If Beijing Revalues...

Hardly a week passes that China isn't urged to let its currency rise above its fixed level of 8.28 yuan to the dollar. And hardly a week passes that China doesn't reject that notion, saying it will revalue the currency in its own good time. The government's concern is that revaluation might slow exports and put the brakes on job creation -- which Beijing desperately needs to house and feed the 10 million citizens who join the workforce every year.

If Beijing does revalue, one technique many economists envision is untethering the yuan from the dollar and hitching it to a larger basket of currencies -- perhaps just the dollar, euro, yen, or possibly a broader set that would include the money of China's dozen or so top trading partners. Those currencies would fluctuate in value against the yuan, but, as one appreciated, others might fall, balancing out the overall effect on Chinese trade. Stephen L. Jen, an economist at Morgan Stanley (MWD ), thinks that if China adopted this kind of "managed float," it would keep key exchange values -- especially the dollar/yuan rate -- from shifting more than 5% in either direction.

Such a scheme would not -- as some fear -- change the makeup of China's $609 billion in foreign currency reserves, 70% of which are in dollar assets like U.S. Treasuries. Though some say China might sell off some of those reserves and buy yen and euros, Beijing would still need lots of greenbacks -- the world's most liquid currency. Nor would China's $160 billion trade surplus with the U.S. vanish overnight.

So why bother? First, a shift to a basket would likely be accompanied by a modest revaluation of the yuan -- which would quiet at least some U.S. criticism of Beijing's monetary policy. Second, China could still keep the yuan in a tight range against the dollar, while giving the illusion of a market-based system. Third, although China's top trade partner is the U.S., it exports almost everywhere. A basket would ensure steadier prices for customers worldwide, not just Americans. "You get more stability against the average," says Morris Goldstein of the Institute for International Economics. Another plus for China is that it would not necessarily have to disclose the composition of the basket -- which means it could still play with the exchange rate by changing the mix, giving dollars more or less weight as needed.

At the World Economic Forum in Davos, Chinese Vice-Premier Huang Ju said any shift to flexible exchange rates would be gradual. If China does opt for gradualism, a wider band and a switch to a currency basket might do the trick. Such a move could do enough to quell critics abroad -- but not enough to derail China's export growth.

By Brian Bremner in Hong Kong and Dexter Roberts in Beijing, with Rich Miller in Washington

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