Much has been debated about how yuan is undervalued vis-a-vis dollar and how that is a subsidy enjoyed by Chinese exporters. Economist this week (America's Fear of China) has a very insightful article on the same. It claims that the yuan undervaluation claims are shaky at best and their impact of US economy is overrated.
The crux of the matter is that US consumers will replace Chinese goods with some other country's even if the yuan is "correctly" valued and the issue lies more with the American consumerism and low savings rate rather than the yuan dollar exchange rate. It goes on step further and claims that appreciation in yuan is good for chinese economy which is reeling under the pressure of having to maintain the exchange rate where it is - in the form of having to keep low interest rates despite break neck speed of investments (else more hot money will flow into the economy), which leads to suboptimal investment decisions and eventually NPAs. I wonder if the Chinese banks are sitting on huge piles of potential or actual NPAs.
Where Chinese stock markets may go is an entirely different story. The anecdotes of retail investor frenzy are scary. I don't know if it is one off instances or a general trend. If latter, there is a lot of heartburn likely at all levels of society as and when the stock market correction takes place. And what with Greenspan passing his value added CP on markets across the globe!
Exchange rates, monetary policy, real and nominal interest rate and finally the real GDP growth rate make up an extremely interesting and relevant matrix of variables - all of which closely govern our lives - directly or indirectly. I guess the complexity is only going to increase with time as more markets open up to the ever increasing stock of capital! In the steady state one may expect either the monetary policy or exchange rate policy to become entirely irrelevant - some sort of global eurozone!
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