The Atlanta Fed's macroblog provides commentary and analysis on economic topics including monetary policy, macroeconomic developments, inflation, labor economics, and financial issues.

Authors for macroblog are Dave Altig, John Robertson, and other Atlanta Fed economists and researchers.

June 16, 2016

Experts Debate Policy Options for China's Transition

After nearly three decades of rapid economic growth, China today faces the challenge of economic rebalancing against the backdrop of slow and uncertain global growth. Although investment and exports have been a motor for growth, China is increasingly experiencing structural issues: widening inequality, overcapacity as a consequence of policy distortions, unsustainable environmental costs, volatile financial markets, and rising systemic risk.

On April 28–29, I attended the First Research Workshop on China's Economy, organized jointly by the International Monetary Fund (IMF) and the Atlanta Fed. The workshop, held at the IMF's headquarters in Washington DC, explored a series of questions that have emerged as China shifts toward a new growth model. Is this the end of the growth miracle? Will the Chinese renminbi one day be as important as the U.S. dollar? Should the rapidly increasing shadow banking activity in China be a source of concern? How worrisome is the rapid rise in China's housing prices?

Panelists shared their views on these and other issues facing the world's second-largest economy (or largest, if measured on a purchasing-power-parity basis). Plans are under way for a second workshop to be held in 2017.

The following is a nice summary of the research discussed at the workshop. It was originally published in the IMF Survey Magazine, and was written by Hui He, IMF Institute for Capacity Development, and Nan Li, IMF Research Department. Thanks to the IMF for allowing me to repost it here.

Is China's economic growth sustainable?
Understanding the source of China's tremendous growth was a recurring theme at the workshop. "China's economy combines enormous dynamism with huge distortions," observed Loren Brandt (University of Toronto). Brandt described his research based on China's firm-level data and emphasized that firm dynamics (entry and exit), especially firm entry, have been the main source of the productivity growth in the manufacturing sector.

Echoing Brandt's message, Kjetil Storesletten (University of Oslo) discussed regional growth disparities and showed that barriers preventing firms from entering an industry account for most of the disparities. Such barriers are more severe for privately owned firms in regions in which state-owned enterprises (SOE) dominate, he said.

In his keynote speech, Nicholas Lardy (Peterson Institute for International Economics) offered an upbeat view on China's transition to a new growth model, one in which the service sector plays a larger role than manufacturing. The bright side of the service sector, he noted, is its continued strong productivity growth. The development of financial deepening and the stronger social safety net are contributing to increased consumption, which helps to rebalance the economy.

However, he emphasized, SOE reforms remain critical as the service sector cannot provide a silver bullet for a successful transition.

Central bank's policy decisions
Several participants tried to discern how the People's Bank of China (PBC) conducts monetary policy. Tao Zha (of the Atlanta Fed's Center for Quantitative Economic Research and Emory University) found that the PBC reacts sharply when the gross domestic product's growth rate falls below its target, increasing the money supply by 11.5 percentage points for every 1 percentage point shortfall.

Mark Spiegel (Center for Pacific Basin Studies) discussed the trade-offs involved in Chinese monetary policy—for example, controlling the exchange rate versus maintaining inflation stability. He also argued that the heavy use of reserve requirements on banks as a monetary policy tool might have an unintentional consequence to reallocate capital from SOEs to more efficient privately owned firms and could therefore offset the resource misallocation caused by the easy credit to SOEs that banks granted in the high growth years.

Renminbi versus the dollar
Eswar Prasad (Cornell University and Brookings Institution) argued that China's capital account will become more open and the renminbi will be used more widely to denominate and settle cross-border transactions. But he also noted that legal and institutional constraints in China were likely to prevent the renminbi from serving as a safe-haven currency as the U.S. dollar does today.

Moreover, he said, the current sequencing of liberalization initiatives—that is, removal of capital account restrictions before appropriate financial market supervision and regulation and exchange rate reform—poses financial stability risks.

Shadow banking and the housing market
Recently, volatile Chinese financial markets and continued housing price appreciation have raised serious financial stability concerns.

Michael Song (Chinese University of Hong Kong) argued that rapidly rising shadow banking activity is an unintended consequence of financial regulation. Restrictions on deposit rates and loan-to-deposit ratios have led to the issuance by banks of "wealth management products" to attract savers with higher returns. Because these restrictions had a greater impact on small banks, the big state banks had more room to undercut the smaller banks by offering wealth management products with higher returns and then restricting liquidity to them in interbank markets, ultimately making the banking system more prone to liquidity distress and runs.

Hanming Fang (University of Pennsylvania) found that, except in big cities such as Beijing and Shanghai, housing prices in China's urban areas between 2003 and 2013 more or less tracked rising household incomes. In his view, the Chinese housing boom is thus unlikely to trigger an imminent financial crisis. He warned, however, that housing prices may fall rapidly if economic growth slows dramatically, and that such a development could, in turn, amplify the economic downturn.

Rising wage inequality
China's rapid growth over the past two decades has been accompanied by rising wage inequality, an issue highlighted by two conference participants. Dennis Yang (University of Virginia) explored the distributional effects of trade openness in China and found a significant impact on wage inequality of China's accession to the World Trade Organization in 2001.

Chong-En Bai (Tsinghua University) argued that the decline after 2008 of the skill premium—that is, the ratio of the skilled labor wage to the unskilled labor wage—can be explained by the Chinese government's targeted credit extension to unskilled labor-intensive infrastructure sector (as part of the fiscal stimulus following the global financial crisis). Such distortionary policies might have short-run growth benefits but could lead to long-run welfare losses, he said, especially when rural-to-urban migration has run its course.

