Tuesday, August 02, 2005

Revaluation of the Chinese Yuan and Japan's Response

Japan Brief / FPC, No. 0552 July 22 , 2005

On July 21 the People’s Bank of China, China’s central bank, announced a revision of its fixed exchange rate system, raising the value of the yuan to the dollar by 2% and introducing a currency basket system by which, from that day, the yuan would be allowed to move up or down within a 0.3% band against this basket compared with the closing price on the previous trading day. On hearing the news, the Bank of Japan issued a statement on the same day saying, “We highly welcome this move. With this step, the Bank of Japan hopes more flexible exchange rates will be formed for a more balanced and sustainable growth of the Chinese economy.”
Response of the Japanese Government and Nippon KeidanrenRegarding China’s revaluation of the yuan and introduction of a currency basket system, Minister of Finance Sadakazu Tanigaki commented in a press conference on July 21, “We should welcome these steps as bringing greater flexibility.” He added, “We will keep an eye on the foreign exchange market and the economic situation and carefully watch the impact on the Japanese economy.” In this context, Vice-Minister of Finance for International Affairs Hiroshi Watanabe attempted to curb any appreciation of the yen against the dollar in the immediate aftermath of China’s revaluation of the yuan by hinting that the Japanese government was ready to intervene in the market in the case of a sharp rise in the yen’s value. He told the press, “We will take appropriate measures if there are any violent fluctuations on the exchange market.” Meanwhile, Nippon Keidanren (Japan Business Federation) Chairman Hiroshi Okuda commented, “I welcome the decision to revalue the yuan as a step toward the further internationalization of the Chinese economy.”
Impact on the Japanese EconomySince Japanese business circles have adopted risk avoidance measures in preparation for a revaluation of the yen, the general opinion is that there will be no major impact on the Japanese economy for the time being. Since the appreciation rate was small, however, there is also a widespread view that the United States at some point will again call for a revaluation, so another revaluation is likely sooner or later. Regarding the ripple effect on Japan-China trade, opinions within the government and the ruling Liberal Democratic Party are divided.
Since many of Japan’s auto companies export parts and other materials from Japan for the assembly and sale of automobiles in China, they generally welcome the yuan’s revaluation.
Regarding future prospects for the yuan, representatives of Japan’s business circles suggested that the situation was unpredictable. Orix Corp. Chairman Yoshihiko Miyauchi remarked, “The revaluation is smaller than expected. One digit smaller. It is a sign of something to come. The Chinese government no doubt thinks that with this measure it has fended off the intense outside pressure, but that will not be the case.” Sumitomo Corp. Chairman Kenji Miyahara predicted, “Two percent is far too small. I sense the possibility of revaluation in two or three stages.” Nomura Holdings, Inc. Chairman Junichi Ujiie said, “It is an action to see the reactions of the market and other countries. Just a trial, a check, I think. Indeed, the basic change lies in the switch from a dollar peg system to a basket system.”
Leading Newspaper EditorialsJapan’s main newspapers took up the issue of the yuan’s revaluation in their editorials on July 22. While positively evaluating the move to an extent, they also pointed to the impact of the revaluation on the Japanese economy and the background economic (exchange rate system, bad debts, and so on) and social problems that China is facing and urged China to carry out further reforms.
Under the headline “Makeshift measures won’t attract understanding,” the Sankei Shimbun commented, “China has at last moved to revalue the yuan. Although it is a step forward, though, the appreciation rate is extremely small and a long way from what is required to get the understanding of the international community. China will not be able to avoid further pressure unless it raises the yuan to a level that matches its export competitiveness.” It added, “The 0.3% fluctuation band is extremely narrow, too. It is more of a slight adjustment than a reform.”
Furthermore, the Sankei wrote, “A large appreciation of the yuan would directly hit state-owned enterprises and banks and would increase the dissatisfaction among the Chinese people about unemployment and the rich-poor gap that existed at the roots of the anti-Japan demonstrations. That is why China has been putting off a revaluation of the yuan. However, it could not resist international pressure any longer, and also there was a need to impress foreigners of the soundness of China’s market economy in order to improve the investment environment, which had deteriorated as a result of the demonstrations.”
Under the headline “Questioning the real value of China’s power,” the Asahi Shimbun praised the revaluation, saying, “China’s decision to revalue the yuan seemed timed to allay international pressure before President Hu Jintao’s autumn visit to the United States. The problem of the yuan had been seen as a possible destabilizing factor for the world economy. Therefore, China’s latest decision is to be welcomed.” But it went on, “[However,] Beijing has not decided to completely float the yuan and leave it open to free market trade. Instead, China intends to keep the yuan under the control of currency authorities. The appreciation rate was also much smaller than market expectations. China has many state-owned enterprises facing difficulties. If the yuan were to appreciate significantly, China would lose export competitiveness, and its domestic industries would be severely hit. The authorities no doubt judged that the currency’s rapid appreciation would also affect financial institutions with their share of bad debts.”
