Sceptics await more policy shifts in China

(News Today) - For a move that had been so long lobbied for and agonised over, China's announcement at the weekend that it would allow some flexibility back into the value of its currency was greeted by economists with grudging optimism rather than yelps of glee.

Few think the move will have a dramatic impact on the world economy -- specifically on the huge global imbalances seen before the financial crisis, which are threatening to reappear.

Partly, they say, this is because of its limited size. The renminbi offshore forwards market on Monday was predicting an appreciation of just 2.3 per cent by the end of the year. At that rate, very roughly speaking and holding other things equal, it would take China more than a decade to eliminate the currency's overvaluation, estimated to be in the range of 25-40 per.

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But the caution is partly because most economists regard an exchange rate move as a helpful but not sufficient -- and perhaps not strictly necessary -- part of shifting consumer demand from the US to Asia.

The previous episode of renminbi flexibility, from 2005-2008, was accompanied by a soaring Chinese current account surplus. A consumption boom in the US and companies moving production to China more than offset the moderate loss in competitiveness.

For this to be truly good news, they say, it must be part of a multi-pronged policy offensive to reorient the economy away from export-led growth and towards domestic consumption.

In fully liberal market economies, holding down the exchange rate tends to deliver only temporary gains in competitiveness before the economy overheats and rising wage and price inflation push up the real exchange rate.

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But Yiping Huang, economics professor at the China Centre for Economic Research, Peking University, argues that heavily regulated and directed capital markets, subsidised energy for industry and discrimination against migrant workers all hold down costs and wages, preventing the normal process of inflation eroding China's competitiveness. They, too, need reform.

"Addressing this problem will require a comprehensive policy package," he wrote in a recent paper for the Vox-EU policy website. "An exclusive focus on the value of the bilateral exchange rate could be counter-productive."

China's defenders say this is happening. Ardo Hansson, World Bank's lead economist for China, says: "There is a whole bucket of policies that are appropriate for rebalancing, including pensions, education, healthcare, access to finance, services reform, land reform and urbanisation. In each of these areas, things are generally moving in the right direction."

The World Bank predicts China's current account surplus, 11 per cent of gross domestic product in 2008, will fall to 4.7 per cent of GDP this year and next.

China's exports have recovered strongly -- in the first five months of 2010 they were 10 per cent above the level in the same period in 2008, before the financial crisis. Given that global imports are still below pre-crisis levels, that indicates Chinese exporters have continued to gain market share. But the trade surplus has declined due to surging import volumes and deteriorating terms of trade.

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ChartGovernment-led infrastructure has been responsible for some imports, but some observers believe domestic consumer demand is playing a role. "There are many things happening in China which are much faster than our friends outside China realise, including structural change," says Li Daokui, a Tsinghua professor and member of the central bank's monetary policy committee. "Private consumption is growing very fast, driving up domestic demand."

There are other countries in the world apart from the US and China. Arvind Subramanian at the Peterson Institute in Washington says one set of beneficiaries will be emerging markets in east Asia and Latin America. Many have held down their currencies to prevent a loss of competitiveness to China, and have suffered rapid and destabilising capital inflows.

"All across Asia, countries have had to deal with the real problem of overheating," Mr Subramanian says. "At the margin, this [revaluation] will help them cope better."

But as for China's critics, particularly in the US, they will need to see a much faster move in the renminbi, or a more effective set of rebalancing policies, before they are convinced that this change is anything but a small gesture.

Source : CNN

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