June 16, 2016 in Asia, Economic Growth and Development, Labor Markets, Monetary Policy, Real Estate | Permalink


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April 11, 2016

The Rise of Shadow Banking in China

China's banking system has suffered significant losses over the past two years, which has raised concerns about the health of China's financial industry. Such losses are perhaps not all that surprising. Commercial banks have been increasing their risk-taking activities in the form of shadow lending. See, for example, here, here, and here for some discussion of the evolution of China's shadow banking system.

The increase in risk taking by banks has occurred despite a rapid decline in money growth since 2009 and the People's Bank of China's efforts to limit credit expansions to real estate and other industries that appear to be over capacity.

One area of expanded activity has been investment in asset-backed "securities" by China's large non-state banks. This investment has created potentially significant risks to the balance sheets of these institutions (see the charts below). Using the micro-transaction-based data on shadow entrusted loans, Chen, Ren, and Zha (2016) have provided theoretical and empirical insights into this important issue (see also this Vox article that summarizes the paper).

Recent regulatory reforms in China have taken a positive step to try to limit such risk-taking behavior, although the success of these efforts remains to be seen. An even more challenging task lies ahead for designing a comprehensive and sustainable macroprudential framework to support the healthy functioning of China's traditional and shadow banking industries.

April 11, 2016 in Asia, Banking, Regulation | Permalink


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July 16, 2007

China Skeptic

When it comes to Chinese economic growth, this is the type of story to which we have become accustomed...

Goldman Sachs said it is forecasting second quarter GDP growth for China of 11 pct year-on-year, overcoming the high base from a year earlier, with CPI growth of 4 pct for June.

... and this is the type of picture we have come to expect:




That sort of data is impressive -- even scary -- but Jeremy Haft, writing in today's Wall Street Journal (page A12 in the print edition), suggests there may be less to those pictures than meets the eye:

If you visited a typical Chinese factory, you'd see why. It lacks capital, technology and know-how. Its workers place obedience over quality. And it sits along an endless chain of middlemen.

On average, it takes China 17 separate parties to produce a product that would take us three. Unlike Japan in the 1980s, little companies drive China's economic growth, not big ones. China's industries are composed of hundreds of thousands of tiny factories and farms -- plus traders, brokers, haulers and agents, all of whom take control of the goods and materials but add little value to the product. With every additional player in the chain, the cost, risk and time grow. Effective quality control in this environment is difficult.

So is effective cost control. Despite cheap labor, making goods in China is often more expensive than in the U.S. Far from being a bottomless ATM of cheap consumer goods, China is a risky, costly and time-consuming place to do business.

Yet polls show a majority of Americans believe China has mastered basic manufacturing -- and it's now barreling into our high-tech backyard. That's false. As the product recalls demonstrate, China can barely make low-value goods reliably, much less higher-value ones. The problems are structural, not the result of a few bad apples.

To that last point, consider this not-long-ago assessment from the OECD:

China’s staggering economic growth rate has stood at almost 10% for the last 20 years. One cause is strong exports underpinned by low production costs. Information and communication technology now claim the lion’s share of China’s export trade, accounting for approximately 30% of its exports in 2005. The year before, China ranked as the largest exporter of IT products, outstripping the EU, Japan and the US. Since 1996, China’s IT goods trade has been growing at almost 32% a year...

That certainly sounds like some "barreling into our high-tech backyard," but the underlying reality is complicated:

Some 55% of China’s total exports are attributed to production and assembly-related activities, and 58% of these are driven by foreign enterprises, of which 38% are entirely foreign-owned. In fact, among the top 10 high-technology companies by revenue, not one of them is Chinese...

Although regarded as the world’s largest potential IT market, China has not reaped the full benefit of its large-scale IT output, particularly in terms of productivity. Apart from mobile phones, the vast majority of Chinese do not yet use IT. In general, IT spending is lower in China (about 4.5% of GDP in 2005) than in leading OECD countries (about 9% of GDP in 2005).

One paradox is that while low IT costs brought about by China’s competitive supply has helped OECD-based firms upgrade, reorganise and boost productivity, the actual uptake of IT within Chinese firms is lagging behind too. Notions like supply-chain management, resource planning or knowledge management software that are standard currency in dynamic OECD firms are still rather undeveloped in China.

All of which leads Mr. Haft to suggest that the Chinese century may take awhile to develop:

To compete head-to-head with the American economy, China will have to revolutionize the very way its industries are organized. It must shake out the thousands of low-value middlemen and integrate the tiny factories into larger, more competitive companies. It must train a workforce in modern technology and business practices. And, it must instill transparency and a uniform rule of law. Such an effort could span generations.


July 16, 2007 in Asia, Economic Growth and Development | Permalink


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Personally, I was in China for a couple of years and I should say that the ideas in this article are very applying..

Posted by: Marius | July 17, 2007 at 04:07 AM

Per capita GDP in developed countries is characterized by fluctuations (normally distributed) around constant annual increment, as presented in my paper

Real GDP per capita in developed countries http://ideas.repec.org/p/pra/mprapa/2738.html .

Therefore, the growth rate is not a good representation of economic growth. The same annual increment in GDP per capita means very fast growth for relatively poor countries, as China, and for rich countries - slow growth. In past, developed counties had the same rapid growth, which corresponded to low GDP per capita.
Thus, economic trend for growth rate is proportional to the reciprocal value of the attained level of GDP per capita.

For the sake of consistency, the curves presented in your post have to be multiplied by the attained level of real GDP per capita. Then you can compare economic performance of poor and rich countries. I did it already and found that China and Russia are not so much impressive in annual increments as in growth rates - they are just catching up. There is no way for them, however, to really join the club of rich countries, the absolute gap, as expressed by per capita GDP, is not decreasing. The situation is similar for new members of the EU. Unfortunately for them, they are lagging further and further I term of absolute GDP per capita.

Posted by: Ivan Kitov | July 17, 2007 at 06:17 AM

Here is the link to the figure showing annual increment of real GDP per capita as the function of the attained level of real GDP per capita in China, Russia, and India compared to that in France.


