Chapter 10. The Impact of the Exchange Rate
10.1 The RMB Exchange Rate and the U.S
Trade Deficit
Many factors contribute to the Sino-US trade deficit. Therefore, serious studies and appropriate solutions are needed for the grad- ual restoration of balance in bilateral trade. However, some peo- ple attribute the cause of the Sino-U.S. trade deficit to the RMB exchange rate and accuse the Chinese government of manipulating the currency and artificially undervaluing the RMB. These people claim that various means can prevent RMB appreciation. Some peo- ple even espouse launching a trade war against China.1 Some domes- tic scholars also consider that the RMB appreciation will reduce the U.S. deficit and promote the balance of the Sino-U.S. trade according to traditional economic theories.
A popular point of view in both China and the U.S. is that as long as the RMB appreciates, the U.S. trade deficit is naturally
1In recent years, Nobel Prize Winner Paul Krugman has published several articles in the New York Timeson U.S. threats to launch a trade war to force the RMB to appreciate, if it does not appreciate high enough. In his campaign speech on January 6, 2012, Republican presidential candidate Romney accused China of manipulating the RMB exchange rate and threatened to declare China as a currency manipulator on his first day of office if he is elected.
The Impact of the Exchange Rate Adjustment on Import and Export 307
0 1 2 3 4 5 6 7 8 9
0 20 40 60 80 100 120 140 160 180 200
1995-01 1995-11 1996-09 1997-07 1998-05 1999-03 2000-01 2000-11 2001-09 2002-07 2003-05 2004-03 2005-01 2005-11 2006-09 2007-07 2008-05 2009-03 2010-01 2010-11 2011-09
Sino-US trade balance (seasonal adj.
100 million, left )
The exchage rate (RMB/USD, end of period)
Figure 10.1: Changes in the RMB exchange rate and the trade gap between the Sino-U.S. imports and exports.
Source: CEInet database.
reduced. However, popular opinions are not necessarily correct.
Practice should be the sole criterion for testing the truth. The laws reflected by practical data contradict these popular opinions.
Before 2005, the RMB was pegged to the USD, and the RMB exchange rate against the USD was always around $1 to RMB 8.2.
According to Chinese statistics, the U.S. deficit increased from $16.4 billion in 1997 to $114.2 billion in 2005. The RMB exchange rate did not fluctuate, but the U.S. deficit increased rapidly, indicating that the U.S. deficit could not be attributed to the RMB exchange rate (Fig. 10.1).
After 2005, the pegging of the RMB to the USD stopped, and the RMB appreciated continuously. By the end of 2011, the exchange rate was $1 to RMB 6.3. The RMB cumulatively appreciated by 30% against the USD, or an average annual appreciation of about 5%. According to the popular view mentioned previously, a huge RMB appreciation will reduce the U.S. deficit, but after the appre- ciation of the RMB exchange rate, the U.S. trade deficit continued to increase with the fluctuations. Statistics does not reflect any cor- relation between the RMB exchange rate and the U.S. trade deficit.
The following is a simple regression model for conducting a quan- titative analysis of the relationship between the RMB exchange rate
308 From Trade Surplus to the Dispute over the Exchange Rate
and the U.S. deficit.
log(surplus sa)t=B0+B1log(exrate)t+ut (1) Here, surplussa refers to the trade gap between the Sino-U.S.
imports and exports after eliminating the seasonal factors, and exrate refers to the current period-end RMB exchange rate against the USD.
The first-order series of the random disturbance term of this linear model is auto-correlated, that is,ut=ρ ut−1+νt, where−1≤ρ ≤1.
The least squares estimate is unbiased but ineffective. In obtaining the efficient estimator, the first-order autoregressive model AR Equa- tion (1) is considered to lag the variable for one period. The model is reset as follows:
ρLog(surplus sa)t−1=ρB0+ρB1log(exrate)t−1+ρut−1. (2) Different periods are chosen to create two regressions. Scenario I examines the correlation between the monthly change in the RMB exchange rate against the USD and the monthly Sino-U.S. trade sur- plus in 1995 and 2011. Scenario II examines the correlation between the monthly change in the RMB exchange rate against the USD and the monthly Sino-U.S. trade surplus after the exchange rate reform in 2005 and 2011.
In the regression analysis, the constant terms and the coefficients pass the 10% significance test, and all the coefficients in Scheme 2 achieve the 1% significant level. The D–W value shows that the residual and the independent variables are independent from each other, and the significant F statistic represents the overall signifi- cance of the model. The coefficient of the variable log (exrate) is significantly negative. In 2005 and 2011 in particular, the coefficient of Log (exrate) is −1.51, indicating that a 1% appreciation in the RMB exchange rate against the USD promotes a 1.51% increase in the U.S. deficit (Table 10.1).
Therefore, no correlation exists between the RMB exchange rate and the U.S. trade deficit. Since 2005, the RMB exchange rate has appreciated steadily against the USD, depreciated steadily against the yen, and initially appreciated and then depreciated against the euro; however, the U.S. deficit has continued to grow. Some people think that as long as the RMB appreciates, the U.S. trade deficit can
The Impact of the Exchange Rate Adjustment on Import and Export 309
Table 10.1: Regression results of the RMB exchange rate and the U.S. deficit.
Scenario I Scenario II Constant Term 25.41∗∗∗ (5.88) 19.37∗∗∗ (26.41) log(exrate) −4.79∗(2.96) −1.51∗∗∗ (−4.08) AR(1) 0.97∗∗∗(0.02) 0.63∗∗∗ (7.23)
Adjusted R2 0.97 0.69
Durbin–Watson stat 2.28 2.11
F-statistic 3421 90.9
Prob(F-statistic) 0.00 0.00
Inverted AR roots 0.97 0.63
Examination period 1995.01–2011.10 2005.01–2011.10
Sample quantity 200 82
Indicator specifications:∗means that the original hypothesis cannot be rejected at the 10% significant level;∗∗∗means that the original hypothesis cannot be rejected at the 1% significant level. The val- ues in brackets represent the standard deviation of the regression coefficients.
Source: Regression results from Eviews 5.0.
be reduced. However, such belief is neither supported by data nor consistent with facts. Therefore, attributing the U.S. trade deficit against China to the RMB exchange rate is not reasonable.