Steve Hanke explains why China won't revalue

Steve Hanke, professor of applied economics at The Johns Hopkins University in Baltimore, and columnist at Forbes, has been saying that China will not be revaluing the renminbi, and so far, he has been right. In his latest article for the magazine, he explains why he thinks China still won't revalue.

The Chinese authorities refuse to alter the long-standing renminbi/dollar rate. In their eyes a fixed exchange rate, economic growth and stability are all tightly linked together. And in Beijing stability might not be everything, but without it everything is nothing. For this reason alone it's hard to fathom a renminbi revaluation.

... In July of last year [Nobelist Robert Mundell] hosted some of his friends at Palazzo Mundell, a Renaissance villa near Siena, Italy. When it came to China, I took careful notes. According to Mundell, a renminbi appreciation would cut foreign direct investment, cut China's growth rate, delay convertibility, increase bad loans, increase unemployment, cause deflation distress in rural areas, destabilize Southeast Asia, reward speculators, set in motion more revaluation pressures, weaken the external role of the renminbi and undermine China's compliance with World Trade Organization rules...

[O]n Oct. 28, 2004 Beijing announced the establishment of the Mundell International University of Entrepreneurship. It will be located in the Zhongguancun area, the "Silicon Valley of China." Connect the dots and you get a fixed exchange rate.

The Chinese interest in maintaining stability that Hanke -- and Mundell -- points out is illustrated by its continuing concern with cooling its economy through administrative measures to sustain its growth over the longer term. And the latest news suggests that it may be succeeding: Growth in China's industrial output slowed in January to 8.9 percent from a year earlier. This compares with the 14.4 percent growth in December.

Then again, the figure may be misleading. It was apparently adjusted for the Lunar New Year holiday, which fell in January last year and in February this year. Unadjusted, the growth rate would have been 20.9 percent. As John Cairns, an analyst with IDEAGlobal in Singapore, says: "[I]t's very difficult to adjust for seasonality." So there may not be as much of a slowdown as it seems at first sight.

Indeed, trade data showed that exports jumped 42.2 percent in January from a year earlier, and exports of industrial products rose 31.2 percent from last year, even after adjusting for the Lunar New Year period.

And if the risk of overheating in China is still intact, the rest of the world is unlikely to remain unscathed. As it is, the producer price index in the US jumped 0.3 percent in January, while the core rate, which excludes volatile food and energy costs, soared 0.8 percent, according to a Labor Department report yesterday.