Posted by: Ivan Kitov | July 17, 2007 at 08:11 AM

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June 11, 2007

One Savings Glut That Carries On

From the Wall Street Journal:

China's monthly trade surplus soared 73% in May from a year earlier, a state news agency reported Monday, amid U.S. pressure on Beijing for action on its yawning trade gap and the possibility of sanctions.

Exports exceeded imports by $22.5 billion, the Xinhua News Agency said, citing data from China's customs agency. That figure, close to the all-time record high monthly surplus of $23.8 billion reported in October, came despite repeated Chinese pledges to take steps to narrow the gap by boosting imports and rein in fevered export growth. The report gave no details of imports or exports.

The U.S. government has been pressing Beijing for action, especially steps to raise the value of the Chinese currency. Critics say the yuan is kept undervalued, giving Chinese exporters an unfair advantage and adding to the country's growing trade gap.

Apparently, the U.S. Senate is about to officially jump into the yuan-peg fray.  From Bloomberg:

The U.S. Senate will introduce a bill this week to pressure China to strengthen its currency, the Financial Times said today, citing unidentified people close to the situation.

The market, on the other hand, suggests that maybe things aren't so straightforward:

The gap may increase pressure on China to let the yuan appreciate to reduce tensions with trading partners and cool the world's fastest-growing major economy. The currency today had its biggest decline in 10 months and has reversed gains made in May when Chinese and U.S. officials met for trade talks in Washington...

The yuan declined 0.2 percent to 7.6691 against the U.S. dollar at 4 p.m. in Shanghai today, the biggest one-day fall since Aug. 15.

The currency has strengthened 7.9 percent since China scrapped a 10-year peg to the dollar and revalued the currency in July 2005. The 0.74 percent monthly gain in May was the biggest since the end of the fixed exchange rate.

I'm not sure what the story is there, but Nobel Prize winner Robert Mundell warned this weekend that too much pressure on the Chinese may not imply an appreciating yuan.  From the Wall Street Journal (page A9 in the weekend print edition):

... in the unlikely event that the yuan were suddenly made fully convertible, Mr. Mundell predicts that the value of the currency would fall, not rise. Many Chinese savers would want the security of keeping at least some portion of their wealth in foreign currency and would convert quickly, worried that the government might slam the door shut. This might become a self-fulfilling prophecy. In the U.K. in 1947, the Bank of England saw its reserves evaporate in a matter of weeks, and reinstated capital controls. The movement to full convertibility is fraught with danger and must be approached cautiously.

Meanwhile, yet another Nobel Prize winner, Michael Spence, suggests there is something much deeper in play than mere currency policy.  From China Daily:

China has been in a high growth mode since it started economic reforms in the late 70s. Its almost three decades of high growth is the longest among the 11 high-growth economies in the world and part of "a recent, post-World War II phenomenon". And the Chinese economy will sustain its fast growth for at least two more decades...

The high levels of savings and investments both in the public and private sectors, resource mobility and rapid urbanization are the important characteristics of China's high growth, says Spence, who is also the chairman of the independent Commission on Growth and Development. The commission was set up last year to focus on growth and poverty reduction in developing countries. China's saving rate of between 35 to 45 percent is among the highest despite the relatively low level of income of its people. Resource mobility has generated new productive employment to absorb surplus labor in a country where 15-20 million people move from the rural areas to the cities every year.

The most important feature of sustained high growth is that it leverages the demand and resources of the global economy, says Spence. All cases of sustained high growth in the post-War period have integrated into the global economy because exports act as a major high-growth driver.

Enumerating the reasons why the Chinese economy will sustain its high growth rate for another two decades, he says: "There are basically two reasons. One is that there is still a lot of surplus labor in agriculture. The engine for high growth is still there. The second is that the Chinese economy has diversified very rapidly. It's quite flexible and entrepreneurial."

Spence clearly believes that the Western complaints of too low a value for the Chinese currency and too high a surplus in its trade balances will self-correct, with a little help from government policy:

The only way to stop China's high growth would be to shut the economy off from the rest of the world. "It's just not going to happen." Even 20 years later, China will continue to grow because its currency will appreciate, helping raise the income level and increase the wealth of the people...

... To balance the huge trade deficit, Spence hopes China would boost domestic consumption and bring down the saving rate.

He acknowledges, though, that the relatively high-income younger generation is spending more despite the fact that East Asians traditionally are good at saving. A solution to the trade imbalance could also be found by increasing social security and the pension system, making them available to everybody, improving the medical coverage in the rural areas and making education at all levels affordable.

Meanwhile, the move to liberalize domestic financial markets in China took another step forward this weekend.  From Reuters, via China Daily:

China Export-Import Bank (EximBank) is set to issue 2 billion yuan (US$261 million) in yuan-denominated bonds in Hong Kong this month, making it the first Chinese lender to do so, sources told Reuters on Monday.

Exim Bank is to sell the 3-year bonds only to institutional investors, an investment banking source said, adding that the bank would decide on the yield later.

Never boring, is it? 

June 11, 2007 in Asia, Economic Growth and Development, Exchange Rates and the Dollar, Trade , Trade Deficit | Permalink


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Mundell's comments make no sense to me. Why would chinese citizens convert a rising Yuan to a falling USD or falling Euro? Security? If chinese citizens are so concerned with security, why are they pumping money into equities at an alarming rate?

Those who think the Yuan is undervalued can never explain why the PBoC have to excahnge an awful lot of Yuan for USD to keep the currency peg. It's never the other way around.

Posted by: Charlie | June 11, 2007 at 07:38 AM

Mundell may be right about short term allocation issues, but comparing a relatively declining UK do a relatively ascending China isn't analogous.

Posted by: cb | June 11, 2007 at 01:17 PM

Mundell also went for the "everything all at once" approach. It doesn't have to be that way. The yuan can be allowed to float without allowing full convertability. That has been done before, has it not?

