Yuan Gain May Alter Shape of Global Growth More Than Velocity
China’s shift toward a stronger exchange rate may alter the shape of the world economy’s expansion more than its speed, economists said.
Chinese consumers might buy more as the rising yuan boosts their purchasing power, while their counterparts in the U.S. cut back on their spending as the cost of goods imported into America rises. The shift will add 0.1 percentage point to global growth this year and next, leaving the rate at about 4 percent, according to the median of 17 forecasts in a Bloomberg News survey of economists.
“This currency move is likely to affect the composition of global gross domestic product rather than the growth rate,” said Nariman Behravesh, chief economist at IHS Global Insight in Lexington, Massachusetts, who hasn’t changed his forecasts for an expansion of 3.8 percent this year and 3.6 percent in 2011.
A stronger yuan may make the recovery more durable by reducing its reliance on debt-laden American consumers. That would be welcome news for leaders of the Group of 20, who are meeting in Toronto on June 26-27 to take stock of the outlook for the world economy.
The yuan today surrendered some of its increase from yesterday, when it climbed the most since a July 2005 revaluation. It traded at 6.81 per dollar as of 11:34 a.m. in Shanghai. The drop indicated that officials will encourage two- way fluctuations in the exchange rate, even as they anticipate the currency will appreciate over time.
China’s central bank said June 19 it will increase flexibility in the yuan, marking an end to the crisis policy of pegging to the dollar. A day later, the People’s Bank of China said the shift would reduce the economy’s “overreliance on exports,” indicating an expectation for the yuan to rise.
Stocks in Asia retreated today after a surge yesterday stoked by optimism that the PBOC move was a vote of confidence in the sustainability of the global recovery. The MSCI Asia Pacific Index dropped 0.5 percent to 118.61 at 11:43 a.m. in Hong Kong after a 2.6 percent advance yesterday.
In the U.S., equities surrendered early gains yesterday on concern a stronger yuan would increase costs at retailers. The Standard & Poor’s 500 Index slipped 0.4 percent to 1,113.20 after rising as much as 1.2 percent in the first hour of trading. All 30 stocks in the S&P 500 Retailing Index retreated, with Macy’s Inc. and J.C. Penney Co. leading with declines of more than 3 percent.
While U.S. consumers will pay more as a result of the rise of the yuan, the move is a net plus for the world economy because it lessens the risk of a hard landing in China and a protectionist backlash in the U.S., said Mark Zandi, chief economist at Moody’s Analytics Inc. China has been trying to prevent overheating of its economy after first-quarter economic growth of 11.9 percent.
“It’s a very positive development,” said Zandi, who is based in West Chester, Pennsylvania. “It will make it easier for the Chinese to control their economy. It will keep global protectionist barriers down.”
The longer-term benefit to the world economy may be to make it less susceptible to a cycle of boom and bust by shifting away from its reliance on U.S. spending, which in turn is financed by Asian savings, said Torsten Slok, an economist at Deutsche Bank AG. A U.S. savings rate of 3.6 percent in April is about a 10th of China’s, the highest among major economies.
Cause of Crisis
It was that mixture that helped spark the recent financial crisis and global recession as China recycled the dollars it accumulated from exports into U.S. debt, depressing global yields and fanning housing and credit booms.
“We need rebalancing and this means the U.S. has more exports and China has more domestic consumption,” Slok said.
G-20 leaders agreed in September to seek a “pattern of growth across countries that is more sustainable and balanced.” President Barack Obama last week said “the signals that flexible exchange rates send are necessary to support a strong and balanced global economy.”
Some economists cautioned that China’s decision might do more harm than good for the global economy.
“It’s wrong for the U.S. to force China to destabilize the renminbi,” said Robert Mundell, a professor at Columbia University in New York and a Nobel Prize-winning economist, using another term for the yuan.
‘Source of Stability’
Mundell told reporters in Hong Kong yesterday that China’s currency peg has been “a great source of stability” for the world economy and called the move to abandon it “political.”
A rise in the yuan could also fan global inflation as other currencies weaken, said Bernard Baumohl, chief economist at the Economic Outlook Group LLC in Princeton Junction, New Jersey.
“A more expensive yuan can heat up inflation pressures in the U.S. and elsewhere and that is the last thing the Federal Reserve wants to worry about right now,” he said.
Allen Sinai, chief global economist at Decision Economics in New York, said the Fed is more worried about disinflation than inflation. Excluding food and energy costs, U.S. consumer prices rose 0.9 percent in May from a year earlier, the smallest increase since 1961.
“A fixed exchange rate is often one of the ingredients of a boom-bust economy,” Sinai said. “By letting their exchange rate slip upward -- I expect it to rise 5 to 10 percent a year -- the Chinese are protecting their own economy from a bust.”
Jim O’Neill, chief economist at Goldman Sachs Group Inc., said China’s embrace of greater currency flexibility leaves him “bullish” by reinforcing his view that the world economy will expand 4.9 percent this year and 4.5 percent in 2011.
“It’s a sign that the Chinese policy makers are more confident about their ability to adjust from a low value-added export economy to one that’s got domestic factors at the core,” O’Neill said. “That’s the most important takeaway.”