Asia Economy
IMF defers renminbi reserve decision; Devaluations losing firepower
By Michael Hennigan, editor and founder of Finfacts
Aug 20, 2015 - 10:30 AM

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The International Monetary Fund (IMF) on Wednesday signaled that China’s renminbi (people's currency in Mandarin)/ yuan (unit) will not be added to the Fund's basket of reserve currencies for at least a year. Meanwhile a working paper by World Bank economists confirms that currency devaluations are losing their firepower.

In Washington DC the IMF board agreed to an extension of the current basket of reserve currencies included in its special drawing rights, or SDRs, to Sept. 30, 2016.

In a statement the Fund said that the "nine-month extension is intended to facilitate the continued smooth functioning of SDR-related operations and responds to feedback from SDR users on the desirability of avoiding changes in the basket at the end of the calendar year. The extension would also allow users sufficient lead time to adjust in the event that a decision were to be taken to add a new currency to the SDR basket."

The reference to a "a new currency" is to China's which was devalued last week as part of a plan to allow the market a greater role in exchange rates, according to the People's Bank of China.

“China has done what the Treasury has repeatedly asked for,"  said Nicholas Lardy, a senior fellow at the Peterson Institute for International Economics in Washington and author of “Markets Over Mao: The Rise of Private Business in China,” as reported by Bloomberg. “If a few members of Congress object, that is a problem for the executive branch, not China. It should bolster their chances, it is what the Fund asked for. I think the angst about the new system will be alleviated over the coming weeks.”

World Bank economists said in a working paper published last week that "in the aftermath of the financial crisis, some episodes of large depreciations appeared to have had little impact on exports (e.g. Japan). This has led some observers to question the effectiveness of lower exchange rates (Financial Times, 2015)." They asked: "Are currency depreciations becoming less effective in boosting export growth? What affects the responsiveness of exports to exchange rate changes?"

In the Financial Times last March, Ferdinando Giugliano wrote: "First came Japan, with the yen falling by just over 20 per cent against the dollar since the central bank launched a turbocharged programme of asset purchases in April 2013. Then it was the turn of the Eurozone. The euro has slumped by a similar amount over the past year on the back of the European Central Bank’s own easing moves. Even Beijing may have now quietly decided to weaken the renminbi, after letting it appreciate against the dollar in the second half of last year."

The economists looked at data from 46 countries covering the period 1996-2012 and they concluded that that [the REER (real effective exchange rate) of manufacturing exports has declined over time and that the growing importance of GVCs (multinationals' global value chains) in world trade explains on average 40% of this decline and above 50% for countries with highest GVC participation.

In particular, we find that the larger an economy’s import content of exports, or backward linkages, the smaller the impact on export volumes of a depreciation. When REER are corrected for GVC participation and exports are measured in value-added rather than gross terms, we find that the estimated REER elasticities of exports are substantially smaller and do not display a declining time pattern. These results are consistent with previous work and contribute to the literature on the impact of exchange rates on export growth by showing in a cross section that the nature of trade, i.e. a country’s involvement in global production processes, is a key determinant of this relationship.]

China gains little from assembling the Apple iPhone but there are companies with a high local content which can gain from a devaluation. However, the overall benefit for an economy may be negligible.

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