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Don't Expect Yuan To Rise Much, China Tells World
Central Bank Says Change in Policy Was Only to Adjust Exchange Method

By Peter S. Goodman
Washington Post Foreign Service
Wednesday, July 27, 2005

SHANGHAI, July 26 -- China's central bank declared Tuesday that last week's slight increase in the value of the country's currency, the yuan, was a one-time event and not the beginning of a gradual climb, as officials sought to diminish speculative pressures for a substantial revaluation.

In a "solemn statement," the People's Bank of China said the policy shift last Thursday was primarily aimed at changing how China sets the exchange rate for the yuan -- also known as the renminbi, or RMB -- by severing its direct link to the U.S. dollar, and not a signal of any willingness to allow its value to float upward.

"Certain foreign media have misled the public and even wrongly speculated that the revaluation of the RMB by two percent was only the first step in a series of adjustments," the bank said. Its action last week "does not in the least imply an initial move which warrants further actions in the future."

Analysts said China's central bank was sending a direct message to currency speculators, seeking to preempt capital from flooding into the country to bet on another increase in the value of the yuan. As China's leaders are well aware, speculators played a key role in overwhelming Thailand's fixed currency regime in 1997, forcing the central bank to devalue and triggering a broader Asian financial crisis.

Given such concerns, China's leaders could be bluffing, seeking to keep speculators off balance while it prepares another revaluation -- which some analysts and traders still expect. But economists close to China's central government said the warning from bank officials probably reflects genuine intentions: China chose not to increase the value of the yuan significantly, but has simply introduced a little extra flexibility in its day-to-day movements -- the first step in a process that could take as long as a decade before Beijing fully frees its currency to rise and fall according to global markets.

"We are not going to expect any one single great leap in [currency] appreciation in the future," said Ha Jiming, chief economist at China International Capital Corp., an investment bank partially owned by one of the country's major state-owned lenders, Construction Bank of China. "As the central bank has repeatedly emphasized, the currency revaluation move is more about reforming the exchange-rate mechanism than changing the exchange rate itself."

If the central bank's latest pronouncement does reflect policy, it could reinvigorate trade friction with the United States and other trading partners. The Bush administration has for more than two years pressured China to allow the value of its currency to float upward, arguing that a low-priced yuan makes Chinese-made goods unfairly cheap on world markets.

The White House commended China's slight revaluation. It was also praised by Sen. Charles E. Schumer (D-N.Y), who has been pressing a bill that would impose 27.5 percent punitive tariffs on Chinese goods if Beijing does not substantially increase the value of its currency.

Schumer was less effusive Tuesday. "While the Chinese Central Bank has said that they will not do another fixed valuation in the near future, we trust that the Chinese will allow market forces to work," he said in a written statement. "We will be carefully monitoring this process over the next few months."

Chinese analysts on Tuesday said anyone expecting another increase soon would be frustrated.

"China will not revalue the renminbi again in coming months," said Song Guoqing, an economist at the China Center for Economic Research at Beijing University.

As the central bank outlined its policy shift last week, some commentators and U.S. officials indicated that it could be the beginning of a gradual but significant series of increases in the yuan's value. Some suggested that it might increase the prices of goods made here, diminishing the U.S. appetite for Chinese products and cutting into the $162 billion U.S. trade deficit with China. Others said a stronger yuan might curb China's voracious buying of dollars in support of its exchange rate. That could limit China's purchases of U.S. Treasury bills, perhaps resulting in higher interest rates that could pop the U.S. real estate market.

But the word from China's central bank on Tuesday reinforced the voices of economists here and abroad who have counseled not to make too much of the slight change in how Beijing values its money.

"Simply put, we don't see any effect whatsoever of a 2 percent revaluation on exports or imports," Jonathan Anderson, chief economist at UBS Investment Research in Hong Kong, wrote in a recent note to investors. Anderson, who has been among the more accurate China watchers in recent months, wrote that it was "hard to see any effect at all" on U.S. consumers and manufacturers, or on China's rate of economic growth.

Even a larger shift in the value of the yuan would probably have little impact on U.S. manufacturers, because most of China's export growth is in products that have not been made in the United States in large scale in many years. Chinese workers who once earned $1 an hour will now make $1.02 -- hardly an equation that will prompt U.S. factories to dive back into the labor-intensive work of making toys, T-shirts and furniture.

Chinese officials have tried to deliver that message themselves in recent days to temper expectation of further revaluation.

"China's exchange rate reform won't have too much influence on U.S. deficits," China's central bank governor, Zhou Xiaochuan, said over the weekend.

Those anticipating a significant readjustment and change in the global economy have focused on how the central bank said it would now determine the exchange rate. In place of the fixed peg to the dollar, China said it would link the yuan to a basket of currencies while allowing daily trading within 0.3 percent of the previous day's closing price.

Some analysts construed that to mean that the currency might float up by 0.3 percent each day, increasing by as much as 3 percent over 10 days. Others speculated that the shift to the basket would mean that China would sell significant holdings of dollars as it added euros and Japanese yen, altering the prices of all three currencies and reducing demand for U.S. bonds.

But Chinese analysts said such expectations were based on a fundamental misreading of the new system and the intentions of China's leaders to maintain a largely stable exchange rate to ensure that there are no shocks to the system. China has yet to say what other currencies will make up its new basket and how their values will be linked to the yuan's -- information that many analysts assume will never be disclosed, to keep speculators off guard.

The new system gives China's leaders the ability to set the yuan's currency however they like, without disclosing their rationale. Far from a mathematic formula, the new exchange rate is a kind of guideline that the central bank can use at its discretion, analysts said.

"The media has been overreacting on the currency issue," said Zhang Liqun, an economist at the Development Research Center in Beijing, a think tank attached to China's State Council. "The central bank has adopted an opaque method on currency management. It's going to operate within a black box, which will be very difficult to grasp."

The strongest message China's central bank has delivered has been heard in the currency markets: On Friday, the first trading day after the announcement, China's currency was worth 8.11 to the dollar. On Tuesday, it was at 8.1099, according to the State Administration of Foreign Exchange.

Staff writer Paul Blustein contributed to this report from Washington. Special correspondents Eva Woo and Jason Cai also contributed.

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