Posted by: kharris | June 11, 2007 at 01:47 PM

"Even 20 years later, China will continue to grow because its currency will appreciate, helping raise the income level and increase the wealth of the people..."

by correlation: the US currency will continue to fall helping to reduce the income level and decrease the wealth of the people ....

Posted by: zinc | June 11, 2007 at 10:38 PM

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May 22, 2007

Too Much Ado About The Yuan Peg?

Over at Angry Bear, pgl provides a rundown on a bit of a blogworld dust up over the consequences of Chinese exchange rate policy.  The first fighting words were issued by Dartmouth's Matthew Slaughter. From the Wall Street Journal Online:

... the dollar-yuan peg are misplaced. Economic theory and data are very clear here on two critical points. Controlling a nominal exchange rate is a form of sovereign monetary policy. And monetary policy, in turn, has no long-run effect on real economic outcomes such as output and trade flows.

Gotta say that makes an awful lot of sense to me, but Brad DeLong nonetheless takes exception:

... Matthew Slaughter's assertions are based on his assumption that full long-run monetary and price-level adjustment has already taken place, yet the pace and magnitude of China's reserve accumulation (and Japan's) are very strong signs that the PBoC and the BoJ are blocking monetary and price-level adjustment--and that is the problem.

Brad and pgl both cite the cogent analysis of knzn:

What the People’s Bank of China is doing is... attempting to cool the economy by raising interest rates.... It is trying to keep exports strong by keeping the currency weak, and at the same time, it is trying to reduce domestic demand by tightening domestic monetary policy. As a result, it is accumulating a huge, huge, huge quantity of dollar-denominated assets, and this rate of accumulation is clear evidence of a policy conflict.

The conflict might be a bit more obvious if things were going in the other direction. If China were trying to peg the yuan too high rather than too low, while at the same time trying to stimulate, rather than cool, its domestic economy, it would be losing reserves rapidly. The process couldn’t continue, because it would run out of reserves. Then it would be forced either to abandon the peg or to tighten the domestic money supply dramatically. Because the process is now going in the opposite direction, there is no “crisis”, but otherwise what we are seeing is the exact inverse of conditions that would normally have led to a foreign exchange crisis.

Good stuff, from both Brad and knzn.  But I'm somewhat puzzled why they are so exercised by Slaughter's comments.  Says Brad:

To state that if we assume that the problem doesn't exist then we conclude we don't have a problem is just not very helpful. And not one in a hundred readers of the WSJ op-ed page will be able to diagnose just how Slaughter's piece is a misleading tautology.

Adds knzn: 

Of course, when a country does have a foreign exchange crisis, we don’t read economists saying that it is just “sovereign monetary policy” and nothing to worry about. When the process happens in reverse, though, apparently central banks can find plenty of apologists for their unsavory policies.

I'm failing to see as much conflict as all the spilled typing suggests.  I would not myself characterize an exchange regime, fixed or otherwise, with a word like unsavory -- or distasteful, yucky, stinky, or with any other such value-laden language.  knzn makes the point that is worth making which is, if markets are allowed to work, unsustainable pegs won't be sustained.  In the case of an overvalued currency, the whole scheme ultimately collapses for want of foreign currencies with which to intervene.  In the case of an undervalued currency, monetary creation results in the inflation that depreciates the value of the currency, which solves the under-valuation problem. I think Matthew Slaughter agrees.

Furthermore, I certainly agree that there may be lots of ups and downs along the road to long-run neutrality of monetary policy, as Professor DeLong indicates. But I don't see anything suggesting that Professor Slaughter has it wrong in the larger scheme of things.  Writes the former:

This policy conflict could end in one of several ways:

    1. A sudden large burst of inflation in China, as the PBoC finds that it can no longer maintain both the current exchange-rate peg and a stable effective money stock, and sacrifices the second to the first.
    2. A sudden large rise in the value of the yuan, as the PBoC finds that it can no longer maintain both the current exchange-rate peg and a stable effective money stock, and sacrifices the first to the second.
    3. Slow and gradual versions of (1) and (2) as holders of nominal yuan assets in the first case and nominal dollar assets in the second let their wealth be gradually but substantially be eroded without ever taking steps to cut their losses.
    4. Something more unpleasant.

Items 1-3 on that list sound to me an awful lot like the nominal adjustments emphasized in the Wall Street Journal piece.  What's more, I don't think Matthew Slaughter is quite as sanguine as suggested by either knzn or Brad DeLong:

Put it this way: In a counter-factual world where over the past decade China allowed the yuan to float against the dollar, the U.S. would still have run a large and growing trade deficit with China. The real economic forces of comparative advantage that drive trade flows operate regardless of which nominal prices central banks choose to fix.

This week the U.S. government hosts Chinese officials for the second round of the Strategic Economic Dialogue. Treasury Secretary Henry Paulson and Chinese Vice Premier Wu Yi have framed the SED as a forum to address complex policy issues associated with the links between our two countries. In China, further capital-market reform is needed to support economic growth via better risk management and capital allocation throughout all sectors of the economy. Here at home, the large aggregate gains the U.S. has realized from freer trade and investment with China have also generated hardship, too. Many American workers, firms and communities have been hurt, not helped, by Chinese competition.

Issues like these are legitimate and real. But focusing on the dollar-yuan peg is a misplaced and counterproductive way to address them. Instead, let China continue to conduct its sovereign monetary policy and let the SED continue to engage the real challenges. Stop fixating on the fix.

I may be completely misinterpreting things, but it seems to me that the point is simply that the peg alone cannot be the biggest issue in the discussion.  I guess the disagreement here may be that the Slaughter piece puts more emphasis on the strains that trade-related adjustments in resource allocation inevitably bring, while pgl (and DeLong and knzn, I guess) are more concerned about distortions in resource allocation associated with questionable trade restrictions, capital controls, bad economic policy in the U.S., and so on.  Fair enough.  But none of that is about the yuan peg per se, and I think Matthew Slaughter was right to say so.   

