Spats between the US and China over the value of the renminbi seem to wax and wane with the regularity of the moon. The yuan has appreciated by around 8% in nominal terms since it was effectively de-pegged from the US dollar in June 2010 and by around 12% in real terms (after inflation is taken into account). Yet critics continue to echo claims by US Treasury Secretary Timothy Geithner that the yuan is “still below fundamentals” and has “some ways to go.”
Unfortunately, there is no clear-cut answer to whether the yuan is undervalued, or by how much. Yet the imperfect measures that exist suggest the currency is coming much closer to fair valuation than critics allege.
The most direct metric is the onshore renminbi market itself. Each trading day, the People’s Bank of China (PBoC) sets a reference point for the yuan against the US dollar and allows trading within a 0.5% range of that value. Although traders have typically pushed the yuan to the upper limits of that band since it was de-pegged, the trend reversed during the global economic downturn of late 2011, with the PBoC effectively propping up the value of the renminbi as investors tried to push it down.
The value of offshore renminbi in Hong Kong, which fluctuates free of government controls, has hovered around the onshore rate since recovering from a discount in late 2011. This trend is also echoed in the market for non-deliverable forwards – contracts to buy the yuan at a set price in future – which in early March implied almost no appreciation during the coming year.
China’s foreign exchange reserves also dropped on a quarterly basis at the end of 2011 for the first time since 1998, suggesting that money was flowing out of the country – hardly an indication that companies and investors expect appreciation.
None of these indicators by themselves is a smoking gun. Many are no doubt just pricing in the possibility that Beijing will yet again intervene to push down the currency if global economic turmoil resumes. Foreign exchange reserves might have dropped simply because the government’s portfolio of bond assets in the troubled euro zone took a sharp hit.
But taken together, the metrics suggest that investors see the renminbi as fairly valued, or at least roughly so.
Most economists expect the currency to appreciate only 2-3% in 2012, and Qu Hongbin, HSBC’s chief economist for Greater China, has called the yuan “very, very close” to a market rate. If investors continue to price the renminbi so cheaply, critics in the US may start to think twice before calling for Beijing to let the market take charge.