If the Chinese continue with their efforts to open up the capital account — which increasingly suits them if these pressures are indeed boiling over — there is a growing risk that the capital flight might accelerate, triggering a major financial crisis. Not only that, those foreign investors and trading counterparties who have bought into the idea that settling in RMB is a good idea, could find themselves holding a much less valuable currency than they originally expected.
When the Chinese themselves are putting their money in anything but RMB — London, Canadian property, gold, luxury, commodities, equities — you have to wonder does it really make sense to buy into the hype about RMB settlement.
Is it really the hot new currency that will change global settlements, or are the Chinese perchance looking for as many ways as possible to recycle RMB into currencies that will genuinely protect purchasing power?
On which note, the following comment from Euromoney is worth a read.
As they note, while speculating that the renminbi could be overvalued by as much as 30 per cent.:
The evidence that RMB is overvalued is the deflationary effect it is exerting – seen in exporters cutting prices to compete, causing a profits squeeze, which in turn impacts investment. The transition requires careful management because if export- and investment-led growth fall away before domestic consumption is sufficient to fill the void, economic growth could fall sharply. The trade surplus bottomed out at 2.1% of GDP in 2011 rebounding to 2.8% last year, according to official figures. It has continued to widen this year, hitting $20.4 billion in May – not so much because exports are surging but because hoped for growth in imports has faltered, in line with a slowdown in consumption growth.
And the most important views of all may be those by Lombard Street’s Hong-Kong based economist Freya Beamish. As Euromoney reports:
Lombard Street Research’s Hong Kong-based economist Freya Beamish believes the exchange rate is a smokescreen and that RMB could be overvalued by as much as 30%. “Because China hasn’t been willing to allow the currency to appreciate nominally, it’s happened through a back-door way of inflation and that has persisted for a number of years, driving up the RMB,” she says. “Overvaluation of the RMB is now exerting a deflationary force on the economy and that’s causing a profits squeeze, which is the main factor curtailing growth.
“The symptoms are the product price deflation that China’s facing. If you look back to mid-2011, product prices went from inflation of about 7% annually to deflation of about 2% to 3% and that situation has persisted for the six intervening quarters, which strongly suggests there is some kind of overvaluation force from the RMB.”
Beamish adds: “So you have hefty product price deflation and it also makes sense from the macro story because adjusted unit labour costs of productivity have been inflating at about 11% in dollar terms since 2005 but that’s not the case for the major trading partners that China faces. “If a currency can’t appreciate in nominal terms, it will appreciate in real terms. So either you’ll have nominal appreciation of the RMB, or you’ll have prices in China inflating at a far greater rate than in, say, the United States, which is what we’ve seen. RMB has appreciated much more in real terms than in nominal terms.”