May 22, 2007 in Asia, Exchange Rates and the Dollar | Permalink


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Well, Matthew seems to slide from the assumption "in the long run, money is neutral" to "we are in the long run" to "that China is getting its monetary policy wrong doesn't matter." And both Friedman and Keynes would disagree: monetary policy does matter a lot, and to analyze it in a model in which you have assumed it doesn't matter is not terribly productive.

Posted by: Brad DeLong | May 23, 2007 at 09:32 AM

The problem is not so much that the policy is unsustainable as that it is sustainable for an awful long time before it collapses. Because much of the intervention is sterilized, the real exchange rate adjustment can be put off for many years (and won’t necessarily take the inflationary form associated with Hume). The risk that it will take some unpleasant form increases with time. The yuan peg, partly sterilized as it is, is causing China to supply a credit junkie (the US) with cheap credit, and one has to be concerned about what the withdrawal symptoms will eventually be like.

Posted by: knzn | May 23, 2007 at 02:12 PM

I second knzn's point. I was also agitated by the argument that the SED should be about things other than the exchange rate peg. I personally think it should be mostly about the exchange rate. It seems to me that the need to maintain the exchange rate peg (and the myriad of policies that support it) limits China's ability to engage in say true banking reform, since it needs the banks to absorb its sterilization bills, and limits China's ability to stimulate consumption since stimulating consumption when exports are contributing so positively to growth would lead to overheating.

I also worry a bit that focusing on what slaughter calls the "real issues" will lead to over-emphasis on gaining market access for US financial firms -- and thus support a political economy where the existing winners from trade with china get even more w/o doing much more to help those who aren't winning.

finally, i objected to Slaughter's argument that China's growing trade with Europe over the past ten years proves the XR doesn't matter for trade flows. it seems to me that the strong acceleration in Chinese export growth to europe (and the rise in China's bilateral surplus with europe) after the rmb fell v the euro suggests that the nominal Xr matters. neither the RMB/ euro not the pace of Chinese export growth to europe has been constant since 97.

Posted by: bsetser | May 23, 2007 at 03:07 PM

Those "accumulations" from Brad's remark stir me to spillover:

"... Matthew Slaughter's assertions are based on his assumption that full long-run monetary and price-level adjustment has already taken place, yet the pace and magnitude of China's reserve accumulation (and Japan's) are very strong signs that the PBoC and the BoJ are blocking monetary and price-level adjustment--and that is the problem."

And the facilitating role of the transnational companies that allow GM (to pick the obvious durable good one, but there is also the larger and quieter carry traders in the case of Japan) to post significant profits from their Chinese plants? A role that appears may outlast the US consumer as the trade shift to the underfed European consumer may be long term.

Posted by: calmo | May 23, 2007 at 03:53 PM

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May 18, 2007

China Having Problems With The Peg?

The Financial Times reports:

China’s central bank on Friday widened its daily trading band against the dollar for the renminbi to 0.5 per cent from 0.3 per cent, while raising interest rates and banks’ reserve requirements.

The widening of the trading band is sure to fuel expectations that China will allow the renminbi to rise at a faster rate as its politically sensitive trade surplus soars.

You were expecting the "however", weren't you?

However, People’s Bank of China insisted the move was just a further step in its gradual reform of its currency exchange regime and that it should not be seen as prelude to a revaluation.

"(The widening) is a constructive institutional step, and certainly does not signify that there will be great volatility in the renminbi exchange rate, even less does it signify that there will be a large appreciation,” the central bank said.

The track record suggests you should believe what they say, and some are of the opinion that this is a lot of not much.  From the Wall Street Journal:

The band widening is a "symbolic but laudable" move that will help shift China's economy toward more domestic-led growth, said analysts at Goldman Sachs.

It "means nothing" for yuan appreciation, said a Shanghai-based trader with foreign bank. "We don't even use half of the current band. This is just to impress [U.S. Treasury Secretary] Henry Paulson."

Nonetheless, a report on the policy move from China Daily has a more urgent tone than usual:

... the tightening policies have largely failed to prevent the economy from becoming overheated. The gross domestic product grew 11.1 percent in the first quarter of the year, compared to last year at 10.7 percent, statistics showed.

Total value of the Chinese stocks hit 17.43 trillion yuan (US$2.27 trillion) yesterday and has likely surpassed the total in household deposits, as money continues to flow out of banks and into the stock market.

In April, total household renminbi deposits dropped to 17.37 trillion, a decrease of 167.4 billion yuan (US$21.7 billion) compared with March. Household deposits may drop further in May as investors are rushing to withdraw money from savings accounts and pump them into the stock market, the Shanghai Securities News reported.

It should be noted that, if the claim that the yuan remains undervalued is correct, demand pressures on the economy are inevitable.  From macroblog past:

... abstracting from capital controls, theory would predict an undervalued currency is a problem that should eventually take care of itself.  The reason is that pegging the nominal exchange rate -- the only currency price a central bank can hope to influence in the long run -- requires flooding the world with your domestic currency.  Given enough time, the inflationary consequences of those policies will cause the fundamental value of the nominal exchange rate to fall on its own.

"Abstracting from capital controls" is not, of course, a phrase that ought to be used in discussions of Chinese financial markets.  But the effects of mispricing have to show up somewhere, and it does appear that the yuan peg may have become a bit of a struggle.

May 18, 2007 in Asia, Exchange Rates and the Dollar | Permalink


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So, what happens to interest rates in the U.S. on Monday?

My prediction is Sunday night, the treasuries will sell off a bit more. They have had steady erosion on no news the past couple of days, so information may have been leaked.

