CIAO DATE: 09/2010
August 2010
Peterson Institute for International Economics
On June 21, 2010, in the run-up to the G-20 meeting in Toronto, China announced that it would shift to a more flexible exchange rate policy. From mid-June to July 30 the yuan rose 0.8 percent against the dollar. In contrast, the currency had remained fixed (at about 6.83 yuan to the dollar) from September 2008 to early June 2010. Pressure not only from the United States and the European Union but also from Russia, Brazil, and India as well as the IMF seems likely to have played a role in China’s decision, although concerns about domestic inflation may also have been a factor. An undervalued renminbi is widely considered to have contributed to large Chinese current account surpluses in recent years and, correspondingly, to large US current account deficits. China had previously moved in mid-2005 to allow its exchange rate to appreciate, and from June 2005 to August 2008 the currency rose by 18.6 percent in real effective (tradeweighted) terms (IMF 2010a). But then the intensification of the financial crisis in the United States prompted Chinese authorities to freeze the currency against the dollar once again, in pursuit of greater stability in the face of greater international uncertainty. Nonetheless, the safe-haven effect boosted the dollar and hence pushed up the renminbi still further, and when the dollar peaked in March 2009 the real effective exchange rate of the renminbi stood 25.8 percent above its June 2005 level. It is shown in this policy brief that this strong increase contributed importantly to the reduction of China’s current account surplus from its peak of 11 percent of GDP in 2007 to less than 6 percent by 2009 (although the global recession also influenced the 2009 outcome).
Resource link: Renminbi Undervaluation, China's Surplus, and the US Trade Deficit [PDF] - 299K