RMB – Most Undervalued

G-20, the IMF, the OECD – all of the major institutions and central banks of the world are talking about the importance of repairing imbalances. Countries running large trade deficits, like the US would save more, consume less and produce more while export-driven economies like China would spend more and export less.

And again it all boils down to China. While most of China’s major economic competitors around the world have seen their currencies climb against the dollar by 20%, 30% and 40% in the last 8 months, the RMB has been virtually unchanged.

That is because China controls the value of its currency. And that creates a major advantage for China in the competition for world exports. It has long been a problem for the United States as cheap Chinese goods and cheap credit fueled a consumption binge for US consumers and a massive trade deficit. Only after the US Congress threatened to impose a tariff on Chinese imports, the RMB appreciates 17% against the dollar between 2005 and 2008. But since the financial crisis, China has returned to a peg against the greenback.

That is why while the rest of the world was in recession, China was still churning out growth and is now outperforming in the early global economic recovery.

Pressures are again rising for RMB appreciation. The recent depreciation of the RMB because of its peg to a weakening USD, the lack of restructuring in China’s growth model, rising trade protectionism, mounting capital inflows and surging FX reserves indicate that external imbalance is not repairable without price adjustment. The US-China trade negotiations will only move forward only if there is an underlying agreement for RMB to appreciate and this virtually guarantees that appreciation would resume in the near future.

I am looking for about 5-6% appreciation early next year for RMB easily and expectations for further appreciation may accelerate, but policy-makers are in no hurry given weak external environment and over-capacity in China.