Posted by: Jeff | May 19, 2007 at 11:29 AM

with paulson and wu scheduled to meet, bond market likely anticipated some chinese mollification toward u.s. position with bias toward a modest chinese slow down suggesting u.s. may also slow fractionally

Posted by: peter miller | May 19, 2007 at 03:38 PM

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April 15, 2007

Heard This One Before?

The Financial Times reports:

The world’s biggest economies on Saturday strengthened their commitment to reducing global imbalances but stopped short of making these pledges binding.

The “multilateral consultations” undertaken by the International Monetary Fund, included plans by China to make its exchange rate more flexible “in a gradual and controlled manner” against a basket of currencies.

There's not much to suggest that the "gradual and controlled manner" is having any impact quite yet.  Brad Setser puts it about as succinctly as it can be put:

There is just no way to get around the fact that China bought a ton of foreign exchange in the first quarter.

The Treasury is turning up the heat...

U.S. Treasury Secretary Henry Paulson stepped up his push for rule changes that would allow the International Monetary Fund to monitor and disclose cases of countries that manipulate their currencies, calling for action "very soon.''

"Reform of the IMF's foreign-exchange surveillance is the linchpin'' of needed changes in the 63-year-old fund, Paulson said today in a statement to the IMF's semiannual gathering in Washington. "We look forward to action in this important area very soon after these meetings.''

... but the response of the Chinese government sounds pretty familiar:

"We have noted the efforts to strengthen Fund surveillance since the Singapore Meetings, including through possible revision of the 1977 Decision on Surveillance over Exchange Rate Policies," [Hu Xiaolian, deputy governor of the People's Bank of China] said.

"In this regard, we wish to emphasize that, first, revision of the Decision should not proceed too hastily," she said. "In making adequate and careful analysis, the Fund must take the opinions of all concerned parties into account and build broad consensus among all member countries to ensure that it would benefit them all."

Second, in strengthening surveillance, the Fund should be realistic, and not overestimate, the role of exchange rate, Hu said.

"Biased advice would damage the Fund's role in safeguarding global economic and financial stability," she said, while emphasizing that the focus of surveillance should be consistent with the purposes laid out in the Fund's Articles of Agreement.

"Due respect should be paid to the fundamental role of sustaining growth in promoting external stability. External stability can only contribute to overall sustained stability when anchored by domestic stability," she concluded.

Also Saturday, Hu Xiaolian said that China's economic growth model has undergone welcome changes and its economy will continue on path of steady and fast growth.

"The Chinese economy is projected to remain on a fast growth track -- exceeding 8 percent in real terms -- in 2007," she said, adding that the government will give more emphasis to the quality and sustainability of economic growth.

She also said the reform of the China's foreign exchange regulatory framework has steadily deepened. "The RMB exchange rate formation mechanism is being improved and flexibility of the RMB exchange rate has increased significantly," she said.

Sounds like the status quo to me.

April 15, 2007 in Asia, Exchange Rates and the Dollar | Permalink


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"Sounds like the status quo to me."

Yep, but here's an interesting prespective from Latin America, reported by MarketWath's Rex Nutting:

Argentine Economy Minister Felisa Miceli argued that the [IMF]'s problems go far beyond inadequate surveillance of currencies.

"To many in both the developed and developing world, globalization has not brought the promised economic benefits and this is breeding a nasty protectionist sentiment," Miceli said. "Ministers need to be mindful of the political consequences of having the fund advocating for policy changes that breed protectionism and radical political opposition."

Income inequality is growing everywhere. "What is the fund doing about this?" said Miceli. "Well, very little or perhaps even more harm than good."

Miceli said effective currency surveillance would not be easy.

"If the fund has not been more effective in the surveillance of systemically important countries, it is mostly because these countries do not need to listen to the fund's exhortations," either because they, like the United States, can print all the currency they need, or, like China, have amassed huge currency reserves, Miceli continued.

Posted by: Wayne | April 15, 2007 at 11:26 AM

I agree Dave,

pretty much steady as she goes which after all also is what the data (oh sorry , Setser :)) tells us.

Meanwhile, everybody is looking to the ECB and the Euro-dollar. Indeed it is ticking up but for how long, or should I say for how long can the ECB keep on nudging upwards?

Of course then, the ECB and other European politicians are looking to Japan arguing that it is certainly about time for the Yen to reflect the fundamentals of the Japanese economy.

Now, that we certainly also have heard before :).

Posted by: claus vistesen | April 15, 2007 at 02:50 PM

Non-binding is the way everything is done these days. Like when you say to somebody you have no intention of seeing again, "I'll call you."


Posted by: muckdog | April 15, 2007 at 09:44 PM

China's attitude towards the IMF/G7 is exemplefied by two facts:

1) The PBOC governor and Finance Minister stayed at home;

2) They marked USD/CNY higher today

Posted by: Macro Man | April 16, 2007 at 09:01 AM

As long as China remains such a large buyer of foreign exchange, none of the other great powers will have any leverage to change China's trade behavior.

The US could unilaterally prevent China from buying T-bills, but that would hurt Americans more than the Chinese.

This is only an issue because unions are politically significant.

Posted by: Erasmus | April 17, 2007 at 05:36 AM

a few simple truths:
- The enormous r.e. bubble we've witnessed was NOT caused by low interest rates OR the FED.
- Bubble states, including CA, NV, FLA, have yet to sign on to CSBS' nontraditional mtg. guidance. (It's been five months since CSBS issued the guidance & seven months since the FED directed its national banks on the issue.)
- National Bank owned credit card issuers are STILL aggressively offering 0% interest financing on transfers & purchases for the next YEAR.
- Freddie-Mac & Fannie-Mae are dangerously out of control, as are way too many of our hedge funds.
- Bond market strategists strongly believe BB WILL ease ff rates come fall. (So much for my theory they'd fall into line if BB talked straight to them!)

BB inherited the greatest mess the FED's seen since the 1930s, but BB alone (not Paulson) will be judged on whether we return to responsibile economic decision-making.

