Chapter 4
Presentation, Interpretation and Analysis of Data
Introduction
For the past decades, the efficiency of financial markets has been subject to numerous studies and debates. In general, the view of the practitioners, analysts and the public regarding the issue is divided into two. One group believes on the so-called Efficient Market Hypothesis, while the rest do not (2000). In spite of laid down evidences, no agreement has been reached.
Since the late 1970s, China has undertaken economic reforms that have liberalized agricultural production, allowed the growth of a dynamic private sector, and gradually opened the economy to international trade and foreign direct investment. (2002) As a result, China juxtaposed itself along the league of the fastest growing economies in the world. Nonetheless, Chinese policymakers face continuous pressure to improve economic performance in order to be at par with the recurring changes in world’s economic trends.
Analysts estimate that China needs to maintain annual growth rates even higher than the 9.5% average achieved in 1978-2000 in order to modernize the economy and create jobs for ten million workers that enter the labor force each year. (2002)
However, in the course of China’s economic development, the country’s financial sector encountered a number of inroads to its growth. Growth is constrained by the financial sector, which functions below potential because it supports unprofitable state-owned enterprises (SOEs). ( 2002) In this light, Chinese authorities have attempted to ease this constraint with policies that give greater play to market forces and encourage banks to engage in commercial banking, shifting away from their traditional role as suppliers of financing to SOEs. SOEs also are being restructured to improve their financial condition.
Even before China began economic reforms such as engaging with the WTO, its economic activity was dominated by SOEs, which geared production to meet development goals and which automatically received credit from the banking sector according to a national development plan. But once liberalization began, it became apparent that SOEs could not keep up with the needs of the evolving market economy. This is reflected in the analysis of (2001) who revealed that SOEs are about 60% as efficient (as measured by value added), or profitable (as measured by operating profits to assets) as foreign-funded enterprises. Moreover, their low profitability leaves SOEs financially vulnerable. For example, interest coverage (the operating profit potentially available to cover interest expenses) in SOEs is as low as one-third that observed in major industrial countries. Firm-level data for listed enterprises suggest that Chinese enterprises cannot generate enough cash flow to pay interest on about 20 to 30% of their total debt. (2002) A moderate rise in interest rates or a moderate drop in sales could cause 40% to 60% of the debts of all firms to become unserviceable.
With regards to the economic condition of China, this paper will analyze the effects of exchange rate reforms in china and its implication to Renminbi, through this appropriate conclusions and eventually recommendations can be made. The data presented will come from economic reports and articles and from the surveyed financial analysts that are deemed to be helpful in the advancement of awareness concerning the subject. This chapter presents the data gathered from the questionnaire and interviews conducted by the researcher with financial analysts. The general population for this study was composed of 50 individuals i.e. knowledgeable about the real economic status of China. These financial analysts were also interviewed. Basically, the findings of the study are presented in different sections. Part One presents the perception of the respondents regarding Renminbi. Part Two discusses the analysis of interview regarding the perception of respondents towards the economic condition of China. The objective is to give information about exchange rates and how it affects countries.
The conduct of this study entails a detailed account of the demographic profile of the respondents. It is assumed that the attributes of the respondents will influence their behaviour and answers on the survey questions. Of particular significance to the achievement of the goals and objectives of the study – which is to be an instrument of analysis for the institution to gauge where it is now and where it is heading, thus what changes are to be made – is to be able to answer the following questions:
PART 1. Perception of Respondents regarding Renminbi
According to (1978), the function of the exchange rate is to equate supply and demand. Exchange rate is much more than an ordinary price it is between the price structure of one country and those of all others, and thus between the national economy and the world economy. An inappropriate exchange rate affects the relation of domestic to foreign prices of a wide range of goods and services and to some extent the relation of one group of domestic prices to others. A substantially inappropriate exchange rate for a prolonged period would seriously disturb the economy.
For (1978), exchange rates as the country’s international transactions are an integral part of its economy because it has a significant effect as they affect as they affect output and employment, prices and real income,
and money and capital markets. From there, the primary function of
the exchange rate is to help bring about such a pattern of international
trade and capital flows. That function, it should be emphasized, is the
same whether a country has a fixed par value or a freely fluctuating
exchange rate for its currency.
While (1978) states that exchange rate is considered one of the most significant international economic developments. According to him, decades ago there had been breakdown of the system of adjustably pegged exchange rates on which the post-war international monetary system had been based and the widespread adoption of more flexible exchange rates. And by the fall by of 1975 there is an experience accumulated sufficient with the new system of flexible exchange rates to attempt a major effort at evaluation of the initial performance of floating rates.
