Consequences of a revaluation of the Yuan

[Kidlicious]

Here's a site that says that the BoC buys dollars.

http://www.kwrintl.com/library/2003/...political.html

Officially, China has a managed floating system, but ever since the Asian financial crisis of 1997, the yuan has remained stable against the dollar, and is virtually pegged to the greenback. If, as is the case now, the yuan's value is set at a level that is too low compared to its actual strength, dollar supply exceeds demand. When monetary authorities absorb excess dollars from the market, the nation's foreign exchange reserves increase as a result. If China were to adopt a floating system and authorities did not intervene at all in currency markets, its foreign exchange reserves would not have grown and the yuan would have appreciated instead.

[DAVOUT]

Originally posted by Kidicious
Here's a site that says that the BoC buys dollars.

http://www.kwrintl.com/library/2003/...political.html

You seem to be mislead by the sentence :

When monetary authorities absorb excess dollars from the market, the nation's foreign exchange reserves increase as a result.

For me, absorb excess dollars does not mean buy dollars; it means that dollars are arriving at the BoC either through the payment of exports or because foreign investors send dollars in order to invest in China.

This interpretation is in line with the first paragraph of the text you quoted :

Led by rising inflow of foreign direct investment and exports, China's balance of payments surplus has widened further following WTO entry in late 2001. As a result, the county's foreign exchange reserves rose by $74.2 billion (equivalent to 6% of GDP) in 2002 to reach $286.4 billion by the end of the year.

Therefore, we can say safely that the increase in $ reserves did not result from the purchase of $ by the BoC.

BTW, this text also confirm that the $ reserves are made of treasuries bonds.

[Kidlicious]

Originally posted by DAVOUT
For me, absorb excess dollars does not mean buy dollars; it means that dollars are arriving at the BoC either through the payment of exports or because foreign investors send dollars in order to invest in China.

Read the sentence just before that ones that says that there is an excess supply of dollars. The BoC has to absorb these dollars to maintain the peg. The exports and foreign investment cause the excess supply of dollars. That's why the BoC must buy dollars to maintain the peg.

Originally posted by DAVOUT
Therefore, we can say safely that the increase in $ reserves did not result from the purchase of $ by the BoC.

The key word is 'led.' Yes the whole reason that the BoC needs to buy dollars is because of their exports to the US and the investments that the US makes in China. These two things lead the BoC to buy dollars.

Context. Context. Context.

[DAVOUT]

Originally posted by Kidicious

Yes the whole reason that the BoC needs to buy dollars is because of their exports to the US and the investments that the US makes in China. These two things lead the BoC to buy dollars.

Context. Context. Context.

Sorry, I cant follow you on this one. Contrary to what you state, the whole reason that the BoC needs not to buy dollars is because of their exports to the US (and to almost all other countries since 98% of their foreign trade is in US$) and the investments that the US (and all other countries) makes in China : the dollars are going directly in the BoC which gives Yuans to the owner of the dollars. This is how works a foreign exchange control : all foreign currencies are confiscated by the central bank.

You are misunderstanding the whole process : what the Chinese are buying are US treasury bonds, they need not to buy dollards, they have plenty of them.

[Tingkai]

Originally posted by Kidicious
Read the sentence just before that ones that says that there is an excess supply of dollars. The BoC has to absorb these dollars to maintain the peg. The exports and foreign investment cause the excess supply of dollars. That's why the BoC must buy dollars to maintain the peg.

You keep saying that, even though we have clearly shown that the BoC does not need to buy US$ to maintain the peg.

If you want to convince us that what you say is true, then explain how you think it works. Start with, people want to sell more US dollars and buy more rmbs. Explain how this results in a situation where the BoC must buy dollars to maintain the peg.

Of course, you won't because you can't show the step, because your theory is incorrect.

I'll try to explain this to you one last time.

First off, there is no real excess supply of US dollars. The person who wrote that article is using poor terminology.

The demand for RMBs comes from people selling US dollars, euros, yens, HK dollars, Cdn dollars, whatever.

So what the author should have written is that the demand to buy RMB exceeds the demand for to sell RMB. That's because China has a trade surplus.

Now, get a pen and paper, then draw a standard supply-demand curve. The vertical axis is the rmb/US$ exchange rate. The horizontal axis is the money supply of RMB.

The RMB is pegged so the supply curve is a horizontal line at 8.28rmb.

Now add a standard demand curve. Let's say there is a change of demand. The demand curve shifts right. People are willing to buy more RMB at the price of 8.28.

The BoC can increase the supply of RMB to meet this demand shift (thereby buying more US dollars), but it doesn't have to.