It is NOT the FED's job to see we never endure the horror of two successive quarters of negative GDP growth.

Posted by: bailey | April 19, 2007 at 12:32 PM

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March 18, 2007

Inflation Chickens Roosting In China?

From China Daily:

The People's Bank of China, the central bank, raised key savings and lending interest rates from Sunday, March 18, the third time in 11 months in a bid to curb inflation and asset bubbles in the world's fastest-growing major economy.

The one-year benchmark lending rate will be raised to 6.39 percent from 6.12 percent, and the one-year deposit rate will be increased to 2.79 percent from 2.52 percent, according to a statement on the bank's website (www.pbc.gov.cn) .

Time to start up the yuan appreciation clock?  From the Wall Street Journal:

After Saturday's credit tightening, [Goldman Sachs Group Inc. economist Hong Liang] said, she expects authorities in China to continue efforts to pull liquidity from the financial system with technical measures, possibly another interest rate increase and steady appreciation of its currency against the U.S. dollar...

Many economists regard China's tight grip on the value of its yuan as an underlying reason for Beijing's concern about financial system stability. A weak currency helps keep exports cheap and China's strong export growth has pumped U.S. dollars into the country, as evidenced by foreign exchange reserves that top $1 trillion. When that money is moved into yuan, banks are left flush with funds to lend out. Too much lending risks sparking inflation or leaving banks holding bad loans.

The Chinese government, however, continues to suggest that we should not expect too much too fast.  From the Financial Times:

China on Friday sought to reassure global currency markets that a new state investment agency set up to chase higher returns for its $1,000bn-plus in foreign exchanges reserves would not harm the value of the US dollar.

Wen Jiabao, premier, said at a press conference to close the National People’s Congress that investments by the agency “would not have any impact on US dollar-denominated assets”.

Mr Wen’s comments were reinforced by the People’s Bank of China, the central Bank, which said in a report issued hours later that it would not make “frequent, major adjustments to the structure of the reserves in response to market movements”...

Mr Wen’s reassurance on the US dollar is also in China’s self-interest, since any dollar sell-off would leave huge capital losses for Beijing’s existing holdings.

Are an unadjusted yuan, still-strict capital controls, and low inflation compatible goals?  Normally one would would think not, but we shouldn't forget this (again from the Wall Street Journal):

China only reluctantly adjusts base interest rates. Analysts say that reflects how interest rates have less impact on lending and borrowing decisions in China than they do in countries with more highly developed financial systems. Instead, to temper lending and the economy, China's central bank more often relies on moral suasion with state-controlled banks and technical adjustments to capital requirements.

So, the answer is probably "Sure, if the government is willing to institute even tighter controls on the allocation of financial resources."  I doubt, however, that many would be inclined to advise taking that path.

March 18, 2007 in Asia, Exchange Rates and the Dollar | Permalink


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February 21, 2007

A Dent In The Yen Carry Trade... Oh, Wait

A few weeks back, my friend Edward Hugh was monitoring the then latest thinking from the Bank of Japan:

Bank of Japan policy board member Hidehiko Haru has underlined what most Bonobo readers should already know, that internal consumption in Japan is week and that there's no threat that rising prices will cripple economic growth. Conclusion: there's no hurry to raise rates:

"Given that there's no evidence of any inflationary risk, there's no need to rush,'' Haru, 69, said today in a speech to business executives in Shizuoka city, Japan. "Gradual adjustments will be needed and will be made based on improvements in the economy and prices.''

Apparently, the "gradual adjustments" phase has arrived.  From the Financial Times:

The Bank of Japan’s policy board on Wednesday voted eight to one to raise interest rates a notch to 0.5 per cent, pointing to strong economic growth data as it made the first increase since July...

The BoJ’s decision to raise rates came as the result of strong growth in the fourth quarter, when gross domestic product expanded by 4.8 per cent on an annualised basis. That was the only significant positive piece of data released since last month when the board voted six to three against a rate increase.

Why?  Good question, I guess:

Masaaki Kanno, chief economist at JP Morgan in Tokyo, said: “It is a little puzzling to explain why five board members changed their mind.” He said the GDP data on its own, by definition backward looking, was not enough to explain a rise in terms of the bank’s stated forward-looking framework...

However, leaving aside what he said was the bank’s failure properly to explain its rationale, Mr Kanno said the board was justified in raising rates. He said it had stressed the second pillar of its policy framework, which concentrates on risks. These included the possibility of an asset price bubble and, particularly, risks associated with the weak yen, he said.

Yuka Hayashi, reporting for The Wall Street Journal, expands on that idea:

"As world financial markets become integrated, the time has come for us central bankers to conduct monetary policy while keeping firmly in mind its external consequences," BOJ Governor Toshihiko Fukui told a news conference.

Specifically, the governor said the BOJ wanted to quench expectations that Japanese rates would stay very low for very long, which might cause them to take "extreme positions." He said the BOJ had in mind, among other aspects of global markets, the so-called "carry trade," where investors borrow money at Japan's low rates and invest it elsewhere where returns are higher. Mr. Fukui said such borrowing could present a risk to the global economy if unwound suddenly.

But, my oh my, how events have a way interfering with the message.  From Bloomberg

The dollar approached a four-year high against the yen and rose versus the euro after a government report showed U.S. consumer prices in January increased more than economists forecast.

Investors bought the U.S. currency as signs of inflation may cut speculation that the Federal Reserve's next move is to reduce borrowing costs. The dollar's advance started after the Bank of Japan said further interest-rate increases would be gradual. The yen declined to near an all-time low versus the euro.

"The report works in favor of the dollar,'' said Shaun Osborne, chief currency strategist at TD Securities Inc. in Toronto. "Inflation is creeping up. The Fed is going to keep rates on hold. There isn't a rate decrease anytime soon.''

The more things change...

