate compulsions to reform the exchange rate regime. Like other trading partners, should India worry about the rupee appreciating vis-à-vis the yuan' Yes and no. With global prices softening, competitiveness of exports like steel to China will obviously be adversely affected, as will exports to third countries when China is the major competitor. However, the rupee has depreciated vis-à-vis other competing currencies and the 18 per cent plus dollar growth in 2002-03 suggests Indian exports have become less price-elastic. Worry should not therefore become paranoia. The 12 per cent target export growth for 2003-04 may not be attained. But the yuan will be a small piece in that failure.

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