Assignment

On
Problems faced by Chinese Economy during 2004, 2005
Group-5

 Economic Scenario in 2004-05

• Chain came under significant pressure to revalue its currency in
2004-05.
• China’s spectacular trade growth and apparent move of its
exports up the value added chain created tensions with its trade
partners, particularly US. In 2004, China’s trade surplus in goods
with US reached $80 billion, a 37% increase over 2003
(Exhibit7).
• US constantly argued that the Yuan is undervalued. Observers
also pointed to China’s excess exports and associated inflow of
dollars as evidence of an undervalued exchange rate against the
US dollar based on the price levels of Goods & services in China
compared with those of its trade partners.

 Concerns
• With a fixed exchange rate and leaky capital control (huge
amount in Net Errors & Omissions in BoP), China was limited in
its ability to correct the apparently overheating economy.
• Excess liquidity. Excess in foreign exchange reserves had not
been fully sterilized. Huge surplus in the current account of the
BoP leading to concern of money going out in longer term
• Need to pursue financial liberalization and having greater
flexibility
• Majority of SOEs making losses
• High rise of Non-performing loans to $650 billion
• Revaluing Yuan and float it against a basket of currencies
• Unemployment. Needed enough jobs to accommodate displaced
workers from Agriculture sector
• Concern of Trade Sanctions
• High Inflation (Exhibit 1 a).
• Huge accumulation of Forex than needed. These excess
reserves are an inefficient use of sacred national resources. Risk
of dollar depreciation involved.

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 Assignment
On
Problems faced by Chinese Economy during 2004, 2005
Group-5

• Developed two forms of severe macroeconomic imbalance:

a) Expenditure imbalance: very high investment and very low
consumption, giving rise to rapid capital accumulation;
Exhibit 2
b) External imbalance: Imbalance between expenditure and
production i.e. a huge surplus in the current account of the
balance of payments Exhibit 4

 Concerns in Revaluing Yuan

• In order to keep the check on inflation, China needed to have a
strong export sector. If Yuan rises too much then export in
China will go down leading to high inflation and high
unemployment as well.
• If Yuan rises too much, China’s U.S. Dollar forex will fall.
• Chinese have basically invested their reserves in US Treasury bill
and same will be affected.
• Price of Chinese goods will increase leading to reduced demand
of Chinese Goods in the U.S.
• Not floating the currency will affect China’s efforts to have Yuan
included in IMF’s basket of SDR currencies.

 Conclusion

• Pressure to revalue, including the threats of the trade sanctions

has led the Chinese Govt. to adopt a slightly more flexible policy
which pegs the Yuan to a basket of currencies rather than the
Dollar alone.
• China must let the value of its currency be determined by
market forces to have stability in long run.

Team-
Arvind Singh
Sourabh Sharma
Ramesh Kumar
Charu Chandra Varshney

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