In connection to this, Table 1 indicates the perception of respondents regarding the status of Renminbi.
.
Table 1
5
4
3
2
1
Weighted Mean
Interpretation
Renminbi revaluation affects directly the economic condition of China
24
11
8
5
2
4.00
Agree
The rapid build-up in China’s foreign exchange reserves should slow as a result of the revaluation this year of the Renminbi.
20
12
16
1
1
3.98
Agree
With respect to Renminbi, China’s foreign exchange levels have global implications.
23
10
14
3
0
4.06
Agree
Political issues in China significantly affect the Renminbi revaluation.
18
17
15
0
0
4.06
Agree
The risk arising from foreign exchange operations and exposures whether long or short term are recognized in terms of effective systems of internal control must be maintained in order to identify, monitor and limit the extent and nature of their risks.
12
20
13
5
0
3.78
Agree
With regards to renminbi revaluation, a rise in the value of China’s currency won’t cut the overall U.S. trade deficit, but would likely boost domestic prices.
14
15
16
5
0
3.76
Agree
Revaluation of renminbi does not follow that that will lower the overall trade balance.
10
20
20
0
0
3.80
Agree
Renminbi revaluation is an advantage to China’s economy.
15
15
17
1
2
3.80
Agree
In accordance to Renminbi revaluation, China is equipped to defy external currency pressure.
13
13
17
5
2
3.60
Agree
Revaluation is beneficial to the overseas holders of Renminbi assets.
15
10
23
0
2
3.72
Agree
Table 1. The perception regarding the status of Renminbi revaluation and its impact on China’s economy provides a significant effect to the study considering that the subjects are financial analysts.
The Table above shows the result of the survey questionnaire of the respondents in regard to their perceptions. The columns 5, 4, 3, 2, and 1 signify the number of respondents who answered on a particular ranking score. In statement number 1, 24 respondents answered 5, 117 for 4, 8 for 3, 5 for 2, and 2 for 1. The weighted mean column shows the mean answer of that particular question that is 4.00 and interpreted it as ‘agree’. The Table above shows that most of the respondents agreed on the given survey statements. All the statements from the survey were clear to the respondents. According to the respondents, Renminbi revaluation affects directly the economic condition of China.
Apparently, the respondents believed that the rapid build-up in China’s foreign exchange reserves should slow as a result of the revaluation this year of the Renminbi, which was illustrated by the 3.98 weighted mean.
In addition to this, understanding the nature of foreign exchange is vital to the development of the company since China’s foreign exchange levels have global implications.
Moreover, the respondents agreed that political issues in China significantly affect the Renminbi revaluation and the risk arising from foreign exchange operations and exposures whether long or short term are recognized in terms of effective systems of internal control must be maintained in order to identify, monitor and limit the extent and nature of their risks.
As viewed in the results of Table 1, most of the analysts believe that a rise in the value of China’s currency won’t cut the overall U.S. trade deficit, but would likely boost domestic prices since revaluation of Renminbi does not follow that that will lower the overall trade balance.
In addition to the findings, Renminbi revaluation is an advantage to China’s economy as perceived by the surveyed analysts and they also accepted the fact that China is equipped to defy external currency pressure. Revaluation is beneficial to the overseas holders of Renminbi assets.
PART 2. The Interview
The following presentation illustrates the analysis regarding the respondents’ interview. Basically, the interviewed subjects were asked regarding economic policies and Renminbi condition. From the interviewed personalities, they argued policy coordination and not only Renminbi revaluation in China should be given enough consideration in order to attain economic success. Thus, according to them, policy coordination occurs when countries agree to pursue economic policies intended to promote the welfare of all nations involved in the agreement. But when it comes with the welfare of all nations is concern different problems occur since every nation who is part of the agreement aims to gain over the other nations.
According to most interviewed financial analysts, one of the major problems identified for international policy coordination of China is whether the agreed outcome is sustainable. Let’s say revaluation of Renminbi. This problem of sustainability is also relevant to dynamic games. In this context the problem is that of time inconsistency. It will be a matter of time to answer such question in sustaining the policy agreement.
Thus, based on their perception, another potential problem with the coordination of monetary policy is that it can worsen the inflationary bias within each country. If the costs associated with this increased domestic inflation outweigh the gains due to policy coordination countries will prefer to act unilaterally. If one country expands its money supply in isolation then its exchange rate will depreciate causing the cost of imports to rise, and this stimulates inflation. If, however, monetary policy is coordinated, and all countries expand their money supplies simultaneously, then the exchange rate effects are less severe and so inflation is tempered. The costs of expansionary monetary policy caused by higher inflation are less for a coordinated expansion of monetary policy, than for an isolated expansion of monetary policy by one country.
