Roubini: Bah Humbug on Refloating the Yuan

♠ Posted by Emmanuel in at 6/19/2010 10:09:00 PM
Much has been made of the announcement on the People's Bank of China website that it would "enhance the RMB exchange rate flexibility." Since July of 2008, the renminbi has been pegged at 6.83 to the dollar. However, the PBoC is now indicating that the time is right for moving away from this peg. Here are the key parts of the text:
In view of the recent economic situation and financial market developments at home and abroad, and the balance of payments (BOP) situation in China, the People´s Bank of China has decided to proceed further with reform of the RMB exchange rate regime and to enhance the RMB exchange rate flexibility...

The global economy is gradually recovering. The recovery and upturn of the Chinese economy has become more solid with the enhanced economic stability. It is desirable to proceed further with reform of the RMB exchange rate regime and increase the RMB exchange rate flexibility.

In further proceeding with reform of the RMB exchange rate regime, continued emphasis would be placed to reflecting market supply and demand with reference to a basket of currencies. The exchange rate floating bands will remain the same as previously announced in the inter-bank foreign exchange market.

China´s external trade is steadily becoming more balanced. The ratio of current account surplus to GDP, after a notable reduction in 2009, has been declining since the beginning of 2010. With the BOP account moving closer to equilibrium, the basis for large-scale appreciation of the RMB exchange rate does not exist. The People´s Bank of China will further enable market to play a fundamental role in resource allocation, promote a more balanced BOP account, maintain the RMB exchange rate basically stable at an adaptive and equilibrium level, and achieve the macroeconomic and financial stability in China.
That's all well and good. Do consider:
  • They've made similar noises in the past about moving prior to major international summits like the upcoming Vancouver G20 gathering, but did not follow through;
  • As you can read from above, those expecting a big move will be disappointed since (a) the daily trading band has not been widened and (b) the PBoC is citing China's narrowing external surplus as evidence that major currency appreciation is unwarranted.
Now, Nouriel Roubini suggests that "flexibility" may not satisfy the American China bashers since RMB too can weaken instead of strengthen given that the dollar is only of many currencies in the (unidentified) basket China uses as reference for its managed float. Given that the euro has fallen quite a lot in nominal terms since July 2008, the yuan may actually depreciate once currency movements since then are factored in. What's more, only expect a 3-4% revaluation over the next year, he says. Not much, if at all, to satisfy the China Currency Coalition crowd:
China's decision to move away from its currency peg might mean the yuan weakens against the dollar instead of strengthens as Washington wants, Nouriel Roubini, one of Wall Street's most closely followed economists, said on Saturday..."This is the first significant signal in years of a change in Chinese currency policy," Roubini, best known for having predicted the U.S. housing meltdown, told Reuters.

But it remains to be seen how China would put the new system into practice including the composition of a basket of currencies that Beijing will use as a reference point for the yuan -- also known as the renminbi -- and the base date for that basket, he said in an e-mail. "Since they have not changed the previous range for the band -- plus or minus 0.5 percent -- most likely on Monday China will allow the renminbi vs U.S. dollar to move," said Roubini.

The yuan has risen sharply in recent months against the euro, which sank over Europe's debt problems, so a stronger yuan could not be taken for granted, he said. If the euro were to continue to depreciate, "the renminbi would have to be allowed to depreciate relative to the dollar, a paradoxical outcome," Roubini said.

His comments echoed those of an adviser to China's central bank on Saturday. Li Daokui, an academic adviser to the monetary policy committee of the People's Bank of China, told Reuters in Beijing that the yuan could depreciate against the dollar if the euro falls sharply against the U.S. currency.

Roubini, like other analysts, said a major strengthening of the yuan looked unlikely. "Even if the Chinese were to allow a gradual renminbi appreciation relative to the U.S. dollar, the size of such appreciation would be modest over the next year, not more than 3 or 4 percent as the trade surplus has shrunk, growth is likely to slow down on China and labor/employment unrest remains of concern to the Chinese."
Ho hum, the more things change, the more things stay the same. You buying what the Chinese are saying, Chucky?

UPDATE: Reuters has a nifty article depicting a range of opinions on how far and how fast yuan appreciation will be. Also, US Treasury yields may increase in the coming week given that there is some precedent for them doing so in the aftermath of PRC exchange rate moves.