Chinese Monetary Policy – exchange rate

1. Chinese Monetary Policy– exchange rate

2. Content Important events in exchange rate management The art of allocating wealth Credit slaverize Fact: rich becomes richer

3. two Key Milestones 1994 Jan. 1st integrate exchange rate market, consolidate and fix the exchange rate to 1: 8.7 USD 2005 July 21st Introduce “a basket of currencies” as for CNY exchange rate for references, appreciated 2% to 8.11 on that day.

4. 1994 PolicyWhat the government did price depending on “demand & supply” from government assigned bank,  but actually it is a pegged system 1:8.7 USD: CNY, with a floating allowance of 0.3% a day USD is the only reference currency. Consolidated the two market with a membership scheme, All trade and settlement are done by inter-banking quote system. Paying a premium on the supply of foreign currency in private sector. A lot government intervention.

5. 2005 policyWhat the government did RMB appreciated 2% to 1: 8.11 USD on that very day Added “a basket of currencies” as Reference currencies, they are: USD, HKD, JPY, EUR, GBP, MYR Golden bull for Chinese stock market until 2007 Release the inflation pressure from huge international reserve

6. Chinese Exchange rate policy concerns Americans insists that China is manipulating exchange rate to achieve price advantage to compete with American firms in manufacturing industry The Chinese policy makers view exchange rate policy as a means to achieve certain economical goals To avoid failure like Thailand in 1997, To attract foreign investment fund

7. Monetary Policythe art of allocating wealth分配財富的藝術 We all know about the three basic feature of money, medium of exchange, unit of account, and store of value. But in real world, it is more than that. There are several hidden identity of money We all learned about the time value of money, there are two key elements: Time and Price, or interest rate. Different price of money represented different future expectation of certain money  This indicates that the money today in different person’s possession does not necessarily worth the same to each other.

8. Monetary Policythe art of allocating wealth分配財富的藝術 We all learned about the time value of money, there are two key elements: Time and Price, or interest rate. Different price of money represented different future expectation of certain money  This indicates that the money today in different person’s possession does not necessarily worth the same to each other.

9. Monetary Policythe art of allocating wealth分配財富的藝術 Government can make benchmark prices for money through monetary policy (by setting different interest rate, exchange rate)  Government can control the future wealth of a society. However, this is not the most powerful tool. The most powerful tool is controlling the money supply. M1, M2, M2++ whatever strategy: Low inflation to encourage people to work hard High inflation to lick up the wealth the people created.

10. Monetary Policytwo-person economy But government can not just do that because there will be revolution fighting for this extreme unfairness. So they change the name, by using credit. Lets consider a two person economy A plants for food to survive and provide all raw material, and B is in charge of building infrastructure and other production for both of them.

11. Monetary Policytwo-person economy Think about A getting a mortgage for a house in economically good time from B. Pay only 20% of the total price, and borrow the rest under a “Monetary loose” phase. Borrowing to stimulate economy. In economics terms, it is bringing the money from the future to the present. It is increasing Money Supply, but the reality is their wealth does not worth the same, or, their wealth is “leveraged” At the same time, people will pay for the price of borrowing, say 5% of principal a year.

12. Monetary Policytwo-person economy Two years later, both A and B find that the price are inflated, as MS grows artificially by them. So B proposes to limit the credit to fight inflation, by doing so, interest rate has to go up, because supply of fund goes down, price of fund goes up. But A borrowed money before, so his price of fund went up as well. There is no influence on B because he does not need to borrow.  Rich people are richer and richer.

13. Monetary PolicyCredit Slaverize:信貸奴化 Summary of two person model for credit slaverizing: three steps 1. Grow the fleece: Loosen credit limit during expansionary phase  Bring future money to present artificially increase money supply without creating anxiety 2. Hunting the sheep: Tighten credit limit during contractionary phase  But it just stops bringing money from future to the present, it does not suck up the money brought before 3. Cutting the fleece: Force the poor into bankrupt and take over valuable assets increase debt burden of them by change the interest rate because they have to survive by relying on debt. Benefit from lending money, as the first owner of the newly created money

14. Monetary Policythe rich gets richer In China, the rich people are becoming richer and richer. According to Huren.net, in 2009, there are 825,000 people who has more than ￥10,000,000 worth of asset in China including 51,000 people with assets more than ￥100,000,000. In 2010, there are respectively 875,000 and 55,000

15. Monetary Policy the rich gets richer Combined wealth of top 10 richest year by year Source hurun.net

16. Monetary Policy the rich gets richer GDP per Capita in USD vs. Rich people wealth growth Source: IMF. 2010 World Economic Outlook

17. Summary There are two important Exchange rate policy adjustments 1994 and 2005 Mundel’s inconsistent trinity indicates that Chinese government is trying to allow free of capital flow in China Monetary policy is a useful tool to allocate the wealth of a society by using money as the liability of the whole society. Or credit slaverize The rich gets richer and richer as a result.