Revaluing Yuan Won't Cure Trade Deficit

Daniel Ikenson National Review March 18, 2010

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Many economists, citing China’s approximately $2.4 trillion of accumulated foreign reserves, believe that the renminbi (“the people’s currency,” denominated as the yuan) is in fact undervalued. They disagree about the magnitude of the undervaluation, and there is a good reason for that. Nobody can know the true value of any currency unless that currency floats freely and there are no restrictions on capital flows. Unless China permits those things to happen, economists can only continue to produce their widely varying estimates of the renminbi’s undervaluation.It’s true that no matter what China does about its currency, many in Washington will argue that the renminbi is undervalued as long as U.S. imports from China exceed U.S. exports to China. But will renminbi appreciation have the intended effect of reducing the bilateral trade deficit? The empirical evidence says it won’t.Between July 2005 and July 2008, the renminbi appreciated by 21 percent against the dollar. The bilateral trade deficit increased from $202 billion in 2005 to $268 billion in 2008. U.S. exports to China did increase, as expected — and by a healthy $28.4 billion, or 69.3 percent. But the proportion of that increase ascribable to renminbi appreciation is very much debatable.U.S. exports to China were already on an upward trajectory. They had increased by $19.1 billion during the previous three-year period, when the yuan was pegged at 8.28 per dollar. The increase in the latter period could be attributable to natural sales growth from the market penetration and cultivation that were already evident. Furthermore, in 2007 and 2008, when renminbi appreciation was strongest (at 4.7 percent and 9.5 percent, respectively), the annual increases in U.S. exports to China were progressively smaller.On the import side, the evidence is not compelling that an appreciating renminbi deters U.S. consumption of Chinese goods. As the renminbi was growing stronger between 2005 and 2008, U.S. imports from China increased by $94.3 billion, or 38.7 percent. Not only did Americans demonstrate strong price inelasticity, but they actually increased their purchases of Chinese imports, in seeming defiance of the law of demand. 1 | 2 | Next >

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Revaluing Yuan Won't Cure Trade Deficit

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