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The Renminbifs Dollar Peg at the Crossroads

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  • Maurice Obstfeld

    (University of California, Berkeley (E-mail: obstfeld@econ.berkeley.edu))

Abstract

In the face of huge balance of payments surpluses and internal inflationary pressures, China has been in a classic conflict between internal and external balance under its dollar currency peg. Over the longer term, Chinafs large, modernizing, and diverse economy will need exchange rate flexibility and, eventually, convertibility with open capital markets. A feasible and attractive exit strategy from the essentially fixed RMB exchange rate would be a two-stage approach, consistent with the steps already taken since July 2005, but going beyond them. First, establish a limited trading band for the RMB relative to a basket of major trading partner currencies. Set the band so that it allows some initial revaluation of the RMB against the dollar, manage the basket rate within the band if necessary, and widen the band over time as domestic foreign exchange markets develop. The ultimate goal is a floating exchange rate coupled with some relative of inflation targeting. Second, put on hold ad hoc measures of financial account liberalization. They will be less helpful for relieving exchange rate pressures once the yuan/basket rate is allowed to move flexibly within a band, and they are best postponed until domestic foreign exchange markets develop further, the exchange rate is fully flexible, and the domestic financial system has been strengthened and placed fully on a market-oriented basis.

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Bibliographic Info

Paper provided by Institute for Monetary and Economic Studies, Bank of Japan in its series IMES Discussion Paper Series with number 07-E-11.

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Date of creation: Aug 2007
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Handle: RePEc:ime:imedps:07-e-11

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Keywords: Renminbi; China Currency; China Balance of Payments; Fixed Exchange Rate Exit Strategy;

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  1. International Monetary Fund, 2005. "Capital Account Liberalization and the Real Exchange Rate in Chile," IMF Working Papers 05/132, International Monetary Fund.
  2. Philip R. Lane & Sergio L. Schmukler, 2006. "The international financial integration of China and India," Proceedings, Federal Reserve Bank of San Francisco, issue Jun.
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  4. Barry Eichengreen & Mariko Hatase, 2005. "Can a Rapidly-Growing Export-Oriented Economy Smoothly Exit an Exchange Rate Peg? Lessons for China from Japan's High-Growth Era," NBER Working Papers 11625, National Bureau of Economic Research, Inc.
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  6. Frankel, Jeffrey, 2004. "On the Renminbi: The Choice between Adjustment under a Fixed Exchange Rate and Adustment under a Flexible Rate," Working Paper Series rwp04-037, Harvard University, John F. Kennedy School of Government.
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  8. Shang-Jin Wei & Eswar Prasad, 2005. "The Chinese Approach to Capital Inflows," IMF Working Papers 05/79, International Monetary Fund.
  9. Blanchard, Olivier J & Giavazzi, Francesco, 2006. "Rebalancing Growth in China: A Three-Handed Approach," CEPR Discussion Papers 5403, C.E.P.R. Discussion Papers.
  10. Marvin Goodfriend & Eswar Prasad, 2007. "A Framework for Independent Monetary Policy in China," CESifo Economic Studies, CESifo, vol. 53(1), pages 2-41, March.
  11. Eswar Prasad & Shang-Jin Wei, 2007. "The Chinese Approach to Capital Inflows: Patterns and Possible Explanations," NBER Chapters, in: Capital Controls and Capital Flows in Emerging Economies: Policies, Practices and Consequences, pages 421-480 National Bureau of Economic Research, Inc.
  12. Marcus Noland, 2007. "South Korea's Experience with International Capital Flows," NBER Chapters, in: Capital Controls and Capital Flows in Emerging Economies: Policies, Practices and Consequences, pages 481-528 National Bureau of Economic Research, Inc.
  13. Maurice Obstfeld, 1993. "The Adjustment Mechanism," NBER Chapters, in: A Retrospective on the Bretton Woods System: Lessons for International Monetary Reform, pages 201-268 National Bureau of Economic Research, Inc.
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Cited by:
  1. Lane, Philip R. & Schmukler, Sergio L., 2007. "The international financial integration of China and India," Policy Research Working Paper Series 4132, The World Bank.
  2. XU, Yingfeng, 2009. "Relevant international experience of real exchange rate adjustment for China," China Economic Review, Elsevier, vol. 20(3), pages 440-451, September.
  3. Barry Eichengreen, 2008. "Should there be a coordinated response to the problem of global imbalances? Can there be one?," Working Papers 69, United Nations, Department of Economics and Social Affairs.
  4. Robert Lafrance, 2008. "China's Exchange Rate Policy: A Survey of the Literature," Discussion Papers 08-5, Bank of Canada.

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