Time may be ripe for new forex accord

Time may be ripe for new forex accord
Comment E-mail Print Share
First Published: Sun, Jan 06 2008. 11 56 PM IST
Updated: Sun, Jan 06 2008. 11 56 PM IST
The time will come for China to let its currency rise substantially against the dollar. But 2008 isn’t likely to be the year. It is the euro that will feel most of the pain, again. That’s not fair, but the only way to resolve the tension may be a new international currency accord.
Experts have been predicting a major revaluation of the renminbi for years. The 2% increase against the dollar in 2005 was heralded as a baby step to be followed by many bigger ones. But in fact, it has been followed by more baby steps—4% annually in each of the last two years. Meanwhile, the US trade deficit with China has increased by 30%. In China, a more valuable renminbi would reduce inflationary pressures. Cheaper imports from the US would help directly, while a smaller trade surplus would ease the central bank’s task of keeping the money supply under control. In the US and eurozone, a big Chinese revaluation would quiet the increasingly loud voices of protectionism.
But China’s most pressing economic need is a steady supply of new jobs to employ the surplus labour force in the countryside. That is a more important challenge than improving consumer lifestyles—the main benefit from cheaper imports. And unemployment is a bigger threat to social order than inflation. So, a big revaluation, which could make many export-oriented factories uncompetitive, is seen as the greater of two evils. The desire for a relatively weak renminbi sits uneasily with another Chinese policy goal—to protect the value of the $1.5 trillion (Rs58.95 trillion) of foreign currency that a steady trade surplus has put into its coffers. Most of that money is held in dollars, which the Chinese, like other US creditors, consider to be a weak currency. But any attempt by China to diversify its reserves will push the dollar down.
But not necessarily against the renminbi. For every sale of a dollar-denominated security, there must be a corresponding purchase in some other currency. The most plausible alternative is the euro. That process helped push the euro up against the renminbi in 2007, leading to increasingly loud complaints from the eurozone. Another increase and more complaints are likely in 2008. The risk is that Europeans move from complaints to protectionism. But if they are sensible, they will push for a longer-term solution. The euro’s problem springs from the current global currency system, in which some big trading nations fix the value of their currencies and others allow a free float. It becomes even more liable to topple into chaos when some countries run big trade surpluses and others big deficits. The Chinese, Europeans and Americans could all agree rapid changes in currency values are a threat to everyone’s prosperity. In the past, such thinking inspired the world’s big trading countries to set up more orderly systems for managing foreign exchange (forex)—the gold standard before World War I, the Bretton Woods agreement after World War II and the Plaza Accord arrangements in the 1980s. Perhaps it is time for a new currency accord.
Comment E-mail Print Share
First Published: Sun, Jan 06 2008. 11 56 PM IST
More Topics: Forex | China | Imports | US | Dollar |