Devaluing the View China Is Undervalued: The Ticker

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By William Pesek

A funny thing is happening on the way to the strong Chinese currency for which politicians the world over are clamoring: the yuan is actually falling here and there.

Not appreciably, but enough to question the wisdom of considering China a one-way foreign-exchange bet. Many will dismiss this argument on its face. China can grow 10 percent indefinitely, its markets are a buy, and the yuan is severely undervalued, bulls argue.

Yet let's consider an alternative reason for China's reluctance to free its currency: fear it could just as easily fall as rise.

The popular explanation is that China holds down the yuan to support exporters. While there's considerable truth to that, it's also about control. Putting the currency in the hands of speculators means trusting markets more than Chinese leaders want. And markets are questioning China's ability to steer around the next global crisis as skillfully as it did 2008's.

Hedge-fund manager Jim Chanos of New York’s Kynikos Associates LP personifies the extreme bear case for a Chinese crash. More interesting, though, are those who populate the middle ground between the bulls and the bears. These investors also are examining China's balance sheet -- which is loaded with loans that could go bad -- and worry Asia's biggest economy is heading into a rough patch.

News Thursday that exports grew at the slowest pace since February sent the yuan down as much as much as 0.3 percent.

China's economic planners are a wise bunch and investors haven't made much money betting against them. But the side effects of the massive stimulus programs, the cornerstone of which was a 4 trillion yuan ($630 billion) spending package, are now bubbling up. The effects of inflation, excesses in real estate and stocks and too much risky lending will challenge China going forward.

It's just how industrialization works. Europe and the U.S. had their share of crises as they built up global market share and raised living standards, and China will, too. In fact, China's reckoning could be more serious given Beijing's obsessive controls over information flows. Worries about an "Arab Spring" have China redoubling censorship efforts.

The odds favor the yuan being stronger five years from now than it is today. Yet recent market activity suggests investors shouldn't assume it's a given.

(William Pesek is a Bloomberg View columnist.)

-0- Nov/10/2011 17:31 GMT