China’s Cautious Monetary Easing

Published on Author whelihans15

China’s second interest rate cut in three months raised suspicions that the government might be trying to devalue the yuan to unfairly boost exports, a valid concern considering Beijing’s history of exchange-rate manipulation, or resistance of upward market pressure on currency to maximize exports. In this case, Chinese leaders are appropriately responding to deflationary pressures and accepting downward pressure on the yuan due to monetary easing. As the country struggles to rein in the vast shadow-banking sector, China must also remain wary of the risks associated with quantitative easing. Despite Chinese companies owing about $1.1 trillion in dollar-demoninated debt according to the Bank for International Settlements, the country remains a net lender with more than $3.8 trillion in reserves, but if the yuan plummets there’s no telling how many of it’s companies (especially highly leveraged property developers) could default. China announced a new target of about 7% growth, the lowest in 15 years, but as much as they do, the rest of the world needs for China to make a “soft landing” from their economic slowdown. For the time being, we can expect cautious monetary easing and tolerance of exchange-rate consequences until China’s economy is once again on the rise.


2 Responses to China’s Cautious Monetary Easing

  1. Part and parcel of pegging the exchange rate are capital market controls. While there are links, you cannot freely buy/sell dollars or otherwise engage in cross-currency transactions in China. The restrictions may not be binding for “real” trade (where there are export or import documents): you report what you’re doing but don’t need transaction-by-transaction approval. Not true for buying foreign stocks (for Chinese). So changing domestic monetary policy does not lead to in any direct manner to shifts in foreign exchange rates, because (effective) supply and demand don’t shift and so the peg can be set wherever the Bank of China wants.

    However, China is gradually trying to liberalize capital flows and exchange rates – the two have to move in tandem. And there’s been no depreciation of the RMB, because it’s not changed much relative to the US$, while the US$ has appreciated.

  2. I can’t help but wonder if China’s monetary easing is doing more harm than good at this point. Unavoidably, the low interest rates that are caused by a low monetary policy will lead to a high rate of leverage among Chinese companies. This, in the long run may hurt the nation’s economy and cause serious trouble.