Reducing the Chinese Trade Surplus

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Growing up in Guangdong, a prosperous southern province with largest export industry in China, I have witnessed the economic boom since 1990s, characterized by growth in labor-intensive manufacturing economy and a large influx of migrant workers from neighboring provinces. But the rising wages, combined with spiraling energy and material costs, have squeezed out a large portion of these low-end factories’ gross profit in recent years. Most importantly, the appreciation of RMB becomes the last straw that breaks the camel's back: thousands of factories have been driven to quit this Pearl River Delta. However, on the other side of Pacific Ocean, the US government and Congress have been ceaselessly attacking on Chinese manipulation of its currency to make its exports to US cheaper and US exports much more expensive. Many politicians contribute the huge trade deficit that US has with China to the exchange rate and say it is artificially undervalued against the dollar as much as 40 percent.

Putting aside the political debate, is RMB indeed undervalued? Or is it undervalued as much as our empirical experience tells us? And is the exchange rate sufficient to reduce Chinese trade surplus?

As shown in the figure, from 2005 to 2008, bilateral trade deficit grows as RMB strengthens dramatically, while RMB exchange rate steady, trade deficit drops from 2008 to 2009.

This is a counterexample for the appreciation solution to the trade deficit problem. Further study is still needed. In the following paper, I will explore the effect of exchange rates on the trade flows between China and US by analyzing the data from recent years using Cheung’s model (using price elasticity), as well as incorporating other factors (consump...

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...t on overall trade flows is relatively small and sometimes goes in the direction opposite of anticipated. These findings suggest that exchange rate policy alone will not be sufficient to reduce the Chinese trade surplus. In my opinion, the omission of the effect of consumption and the close tie between some imports and exports, on the trade flows, warrants further examination in subsequent work.

References

Amiti, M., Caroline, F. (2008). The Anatomy of China’s Export Growth, 1-15.

Cheung, Y., Chinn, M. D., Fujji, E. (2007). The Overvaluation of Renminbi

Undervaluation, 1-22.

Cheung, Y., Chinn, M. D., Fujji, E. (2008). China’s Current Account and

Exchange Rate, 1-28.

Rodrik, D. (2006). What’s So Special About China’s Export?, 23-24.

Schott, P. K. (2006). The Relative Sophistication of Chinese Exports, 1-2.

China’s Exchange Rate & Trade Flows 4

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