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China: to Float or Not to Float

In: Business and Management

Submitted By misterjosef
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China: To Float or Not To Float?
International Finance

1 - What are the implications of China’s exchange rate policy on doing business with and “against” China?

For years, China’s currency was undervalued. Many analysts and economists estimated that the Chinese currency (Yuan) was undervalued by 35%. So, for years, China kept a higher exchange rate.
By doing so, China has some advantages but also some disadvantages.
First, by undervaluing its currency, China keeps the Yuan as a weak currency, (because you need more Yuan to buy a US dollar). By doing that, China was able to keep a competitive advantage over other countries such as the US. Their products were sold for a cheaper price compared to the US products.
But even if there are advantages, there are also disadvantages to have a high exchange rate. By having an undervalued currency, importations become really expensive. In fact, by having a high exchange rate, due to the price of importations, the deficit of China is also increasing.
After several calls, the 21st of July 2005, China revalued its exchange rate from 8.28 Yuan per U.S dollar to 8.11 Yuan per U.S dollar. It implied other consequences on doing business with and “against” China.

2 - How is China’s exchange rate policy linked to its development strategy? How would changes in exchange rate policy impact growth in China as well as the rest of the world? Is the current exchange rate policy sustainable in the long run?

China has known a relatively fast economic growth, becoming one of the leading exporting nations. Over the few last years, China has known a rapid growth in productivity relative to its competitors.
Unlike the Euro, the Chinese Yuan is not on a floating exchange rate with the dollar; China keeps it exchange rate fixed against the U.S dollar. Fixed exchange rate helps China to devalue its currency due to a weak economy.

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