If the BoC does not increase the supply of RMB then we are just left with an unfulfilled demand gap. That's all. The amount of rmbs it sells, and the amount of US$ it buys does not change. The excess demand for rmb has no effect on the official exchange rate.

So the BoC does not NEED to buy higher volumes of US dollars.

(edit: added "not" to the last line.)

[Tingkai]

Originally posted by DAVOUT
The holdings as you said are reported in US $ by the BoC (except gold), but the foreign exchange transactions in US$ amount to 98% of the total, the remaining being shared about equally between HKD and JPY (and € 0.1%). That is not enough to build huge stockpiles of € or JPY without serious arbitraging against the US$.

Sure, monthly transaction may well be dominated by US dollars.

I did a google search and results show the exact composition of China's foreign reserves is a state secret.

But several articles claim about 40-50% of China's reserves are in Euros and Yen.

The Chinese government has said in 2002 it has US$120 in treasury bonds with the rest in non-US currencies, according to an AFX story (link below). That would have been about half of the reserves at the time in US bonds.

http://news.tradingcharts.com/futures/6/4/38930646.html

[DAVOUT]

There are mainly assumptions, some of them questionnable : the arbitraging progressively of a few tens of billions $ against € cannot seriously weaken the $. But I am convince that any move in this area will be extremely cautious.

After all, the economies of the US, Europe and Japan, are by far the biggest; no wonder that a central bank wants to have some of each currency in its reserves.

[Kidlicious]

Originally posted by DAVOUT


Sorry, I cant follow you on this one. Contrary to what you state, the whole reason that the BoC needs not to buy dollars is because of their exports to the US (and to almost all other countries since 98% of their foreign trade is in US$) and the investments that the US (and all other countries) makes in China : the dollars are going directly in the BoC which gives Yuans to the owner of the dollars. This is how works a foreign exchange control : all foreign currencies are confiscated by the central bank.

The exports make their currency stronger compared to the dollar. Do you see that?

Originally posted by DAVOUT
You are misunderstanding the whole process : what the Chinese are buying are US treasury bonds, they need not to buy dollards, they have plenty of them.

I didn't say they particularly want the dollars. They are forced to accept them if they want the peg though.

[Kidlicious]

Originally posted by Tingkai
You keep saying that, even though we have clearly shown that the BoC does not need to buy US$ to maintain the peg.

You haven't done that in the lease. Futhermore the Japanese and US govts agree with me. You have the burden of proof and haven't made any progress yet in proving anything or even giving any evidence at all. You argument in completely illogical.

Originally posted by Tingkai
If you want to convince us that what you say is true, then explain how you think it works. Start with, people want to sell more US dollars and buy more rmbs. Explain how this results in a situation where the BoC must buy dollars to maintain the peg.

People want to sell dollars because they don't need them. The BoC does need them if they want to maintain the peg. There is simply no possible way the BoC could maintain the peg when there are dollars out there that no one will buy. People need the rmb for the same reason they need any other currency, to make international transactions.

When the dollar weakens the BoC must buy them up to maintain the peg. The dollar weakens in part because of the US imports from China and elsewhere.

Originally posted by Tingkai
First off, there is no real excess supply of US dollars. The person who wrote that article is using poor terminology.

No, because the BoC (and other central banks) buys dollars until the dollar/yuan exchange rate stablizes.

Originally posted by Tingkai
The demand for RMBs comes from people selling US dollars, euros, yens, HK dollars, Cdn dollars, whatever.

Partly yes. That is exactly why the BoC must buy dollars. There is continually more dollars than people need or want. The peg can not be maintain under such a situation.

Originally posted by Tingkai
So what the author should have written is that the demand to buy RMB exceeds the demand for to sell RMB. That's because China has a trade surplus.

Again. That is exactly why the BoC must continually buy dollars.

Originally posted by Tingkai
Now, get a pen and paper, then draw a standard supply-demand curve. The vertical axis is the rmb/US$ exchange rate. The horizontal axis is the money supply of RMB.

The RMB is pegged so the supply curve is a horizontal line at 8.28rmb.

Now add a standard demand curve. Let's say there is a change of demand. The demand curve shifts right. People are willing to buy more RMB at the price of 8.28.

The BoC can increase the supply of RMB to meet this demand shift (thereby buying more US dollars), but it doesn't have to.

If the BoC does not increase the supply of RMB then we are just left with an unfulfilled demand gap. That's all. The amount of rmbs it sells, and the amount of US$ it buys does not change. The excess demand for rmb has no effect on the official exchange rate.

So the BoC does not NEED to buy higher volumes of US dollars.