The Asahi also expressed concern about the impact on the Japanese economy, saying, “. . . following the yuan, other Asian currencies like the Hong Kong dollar might be forced to appreciate. Subsequent pressure for a higher yen might gain momentum. The effects upon the Japanese economy also cannot be ignored. The revaluation of the yuan is good news for Japanese companies suffering under the waves of imports from China, but it could hurt companies that have relocated factories to China to manufacture goods intended for the US market.”
Under the headline “Further appreciation against the dollar is needed,” the Yomiuri Shimbun commented, “Nonetheless, the latest rise in the yuan’s value cannot be described as adequate, given China’s current economic power. China should further revalue its currency.” Referring to Japan-China economic relations, it added, “In recent years Japan and China have been increasing trade, investment, and other economic ties. If the latest rise in the yuan’s value and a smooth transition to the currency basket help stabilize China’s external relations, it should be seen as a welcome move for Japan. In the early 1970s Japan decided to float its currency, abandoning its peg to the US dollar. China could learn a lesson from Japan’s transition to a floating exchange rate regime to help steadily shift to the currency basket.”
Under the headline “Cautious but resolute reform,” the Mainichi Shimbun stated, “Reform of the yuan was necessary for China itself. We welcome the fact that China is beginning to fulfill a responsibility matching its economic scale toward the stability of the international currency order.” It went on to call for further reform, saying, “In the United States and other countries, many people are demanding a revaluation of more than 30%. For this reason, it is not expected that the yuan rate will settle at the level announced this time. The reform of the yuan has taken no more than a first step, and from now on the Chinese authorities no doubt will be pressed to make an even more flexible response. It is necessary for China to carry out reforms befitting its economic condition cautiously but resolutely.”
Referring to the Japanese economy, the Mainichi also commented, “As a consequence of the revaluation of the yuan, the value of the yen is rising in the market as well. Future developments are uncertain. Indeed, the possibility of a cheaper yen cannot be denied, either. Whatever happens, though, most observers forecast that even if the yuan is further revalued, if the appreciation rate is between 10% and 20%, the impact on the Japanese economy will be slight.” However, it went on, “Meanwhile, following the announcement by China, Malaysia also declared that it would review the system for the ringgit, which has been pegged to the US dollar. On a purchasing power parity base, the Chinese economy has already overtaken Japan’s in terms of scale. The impact of the revaluation can be expected to spread to various fields.” Furthermore, the Mainichi threw the spotlight on a problem, saying, “Although much will depend on the level of the yuan from now on, the revaluation of the currency inevitably is going to put a brake on exports. Furthermore, the problem of bad debts among Chinese banks is serious. Financial reform is essential if China is to advance, but it will be difficult if the currency is shaky. The problem of how to overcome this dilemma is probably the biggest one facing the Chinese authorities.”
Under the headline “The key to yuan reform comes after the 2% revaluation,” the Nihon Keizai Shimbun (Nikkei) stated, “The new system [of yuan reform] has many uncertain points, so it is difficult to give any immediate evaluation. Also, the appreciation rate against the US dollar is no more than about 2%, so this measure cannot be said to have completely resolved the problem of the yuan.” The Nikkei continued, “From now on, we should watch carefully to see how the People’s Bank of China, the central bank, manages the new exchange rate system.” Referring to the Chinese economy from now on, it said, “If the appreciation rate against the US dollar stays at around 2%, there is little possibility that Chinese exports will slump. For Japanese companies, which have a lot of export production bases in China, concern about a decline in the export competitiveness of their products made in China will be limited. The blow to ethnic Chinese companies in such industries as textiles, steel, and shipbuilding will probably be small as well.”
Furthermore, the Nikkei commented, “If China fixes the appreciation margin at around 2%, there are likely to be demands from the United States and Europe, which had called for a large revaluation, for another revaluation. Also, since speculative funds will flow into China in anticipation of another revaluation, and since the yuan supply will increase because of intervention by the authorities, it will be difficult to settle the Chinese economy on a track of stable growth. We can understand why the Chinese government turned to the exchange system in consideration of other countries and as a countermeasure against domestic overheating, but the results will depend on its management of the new system.”(Copyright 2005 Foreign Press Center Japan)


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