The recent fluctuations in China’s currency typify the best and worst of a globalized world, where developments in one place can instantly change the political and financial calculations of governments in others. For most of human history, the communities, cultures and economies of the world existed independently of one another, separated as they were by vast distances and difficult terrain. It would, for instance, take months or even years for news of China to reach Europe across the great Silk Road trading route during the height of its use some 1,000 years ago. Even then, the communities along that route could hardly be considered entirely coherent.
But that is clearly no longer the case. And now, as China continues to adjust the yuan, markets throughout the world will react accordingly, even as they react differently.
Transforming from an export-led economic model to a consumption-led one could be described as changing from being like Germany to being like the United States, and China has tried to reproduce some of the advantages that the United States has created for itself in the same role. One of those advantages is the dominant position of the U.S. dollar in world trade, which means U.S. consumers can go deeply into debt and global demand for dollars will delay the moment at which this comes to a head by those debts being catastrophically called in. Thus China sought to grow international usage of the yuan, making strides in its attempts to do so. The next step would be for the yuan to be accepted into the International Monetary Fund’s “currency,” the Special Drawing Right. However, the IMF has said that China would need to liberalize its currency before such a step could take place. The IMF makes the decision every five years, with one originally set for November this year, though the institution recently announced that any changes will not be implemented until October 2016.
Meanwhile, the peg to the dollar aided China’s strategy as the strengthening dollar over the past two years enabled the yuan to rise alongside it relative to the world’s other floating currencies, empowering Chinese consumers and helping the changeover from an export- to consumption-based economy. But low global demand has not created a good climate for such change, and growth has been unsteady during this period, slipping to 7 percent this year. The baton pass from an export-driven to consumption-driven economy is risky, and exports need to hold up long enough for the Chinese consumer — and building blocks such as the reserve currency — to develop. When export numbers for July showed an 8.3 percent fall year-on-year, all signs seemed to point toward aloosening of controls, which would both please the IMF and, if the Chinese currency continued to weaken as many in the market expected it to, help boost exports.
Imports and exports as a percentage of GDP is an important issue. It shows that country is gradually going over to self-sufficient economics. The “changeover from an export- to consumption-based economy” means two possibilities: 1) they make debts or print money or: 2) they ‘make’ money via investments. IV.
“How China’s Currency Policies Will Change the World is republished with permission of Stratfor.”