2.6 Exchange rate of RMB
The formation and fluctuation of the RMB exchange rate will affect the process of RMB internationalization,and also reflect the objective money supply and demand in the process of RMB internationalization.It is of great significance to promote the RMB internationalization to increase the flexibility of RMB's nominal exchange rate,focus on maintaining the stability of the effective exchange rate,and gradually transit to an exchange rate formation mechanism determined by the supply and demand in the market.On the other hand,it will greatly change supply and demand in RMB market in terms of volume and structure as the process of RMB internationalization is deepening.In addition,the changes of RMB exchange rate in offshore markets will have a greater impact on the formation and volatility of the RMB exchange rate in domestic market.
2.6.1 RMB exchange rate system
In 1994 a foreign exchange system reform was launched in China,in which a settlement and sale of foreign exchange system in import and export was established.The system helped realize the convertibility of RMB relating to current account items,and a market—oriented,unitary and managed floating exchange rate system was established at the same time.In the following 11 years,China had encountered Asia Financial Crisis and joined in WTO.In order to relief the hit of international financial crisis and maintain an orderly,gradually opening—up process,the fluctuation of RMB exchange rate was limited,and the formation mechanism of exchange rate became rigid.
However,the surplus in current and capital account caused a severe imba—lance of international payment,which brought trade friction between China and trade partners.In order to balance international payments,China launched a reform on RMB exchange rate formation mechanism in 2005,which made RMB forward exchange rate pricing mechanism improved,central bank's foreign exchange open market operation more market—oriented and effective,and RMB exchange rate more flexible.Nowadays,China has established a managed floating exchange rate system based on market supply and demand with reference to a basket of currencies.
The International Financial Crisis in 2008 brought great difficulty and uncertainty to China and the whole world,and China narrowed the fluctuation of RMB exchange rate to relief this effect.When the crisis was in its summit,a large number of currencies depreciated against U.S. dollar,and China pegged RMB exchange rate on U.S. dollar since July 2008 and therefore stabled its value,which made great contributions to stabilizing foreign demand,easing the impact of the crisis and the revival of Asian and global economy.
In 2009,under the implementation of anti—crisis economic stimulus plans,China's economy had achieved a remarkable growth and become the engine of world's economy.Based on the optimistic perspective,the international capital flushed into China in a large scale,which strengthened the expectation of RMB's appreciation.In the first quarter of 2010,China surpassed Japan to become the world's second largest economy,foreign exchange reserves increased to nearly three trillion USD,and the international community led by the U.S. continuously required China to revalue its currency.
In response to the changes in economic and financial situation at home and abroad,in June 2010,the PBOC decided to speed up the RMB exchange rate formation mechanism reform,enhance the flexibility of RMB exchange rate,normalize exchange rate,and cancel the short—term U.S. dollar—pegging policy.Specifically,the RMB exchange rate adjustment is not a one—shot reva—luation,but it should be in accordance with a system that is market—oriented with reference to a basket of currencies.We should comply with the published floating band,conduct dynamic management and regulation of RMB exchange rate floating,stabilize RMB exchange rate on a reasonable and balanced level,promote balance of international payment and maintain the stability of macroeconomic and financial market.
In 2011,RMB's use in cross—border trade and investment was expanded,and the convertibility of the RMB in range capital account was further broadened,too.Increase of currencies in the foreign exchange market and enrichment of derivatives trading enhanced the market base of the RMB exchange rate formation mechanism.The new exchange rate system,pegging to a basket of currencies,weakened the concept of equilibrium exchange rate and didn't peg to the U.S. dollar any longer,but fixed the rate according to changes in supply and demand in the foreign exchange market.This more flexible exchange rate system sped up the appreciation of the RMB significantly in 2011.
The RMB exchange rate,determined by supply and demand in the foreign exchange market,is a major goal of China's exchange rate system reform.With the development and improvement of China's foreign exchange market,the flexibility of the RMB exchange rate has been enhanced,and the price leverage of two—way RMB exchange rate fluctuations in China's trade and capital flows is more and more explicit.
2.6.2 RMB exchange rate
1.Nominal exchange rate.
Since 2010,China's trade structure has changed,the share of trade with emerging economy has risen rapidly,and the international balance of payments showed a greater national difference.Affected by changes in supply and demand of foreign exchange,among the nine major currencies that have direct quotation in Chinese foreign exchange market,RMB,except for depreciating against Japanese yen,Australian dollar,and Canadian dollar,show a trend of appreciation against the other six currencies including U.S. dollar,Euro,and British pound(Figure 2—15).From January 2010 to December 2011,RMB appreciated against U.S. dollar,HK dollar rapidly with a 7.7% increase,and even more rapidly against Euro and British pound,with the rate at 14.1% and 11.8% respectively,and the appreciation rate against Ringgit and Ruble reached 9.0% and 10.1%.