(edit: added "not" to the last line.)

Oh you are very confused. First off I think it's clearer to look at it from the supply and demand for dollars since it is the rmd that is pegged to the dollar.

The US has an negative and increasing trade ballance. That coupled with the fact that there is less investment demand in the US as there used to be means that there is an increase in supply of the dollar. This means that the dollar/rbm exchange rate falls. The BoC has to buy up dollars to keep the peg. That, if you like the graphs, shifts demand to maintain the pegged exchange rate.

[DAVOUT]

Kid,
I am desparate. Since the beginning you claim that the BoC is buying dollars and you are unable to tell with what they pay those dollars.

The peg is nothing more than an unilateral decision that the dollar is worth 8.28 Yuans; this decision is completed by a strict foreign exchange control.
As 98% of the goods sold abroad a billed in US$, the Chinese companies receive paiement of their bills in US $. This dollars are compulsorily deposited to the BoC against Yuans at the rate of 8.28.
In this way, the BoC has dollars that have not been bought on the market, and the peg which is nothing more than an arbitrary decision has not to be maintain. China can decide whenever it wants to change the rate to 9.2 or 7.8, but there is no natural law regarding the peg, as well as there is no market for the Yuan.

Please let me know if you have a definition of the peg different from mine.

[Kidlicious]

Originally posted by DAVOUT
Kid,
I am desparate. Since the beginning you claim that the BoC is buying dollars and you are unable to tell with what they pay those dollars.

The peg is nothing more than an unilateral decision that the dollar is worth 8.28 Yuans; this decision is completed by a strict foreign exchange control.
As 98% of the goods sold abroad a billed in US$, the Chinese companies receive paiement of their bills in US $. This dollars are compulsorily deposited to the BoC against Yuans at the rate of 8.28.
In this way, the BoC has dollars that have not been bought on the market, and the peg which is nothing more than an arbitrary decision has not to be maintain. China can decide whenever it wants to change the rate to 9.2 or 7.8, but there is no natural law regarding the peg, as well as there is no market for the Yuan.



Please let me know if you have a definition of the peg different from mine.

Yes I do. The peg is not just a decision that the BoC makes. They have to maintain the fixed exchange rate by trading on the forex. Since the yuan gets stronger than the dollar they have to buy dollars on the forex. As I have also said, the best currency to buy those dollars with is their own. If they use other currency it will cost them more.

[Kidlicious]

Let me type right out of my textbook. This is from the chapter on international finance.

The market demand for a currency originates from three things.

-foreign demand for that countries exports
-foreign demand for investment in that country
-speculation

The supply of a currency originates from three things.

-that countries demand for imports
-that countries foreign investments
-speculation

Now compare the yuan and the dollar with these determinants of their exchange rates. See that the yuan would naturally get stronger than the dollar. But it doesn't because the BoC buys dollars to beg their currency to the dollar.

There. I've spelled it out. That's all.

[DAVOUT]

Originally posted by Kidicious


Yes I do. The peg is not just a decision that the BoC makes. They have to maintain the fixed exchange rate by trading on the forex. Since the yuan gets stronger than the dollar they have to buy dollars on the forex. As I have also said, the best currency to buy those dollars with is their own. If they use other currency it will cost them more.

You repeat endlessly the same affirmation without reference or demonstration. There is no legal use of the Yuan outside China, it can not be used on the Forex or on any other market. Your theory is wrong from A to Z because it is not compatible with the fix rate, and would it be that the purchase of $ on the forex against a smaller number of Yuans than before (since the Yuan would be stronger) could hardly reduce the strengh of the Yuan.

[DAVOUT]

Originally posted by Kidicious
Let me type right out of my textbook. This is from the chapter on international finance.

The market demand for a currency originates from three things.

-foreign demand for that countries exports
-foreign demand for investment in that country
-speculation

The supply of a currency originates from three things.

-that countries demand for imports
-that countries foreign investments
-speculation

Now compare the yuan and the dollar with these determinants of their exchange rates. See that the yuan would naturally get stronger than the dollar. But it doesn't because the BoC buys dollars to beg their currency to the dollar.

There. I've spelled it out. That's all.

Nice theory.

But it does not match the reality by one detail : the Chineses decided that there will be NO MARKET for the Yuan; internal use only. And they will adjust the fix rate when they will find it convenient for them.

[Kidlicious]

Originally posted by DAVOUT


Nice theory.

But it does not match the reality by one detail : the Chineses decided that there will be NO MARKET for the Yuan; internal use only. And they will adjust the fix rate when they will find it convenient for them.

They have no power to do that.