China and managing the Renminbi
China world like to see its currency, the renminbi, become one of the top currencies in the world…if not the top one.
And, if its currency became one of the top currencies in the world, China would also find its central bank, the People’s Bank of China, becoming a major force in world markets, not unlike the Federal Reserve System of the United States, which is now as much the world's can entral bank, as it ever will be.
However, China is finding out that achieving this goal is not that easy.
Over the past few years, the value of the renminbi in foreign exchange markets has been relatively volatile. Since July 6 through August 15, the value of the renminbi fell by almost 7 percent against the dollar. This was quite a substantial fall given the attention that the Chinese pay to the value of their currency.
On Friday, the People’s Bank of China stepped in and modified its approach to the management of the currency in order to prevent capital leaving the country and to blunt the criticism coming from the United States accusing China of weakening its currency in order to spur on its exports in the face of tariffs being imposed on Chinese goods.
With one dollar dropping to 6.93 renminbi on August 15, and with 7.0 renminbi to the dollar being considered to be a "psychological barrier", the PBOC moved to try and prevent further disequilibrium in the markets.
In addition, the Chinese have further problems: “With the Chinese economy cooling and everything from factory investment to retail sales flagging, authorities have been easing credit and encouraging more spending to prop up growth—conditions that are weakening the currency.”
Here we see one of the major problems that central bankers face in attempting to manage their economy and maintain the stability and credibility of their currency.
It is just that much harder to achieve world-class status when the leadership of the country has so many irons in the fire.
But, the Chinese are moving ahead in other areas and given that their focus is more on longer-term success than just short-run victories, we can expect that they will not give up the battle.
Like Europe, the Chinese economy is in a position different from that of the United States. Both Europe and China find themselves in a position where their central banks’ cannot raise interest rates. On the other hand, the United States has been raising short-term interest rates for a couple of years now…and plans to continue doing so for the near future.
As a consequence, the currencies of Europe and China have suffered relative to the US dollar, creating the current situation.
And, as I wrote last week, “Donald Trump appears to be ‘reveling in the strong dollar’ and its ability to bring pressure on his foes.”
But, this position, like many of the positions taken by Mr. Trump, is inconsistent with the situation he is really trying to achieve.
The current situation between the Euro, the renminbi, and the dollar is just a matter of circumstance. It was not achieved intentionally by any of the countries involved.
Donald Trump actually is in favor of a weak US dollar and has said so since the beginning of his term as US president. As is well known, Mr. Trump has criticized the Federal Reserve for raising its policy rate of interest. And, Mr. Trump oversaw the passage of a tax-reform package in December 2017 aimed at stimulating faster economic growth. Furthermore, the budget packages passed in Mr. Trump’s reign have substantially increased the debt that will be created by the US government over the next ten years or so.
In all of this, Mr. Trump and his administration seem to be out-of-step with the Federal Reserve System and its current Chairman, Jerome Powell. Mr. Powell has carefully laid out his pragmatic approach to the execution of monetary policy in his opening remarks at the current Federal Reserve conference being held in Jackson Hole, Wyoming.
The question here becomes one of how long can the US central bank hold out against the pressures Mr. Trump and the Republican-led Congress are placing on the economy. Right now the US economy is rising at a modest, albeit more rapid, pace and inflation continues to remain within the limits the Federal Reserve would like to sustain. Yet, how long will this situation be maintained?
As for the Chinese, their issue is also connected with the programs committed to achieving high rates of growth and to the fact that much of their efforts lead to more and more debt, which also places pressure on the PBOC to support the effort by monetizing the debt. And, this will continue to result in a weaker value of the renminbi.
In this battle, it seems as if the Chinese currency is more on the edge. If the value of 7 renminbi to the dollar is a “psychological barrier” then the PBOC and the Chinese government have some real work to do to keep the market under control. Certainly, an outflow of capital would not be desirable.
And, certainly, the Chinese government would not like to give Mr. Trump any more ammunition in his trade war.
Furthermore, there is the longer-term issue of the place of the renminbi in the world…in the Chinese currency becoming a top reserve currency. This goal seems to be a major objective of the Chinese leadership along with the increasing status of the PBOC.
But, these goals can only be achieved if the Chinese establish control over their credit creation and produce fiscal discipline within their government budgeting. The Chinese government cannot constantly be pushing for high economic growth rates.
Getting control of the value of their currency but controlling credit inflation and through fiscal discipline would also strengthen the position of the Chinese against Mr. Trump.
Hopefully, the recent moves by the PBOC to stabilize the value of the renminbi will be a first step in this process. More will have to be done. Achieving a strong currency is not an easy thing to do. However, I believe that the Chinese have the ability to produce this strong currency…and, the strong economy to back it.