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Development theory: Who is Who? Part 40 – Andreas Predöhl (1893-1974)
The donor business
Must China revalue?
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Currency turbulence in East Asia
Must China revalue?
By Heribert Dieterr
Once again it can be seen that fluctuating exchange rates throw relations between national economies out of balance. Japan is demanding revaluation of the Chinese renminbi, which is pegged to the US dollar. It could just as well call for the revaluation of the dollar. Revaluation and devaluation of currencies can no longer be the shield behind which really necessary reforms are not undertaken, says Heribert Dieter.
In East Asia five years after the Asian crisis, the exchange rate between the Japanese yen and the Chinese renminbi has become a matter of dispute. The Japanese government has raised serious complaints that ChinaŐs exchange rate policy is endangering Japans overcoming of its now more than 12 years-old economic crisis. In February this year Japanese Finance Minister Masajuro Shiokawa officially called on the Chinese government to cut the renminbiŐs fixed exchange rate to the US dollar. He said that because of the dollars present weakness, the Chinese currency was also very low against the yen. Consequently, Chinese exports enjoyed unfair advantages, which weakened Japan as a location for production and encouraged Japanese manufacturers to produce their goods in China. The undervaluation of the renminbi, he added, was also one of the causes of deflationary trends in East Asia. Taking a closer look at the issue, however, it is very doubtful whether the Japanese demands are justified.
Chinas exchange rate with the US dollar has remained unchanged since 1994. At the present time of a declining dollar this means the value of the renminbi is also falling steadily against the yen or euro. So at the moment it is significantly easier for Chinese companies to compete with rivals in Europe or Japan.
Chinas 1994 devaluation
But the Chinese exchange rate regime cannot be examined exclusively from the perspective of 2003. China decided in 1994 to devalue the renminbi very significantly (by about 50 per cent). That resulted in China being able to play a much stronger role as an exporter on the world market and compete with the other newly industrialised countries in its region. Only three years later, however, China resisted the temptation in the middle of the Asian crisis to secure the competitiveness of its own companies by a further devaluation. During 1997/1998 there was a series of devaluations in Asia that was ended only by China sticking to its exchange rate, which impeded Chinese exports. The Chinese governmentŐs policy made a very important contribution to containing the Asian crisis.
These experiences are significant if one wishes to assess the current problems in East Asia. China also did not question its fixed rate to the dollar in the years following 1998 when the dollars value increased massively against all other currencies. From that point of view, there are no compelling reasons today for the Chinese government to revalue the renminbi. Substantial interests, however, argue against a revaluation: an important motive is that China has very high dollar reserves. Including Hong Kongs holdings they total more than US$ 380 billion. A revaluation of the renminbi against the dollar would markedly lower their value in local currency terms. China can have no interest in that.
The integration of Hong Kong in the Chinese economy is another reason for Beijing sticking to its present exchange rate to the dollar. Hong Kong pegged its currency to the US dollar many years ago, resulting in stable exchange rates vis-a-vis China and facilitating its economic integration. The fixed exchange rate vis-a-vis the dollar also has symbolic value for many people in Hong Kong. Finally, the current weakness of the dollar eliminates the problem of an overvaluation of the Hong Kong dollar.
In addition, since the end of the Asian crisis most countries in Southeast and East Asia have reverted to orientation on the dollar. A Chinese revaluation therefore would weaken the position of the countrys companies in relation to their competitors in Thailand or South Korea.
It is easy for China to defend its currencys exchange rate because it regulates strictly the export and import of capital. So long as China maintains these restrictions, revaluation and devaluation can be steered politically and are not subject to market forces. The comprehensive restraints on movement of capital prevent the Chinese currency becoming a target of speculative attacks.
Japans structural problems.
In Japan by contrast, the central bank has struggled for years against a revaluation of the yen. Japan has for decades posted high current account surpluses. Japan also no longer has any significant restrictions on capital flows. Therefore, great amounts of capital can be and have been exported. Actually, this should have led to a very drastic upvaluation of the yen. But the central bank has been seeking to depress the value of its currency: It buys dollars against yen, whereupon the value of the yen falls. The results are on the one hand a still very low-valued yen, and on the other hand a constant growth of Japanese foreign currency reserves.
These are now huge. JapanŐs reserves last August already totalled more than US$ 456 billion, a growth of $ 150 billion within 30 months. This means that in the last two and a half years the central bank has every month sold yen against dollars worth an average of $ 5 billion, and thus depressed the value of the Japanese currency.
In view of these connections, the Japanese reproach that China is manipulating exchange rates is unjustified. Quite the opposite: the still very rich industrialised country Japan has for years fought the appreciation of its own currency, which actually is to be expected, in order to keep its exports competitive, and is unable to overcome its now 12 years-old economic crisis by means of resolute reforms. The OECD country Japan must help itself and not demand the solving of Japanese problems by China, which is, by and large, still a developing country.
But what can be done in Japan? Basically, three problems must be solved at the same time:
– JapanŐs over-indebted finance sector cannot write off its huge bad debts out of own efforts and needs official help;
– the equally highly-indebted Japanese state needs greater revenues; and
– the deeply worried Japanese consumers must regain their optimism, which in the final analysis is the most important precondition for growth in domestic demand.
Japan needs radical solutions
But this trio of problems cannot be solved with conventional measures. An injection of fresh capital for Japanese banks would lead the government still deeper into the red. A heavy tax increase would be equally unrealistic: it would worsen the crisis and curb domestic demand even more.
Japan is in such a complicated situation that really only radical measures promise success. A one-off levy on savings would be conceivable. Japanese households are hugely prosperous: about US$ 18,000 billion is lodged in savings accounts. Even 10 per cent of that sum would be sufficient to afford the finance sector and public budgets noticeable relief. That would provide the psychologically important fresh start. However, such a step would be a serious intervention whose impacts would be comparable to a currency reform. Japans politicians are not prepared to take either this step or a similarly radical one.
China cannot shoulder JapanŐs economic problems. The Japanese demands for a revaluation of the Chinese currency are absolutely unjustified. Japan has for years attempted to overcome its continuing crisis by an export offensive. That has not been successful so far, and also will not work in future. A revision of the current Japanese policy is necessary. Economic policy in Japan must master the crisis with unconventional approaches. Japan cannot request that developing countries make a substantial contribution to rescuing one of the richest economies in the world.
Dr. Heribert Dieterarbeitet als wissenschaftlicher Mitarbeiter der Stiftung Wissenschaft und Politik, Berlin, in der Forschungsgruppe Globale Fragen. heribert.dieter@swp-berlin.org
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