UPDATE: Brad Setser, insightful as ever, has some thoughts on the size of the carry trade, and adds that "the market consensus certainly seems to be that Japanese rates aren't going to rise far or fast enough to put a real dent in the carry trade."

February 21, 2007 in Asia, Data Releases, Exchange Rates and the Dollar, Federal Reserve and Monetary Policy, Inflation | Permalink


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Dave, (OT) If you haven't seen it, this Charles Hugh Smith post of 2/21/07 on our housing exposure presents a wealth of info. & includes a few wonderful links which were new to me.

Posted by: bailey | February 22, 2007 at 02:11 PM

the boj has lost a lot of credibility (if not all....).

on the one hand they want to stop the addiction of cheap money, they want to end the carry trade, they want to implement a forward looking policy, and they have adopted the "core" rate excluding food.....(they are really serious about their inflation fighting mission....) etc.......

The bank is counting on consumption, which accounts for 55% of Japanese GDP, to become the locomotive of the economy. Households are certainly spending what they have. According to the OECD, Japan's household saving rate has fallen by over eight percentage points since 1998, a deeper plunge than America's. The country's households now fail to dispose of just 2.9% of their disposable income.........(wow!!)


Posted by: jmf | February 23, 2007 at 03:30 PM

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November 22, 2006

Inequality: Not Just Made In The USA

From the Financial Times:

China’s poor grew poorer at a time when the country was growing substantially wealthier, an analysis by World Bank economists has found.

The real income of the poorest 10 per cent of China’s 1.3bn people fell by 2.4 per cent in the two years to 2003, the analysis showed, a period when the economy was growing by nearly 10 per cent a year. Over the same period, the income of China’s richest 10 per cent rose by more than 16 per cent...

China, which had relatively even income distribution in 1980 when it embarked on market reforms, is now “less equal” than the US and Russia, using the Gini co-efficient, a standard measure of income disparities.

The Wall Street Journal has more (on page A4 of today's print edition):

The reason for the income decline at the bottom isn't clear. The World Bank hasn't completed its analysis and its conclusions haven't been published. Even so, the data call into question an economic model that economists have held up as an example for other developing nations.

"This finding is very important. If true, it sheds doubt on the argument that a rising tide lifts all boats," said Bert Hofman, the World Bank's chief economist in China...

Many observers place part of the blame on the way China dismantled its social-welfare system as it phased out state control of the economy -- without building up much to replace it. Health care has become a point of particular concern, as costs shoot up without any widespread system of medical insurance to cover them.

Here is an important piece of information:

The World Bank's Mr. Hofman says the bank's analysis shows the majority of China's poorest 10% appear to be only temporarily poor, thrown down by some setback like sudden illness, the loss of a job or the confiscation of land. That suggests that a basic social safety net, like medical insurance or unemployment benefits, could help move them back out of poverty. Only about 20% to 30% of the poorest appear to be long-term poor, and even they have some savings.

... the survey compares snapshots of the lowest tier of Chinese society at two different points, rather than tracking the same of group of households over time. So, it doesn't necessarily mean that the people who were in the poorest 10% of society in 2001 were all 2.5% worse off in 2003.

Temporary bouts of economic hardship are clearly a much different thing than persistent poverty traps.  And if, in fact, poverty is predominantly transitory, we should perhaps be more circumspect about declaring that a rising tide fails to raise all boats.  Rising inequality -- here and elsewhere -- may be very well be a problem.  But policymakers would be well advised to understand what problem it is, before the surgery begins.

November 22, 2006 in Asia, Inequality | Permalink


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nice little summary of the wall street journal
there definately has something to be done about the poor chinese

Posted by: Otto | November 22, 2006 at 06:52 AM

Well, I guess the World Bank chief economist ought to read up on Kuznets. Also, there must be some kind of reason (and not just BW2) why China wants to make welfare a priority in coming years.

Posted by: 4degreesnorth | November 23, 2006 at 05:47 AM

I wonder if there is a correlation between educational achievement and poverty in China. The linkage in the United States is clear.

Posted by: jeff | November 24, 2006 at 10:08 AM

One place to look may be labor market rigidity. Not the kind we tend to think of in G10 countries. Labor mobility is limited in China by a social/legal system that is arranged to maintain stability. Those who are from the countryside have very limited right to work elsewhere. (Those from anywhere have a limited right to work elsewhere.) One consequence is that they can be paid less and treated worse in industrialized areas than those from the industrial region. That makes insecure, non-local workers preferable to factory managers. Those with employment rights have a harder time getting work, while those who get work have limited bargaining power. Locals from industrialized areas become transients if they go in search of work beyond their own region, adding to downward pressure on low-skilled factory wages. This system also puts pressure on incomes in farm areas, because it discourages farm workers from moving to industrial areas.

I would also point out what looks like over-eagerness on the part of our host to warn against jumping to conclusions when the conclusion is that classical assumptions don't work. Evidence shows up questioning a rising tide lifting all boats? Oh, we must wait before acting. Hint that one's priors are confirm don't seem to require equal caution. Doesn't objectivity imply equal scepticism in both directions?

Posted by: kharris | November 24, 2006 at 11:27 AM

kharris -- Sorry if I was unclear. I don't dispute the evidence that growth alone does not seem to have reliable effects on poverty numbers. But I am not convinced that we really know how to think about poverty statistics when we see it, nor do I think all proverty is created equal. We know for example that the labor force particpation rates of young people have fell sharply in the last recession, and have not recovered. That is likely to increase poverty numbers, but is it something to worry about? I'm not so sure -- you have to tell me why the participation rate fell. If it is because of delayed entry into the labor market to build human capital, then I am not worried at all.

I'm not saying that is the answer, least not for all of the incidence of poverty we observe. But neither am I willing to accept knee-jerk reactions to poverty numbers that offered without any thought about what the numbers really reflect.

Posted by: Dave Altig | November 28, 2006 at 07:32 AM

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