Furthermore, knowing the correct model of the economy is another problem since every nation have different model of there own economy. Also, it is almost certainly true that no-one knows the “true” model of the economy. This basic uncertainty will clearly cause problems when governments attempt to coordinate their economic policies. With government’s using different models they may be unable to agree on the most appropriate agreement, and negotiations may break down.
A final problem associated with the policy coordination is that countries not involved in the policy agreement may react in such a way as to offset the gains from such an initiative.
Surely enough, the road towards a successful international economic policy coordination is a long road to take with many problems need to solve. Proper coordination for the benefits of every nation involve not for some nations is one of the key towards success.
Actually, the most of the interviewed analysts stated that Renminbi revaluation will have a significant effect depending on its amount. Let say a small renminbi revaluation (i.e. 5% against the US dollar) will change very little. The possible result would be an augment in conjecture about an extra move, more capital flows into Asia, more buying of US dollars (and Treasuries) to try to offset these flows, more liquidity going into Asian equity markets and the risk of a fizz in asset prices in the region. On the other hand, a larger revaluation would possibly be seen as enough for now. Other Asian currencies that have not risen against the US dollar over the last year or so would rise broadly in line with the renminbi.
Synthesis
Basically, the dilemma of the 1990s will be how quickly Chinese leaders can convince foreign investors that business conditions have stabilized and improved within the People’s Republic (2005). The challenge for the Chinese leadership is to develop long-term strategies designed to move ahead with economic reform while at the same time preventing social unrest and inflation from bringing chaos.
The question remains, will China’s leaders be able to bring back the momentum of 1987 through June 1989, whereby investment and trade boomed, without making radical changes in the political environment? Does Renminbi revaluation will help China’s economic progress? Sustained growth in foreign investment during the 1990s will not move forward without returning to the reforms, which were abandoned in mid-1989, and correcting internal business practices and further enhancing the investment climate (2005).
Apparently, it is important to note that the austerity program, which limited loans and credits, slowed but did not fully destroy the foreign investment momentum. In so doing, China reversed the decentralization of decision making authority at the provincial and local levels, centralizing more authority in Beijing. While a degree of recentralization was deemed necessary to curb inflation and to channel financial resources (loans and bank guarantees) and scarce materials into projects that were fulfilling national needs, as well as to stop unnecessary, luxury imports from entering the Chinese marketplace, the leadership apparently overreacted.
From the information gathered in the review of the relevant literature, particularly to case of China’s currency, the changes that have taken place in the People’s Republic of China since it opened its doors to the West have been dramatic, exceeding the expectations of the most optimistic China watchers.
China is plagued by continuing inflationary pressures, a shortage of foreign currency earnings, massive hidden unemployment, overpopulation, and an industrial base that, for the most part, remains antiquated. Exacerbating these problems are massive infrastructural needs, inadequate communication facilities, and segments of the bureaucracy resistant to change. However, leaders who resist change are finding it more and more difficult to maintain their positions, since the majority of citizens are pushing China to become a newly industrialized economy by the year 2000, or shortly thereafter, with the opportunity to increase the welfare of the masses.
China, like most countries, has a variety of financial institutions that play a significant role in foreign exchange activities and operations. While understanding the organizational structure and each organization’s function may be difficult, this understanding is essential for foreign investors who desire to operate businesses successfully in China. It is particularly true for those foreign investment projects that must deal with various Chinese governmental agencies on an almost daily basis.
While this dissertation may serve as a basis for a general understanding of China’s governmental organizations that are involved in foreign exchange, a more thorough understanding can only be achieved through the experience gained by operations in that marketplace. Furthermore, the role of financial institutions in China is changing as the leadership gains experience in moving toward a more market oriented economy.
Chapter 5
Summary and Conclusions
The focus of this study is to determine the perceptions of different financial analysts to the current economic condition of China. In particular, this research will focus on determining the impact of China’s currency revaluation. The secondary data will come from an extensive review of the literature on articles, journal articles, books, and magazines relating to Foreign Exchange and Monetary Policies. The study used random sampling as a method of choosing its population. Random sampling can be very useful for situations where you need to reach a targeted sample quickly and where sampling for proportionality is not the primary concern. Most sampling methods are random because they approach the sampling problem with a specific purpose in mind. Actually, the sample size would ensure the validity of the response that the researcher will be able to gather. To determine the assessment of the respondents, the researcher prepared a questionnaire and a set of guide questions for the interview that he asked of the intended respondents. The respondents graded each statement in the survey-questionnaire using a Likert scale with a five-point scale wherein respondents were given five response choices.
