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Pressure from U.S., other trading partners works

C. R. L. Narasimhan

CHENNAI: The revaluation of the Chinese currency by 2.1 per cent to the U.S. dollar is an enormously significant development. The yuan was pegged at 8.28 to the dollar since 1995. The new rate at 8.11 yuan to the dollar may be well short of the nearly 10 per cent revaluation the U.S. and its other trading partners were hoping for. But it is the abandonment of the decade old peg and not the extent of revaluation that is the major news for now. The announcement from the People's Bank of China says that the yuan also known as the renminbi (RMB) will be allowed to move in a narrow range of 0.3 per cent up or down the previous day's closing. The mechanics of ensuring this will be closely watched all over the world. Many are already speculating as to whether the Chinese central bank will further loosen up in the days to come. The fixed exchange regime served China well in many respects for most of the last decade. Most experts agree that without the peg, China could never have managed such a strong export led growth. The Chinese currency escaped the fate of many free floating Asian currencies during the late 1998. There are basically two sets of reasons as to why China has abandoned a currency regime that it has practised with great success for a decade. The most obvious one is the pressure from the US and other trading partners of China. A cheaper yuan has made Chinese exports enormously competitive. Easy money amidst red-hot growth can fuel bubbles and this may already be happening with the Chinese real estate market. Hence there are strong macroeconomic justifications for China to let go its peg. The new regime characterised by a managed float and linking the home currency to a basket of currencies of trading partners sounds familiar to us in India.

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