Classification of the exchange rate in China

FACTS

The Chinese had a statement: “Beijing was unliking from the US dollar effective immediately”

In 2004 y 2005, the US government had continued to urge China to revalue the yuan from its decadelong peg to the US dollar of Yuan8.28/$

The US said that the growging Chinese trade surplus with US indicated that de Yuan was undervalued, the Chinese Government and many international trade experts argued that the bilateral trade surplus with US was a result of competitiveness, cost of production, and changing global industry structures.

Members of the US treasury had warned Chinese officials that the revaluation of at least 10%

New Currency Regime

The Yuan had been pegged to the US dollar at Yuan8.28/$ since early 1997.

The classification of Exchange rate regime in China was Fixed exchange rate:

Benefits

• Stability in international prices

• Inherent anti-inflationary nature of fixed prices

Impact

• Need for central banks to maintain large quantities of hard currencies and gold to defend, in the fixed rate, in this case even many within China acknowledged that maintaining the pegged rate was costly, as China´s central bank continued buy up the US dollar that continued to pour in from trade and investment, early 2005 China´s foreing exchange reserves had swelles to mor than $700 billion, incluiding $190 billion in US government bonds-

• Fixed rates can be maintained at rates that are inconsistent with economic fundamentals

The new currency regime is Managed floating exchange rate based on market supply and demand

On July 21, 2005 was a revaluation of apporoxmately 2.1%

Yuan8.28/US$ - Yuan8.11/US$

CASE CUESTIONS

1.- Many Chinese critics had urged China to revalue the Yuan by 20% or more. What would the Chinese yuan´s value be in US dollar if it had indeed been devalued by 20%?

2.- Do you belive that the realuation of the Chinese yuan was politically or economically motivated?

3. If the Chinese yuan were to change by the maximum allowed per day, 0-3% against the US dollar, consistently a 30 or 60 days period, what extreme values might it reach?

4. Chinese multinationals would npw be facing the same exchange-rate related risks borne by US Japanese, and European multinationals. What impact do you belive this rising risk will have on the strategy and operations of Chinese companies in the near future?

CASE ANSWERS

1. Devaluation: when the exchange rate are fixed (YUAN) is reduced officially against another reference currency (US)

FIXED EXCHANGE RATE DEVALUATION (%) DEVALUATION ($ YUAN) $YUAN/US$ $US/YUAN$

YUAN8.28/US$ 1% 0.08 8.20 0.12

YUAN8.28/US$ 2.1% 0.17 8.11 0.12

YUAN8.28/US$ 3% 0.25 8.03 0.12

YUAN8.28/US$ 4% 0.33 7.95 0.13

YUAN8.28/US$ 5% 0.41 7.87 0.13

YUAN8.28/US$ 6% 0.50 7.78 0.13

YUAN8.28/US$ 7% 0.58 7.70 0.13

YUAN8.28/US$ 8% 0.66 7.62 0.13

YUAN8.28/US$ 9% 0.75 7.53 0.13

YUAN8.28/US$ 10% 0.83 7.45 0.13

YUAN8.28/US$ 11% 0.91 7.37 0.14

YUAN8.28/US$ 12% 0.99 7.29 0.14

YUAN8.28/US$ 13% 1.08 7.20 0.14

YUAN8.28/US$ 14% 1.16 7.12 0.14

YUAN8.28/US$ 15% 1.24 7.04 0.14

YUAN8.28/US$ 16% 1.32 6.96 0.14

YUAN8.28/US$ 17% 1.41 6.87 0.15

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