Is the Chinese Government Pushing Down the Yuan?

Official interventions from the People's Bank of China and unofficial interventions from the state-run banking system seem to be suppressing the currency and contributing to widening trade surpluses.

China’s economy is not recovering from the battering it received during the pandemic and the subsequent years of “Covid Zero” restrictions. Policymakers know that they risk social upheaval if they do nothing, especially with youth unemployment ratcheting ever higher. The latest report from the Politburo indicates that officials are now more concerned about the trajectory of the recovery than they were at the previous meeting on the economy back in April. Back then, there was optimism that “China’s economy is off to a good start”. Now, the view is that “the current economic operation is facing new challenges”.

What might they do in response?

Encouragingly, “the meeting called for harnessing the fundamental role of consumer spending in driving economic growth…through increasing household incomes”, although the readout was vague on the details of what that would actually mean in practice.

One attractive option would be distributing the wealth generated by state-owned enterprises to all Chinese, as was recently suggested by Xu Gao.¹ Another would be eliminating the hukou household registration system, which prevents many Chinese from collecting government benefits they are owed while keeping hundreds of millions of workers at risk of internal deportation. Zhejiang province’s plan to (mostly) eliminate its household registration rules is therefore an encouraging development, particularly given the province’s history as a testing ground for policies later pushed by the central government to the rest of the country.

But there are other options.

Ramping up financial support for infrastructure projects of questionable value has been a reliable way for the government to stabilize aggregate economic output and employment in the past. Doing so again would exacerbate many of China’s longstanding economic imbalances—which Chinese officials have vowed to correct—but unlike measures that would durably boost Chinese consumers’ spending power, it would have the virtue of being easy to implement within China’s institutional and social constraints.

Similarly, depreciating the real exchange rate—or letting the real exchange rate depreciate while using regulatory and prudential measures to discourage financial inflows and encourage financial outflows—would provide a boost to exporters and Chinese producers that compete with imports from the rest of the world. The cost would be borne by Chinese consumers deprived of international purchasing power and by producers in the rest of the world. This may already be happening.

The Bank for International Settlements (BIS) measure of China’s inflation-adjusted trade-weighted exchange rate (based on differences in consumer prices) is down by roughly 14% since the recent peak last March, which is the largest decline out of 64 countries tracked by the BIS. Using producer prices would likely make China’s recent depreciation look even larger.

This appears to be a policy choice.

Official Reserve Accumulation: Small But Steady

The People’s Bank of China (PBOC) is officially in charge of managing the exchange rate by buying and selling reserves. Since mid-2021 it has spent around $200-$300 billion buying foreign assets.² That is not what one would expect if Chinese policymakers were interested in propping up the yuan and resisting downward pressure on the currency.