Concurrently, the study employed both qualitative and quantitative research methods to ensure a flexible and iterative approach. During data gathering, the choice and design of methods are constantly being modified, based on an ongoing analysis. This allows investigation of important new issues and questions as they arise, and allows the investigators to drop unproductive areas of research from the original research plan. The researcher also uses percentage analysis, the mean and median analysis and analysis of variance to evaluate the collated data.
SUMMARY
America’s dollar is on the downfall. Asia’s dollar reserve is on the rise, especially China which ranks number 2 (2003) in the amount of its dollar reserve. Since China is one of the largest manufacturing countries in Asia, America has its eyes on it. With foreign investments on the rise, America is trying to call for a revaluation of the yuan (renminbi internally), they are trying to make the value of renminbi to a floating status.
Since China has more than a billion people, any adjustment to the value of renminbi will have a significant effect on international trade, as well as in China’s economic and social stability (2003). In 1994, China has been pegged to the US Dollar at a rate that is determined by the ( 2003). Basically, the summary of the interview and survey to financial analysis in the previous chapter shows that renminbi revaluation might provide possible positive effect to China’s economy.
China has been continuously lowering its interest rate since 1996, as the central bank sees needed. But with the current situation where there has been a great inflow of renminbi to bank reserves, the People’s Bank of China is thinking of raising its interest rate to lower the inflow. Analysts agree that the US currency is doomed to decline thanks to its immense fiscal and trading deficits, but that the weakening needs to be carefully managed to prevent ructions (2003).
The value of dollar is declining; therefore, other currencies need to rise against the dollar to help balance the decline. But so far the only currencies strengthening against it and share the burden of the dollar, are Euro and Yen. And other currencies are not helping at all (2003).
The big danger is that these countries should suddenly wake up to the weakness of the currency and dump their huge holdings in US government debt securities. That would cause interest rates to jump in the US and trigger inflation. Difficulties in the world’s largest economy would quickly lead to problems in Asia and Europe, says ( 2003).
While the low value of renminbi helps in the competitiveness of the country by giving cheap labor, the US economy suffers because US manufacturers can not compete with the cheap renminbi. With its consumer market, the US relies mostly on imports. And this movement does not alleviate unemployment problems in US.
“Should this pattern continue, the central bank will be confronted with the choice of an overheated economy, with its potential recessionary consequences, or a curtailing of dollar purchases,” of Federal Reserve said in a speech to the World Affairs Council of Dallas. ( 2003).
With US even raising an issue about China’s obligation to the World Trade Organization, it’s a wonder how China is coping up with all the pressure. Should China submit to this pressure, it should consider first the pros and the cons of the revaluation of the renminbi. Even if China revaluates its currency, there is no assurance that new jobs would open in US. Also, if China raises the value of its currency, it would not be assured that the possible overheating of its economy would change. Any decision that China makes would still pass through the reaction of its people. And that its people would still be the ones to suffer or enjoy the outcome.
CONCLUSION
With respect to summary above, the consequences of the China’s Renminbi revaluation or devaluation are both in levels and rates, on the balance of payments in a cash-in-advance economy with finite horizons, endogenous capital accumulation and international capital immobility. In general, currency revaluation induces a balance of payments surplus, whereas a sustained increase in the rate of revaluation produces, in principle, an ambiguous effect on the balance of payments. The effect of the simple exchange rate revaluation or devaluation on the balance of payments relies upon the monetary approach mechanism, while the effect of the increase in the revaluation or devaluation rate depends on the current account determination of the money supply and the long run reduction of money holdings determined by the higher inflation.
The consequence if the Renminbi is really revalued is that in a domestic output is perfectly substitute with foreign output purchasing power parity holds. The monetary authority depreciates the nominal exchange rate at a constant rate. Therefore, the Renminbi revaluation rate coincides with domestic inflation assuming foreign inflation as being zero. Money supply is determined by the balance of payments, since it adjusts to balance the supply of and the demand for foreign exchange. Money is inserted into the economy through a cash-in-advance constraint imposed on consumption spending.
The overall consequence of the higher rate of revaluation or devaluation on money demand is, in principle ambiguous since the positive effect of the increased consumption may be outweighed by the negative effect of the higher inflation rate on the money consumption ratio.
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