Figure 2—15 Month—to—month quotation of RMB in 2010 and 2011
Note:Quotation of RMB against Malaysian Ringgit was released since August 19,2010,quotation of RMB against Russian Ruble was released since November 22,2010,and quotation of RMB against Australian dollar and Canadian dollar were released since November 28,2011,Ringgit and Ruble were indirectly quoted and other 7 currencies were directly quoted.
Source:SAFE,PBOC.
There were three reasons for the rapid appreciation of RMB.Firstly,due to the implementation of a strong economic stimulus plan,China's economy maintained a rapid growth rate after the financial crisis,exports still exceeded imports,the amount of foreign investment was still up to more than 60 billion U.S. dollars,the double surplus in current and capital accounts kept foreign exchange reserves increasing,and resulted in the pressure of RMB appreciation.
Secondly,major countries frequently urged Chinese Government to appreciate RMB.Japan attributed its long—time domestic deflation to the undervaluation of RMB.Striving to win the election,the ruling and opposition parties of U.S. attributed the expanding Sino—U.S. trade deficit to low RMB exchange rate.In the investigation on exchange rate manipulation,they made trade frictions,and forced RMB to appreciate so as to ease its excessive domestic political and economic pressure.
Thirdly,sovereign debt crisis made the major international currencies weakened,while currencies of emerging economies,including China,strengthened.Since the outbreak of Greek sovereign debt crisis in May 2010,EU had fallen into the bad situation of debt crisis.Defects in governance mechanism of euro zone undermined the solution of the debt crisis,which hit the confidence in euro market heavily.As a result of deepened division between the two parties in U.S.,Congress and government differed in government budget and debt ceiling issue.The sovereign credit of the United States was downgraded for the first time in August 2011,coupled with low advance of U.S. economic recovery and high unemployment which was still as high as 8.2%.The Fed announced that the extremely loose zero interest rate policy would be maintained until 2014.All these events made the dollar continue going down,fully illustrating the seesaw effect of a weaker U.S. dollar and a stronger RMB.
2.Nominal effective exchange rate (NEER).
Bilateral exchange rate cannot be a comprehensive reflection of RMB's value,so we use the trade—weighted exchange rate,i.e.the nominal effective exchange rate,to measure the overall external value of RMB.
The nominal effective exchange rate went up first and then down in 2010,fluctuating at a range of up to 6%.Since July 2011,RMB went into the stage of appreciation,and increased more than 7%(Figure 2—16).
Figure 2—16 Monthly NEER of RMB in 2010 and 2011
Note:NEER of 2005 equals to 100.
Source:IMF IFS.
Compared with major currencies,the nominal effective exchange rate displayed relatively less volatilities.After the earthquake and tsunami in Japan in March 2011,appreciation rate of Japanese yen's nominal effective exchange rate exceeded that of RMB in aspects of absolute value and increase rate.Euro and U.S. dollar fluctuated violently,with a range of ups and downs more than 10%.U.S. dollar had depreciated in general.The nominal effective exchange rate of British pound was relatively stable(Figure 2—17).
Figure 2—17 Monthly NEER of five major currencies 2010 and 2011
Note:NEER of 2005 equals to 100.
Source:IMF IFS.
3.Real effective foreign exchange rate.
Due to the quantitative easing policy in major countries and high growth of emerging economies,international commodity prices rebounded quickly in 2010.Countries in the world had varying degrees of inflation,making the real effective exchange rate,which ruled out inflation in nominal effective exchange rate,perform differently with the latter.Because China's inflation rate was significantly higher than that of the major countries,since January 2010,the real effective exchange rate displayed a clear upward trend.The appreciation was especially faster after August 2011.To December 2011,the real effective exchange rate of RMB had increased by 10.4%,exceeding that of the nominal effective exchange rate of RMB(Figure 2—18).
Figure 2—18 Monthly REER of RMB in 2010 and 2011
Note:REER of 2005 equals to 100.
Source:IMF IFS.
4.RMB NDF.
Currency in those countries with foreign exchange controls was usually not freely convertible,so non—deliverable forward (NDF) transactions came up to eliminate the risk of exchange rate fluctuations in the 1990s.NDF denominated in RMB,Vietnamese Dong,Indian Rupee,Philippine Peso and other emerging economies currencies.In 2011,the characteristics of the RMB NDF（注:RMB NDF refers to the foreign exchange forward without delivery of principal for RMB offshore transactions.The difference between the RMB spot rate and forward exchange rate fixed by both parties at the beginning of the transaction is delivered to the beneficiary side in U.S. dollars.）displayed a short—term appreciation and a long—term depreciation(Figure 2—19).RMB demonstrated a faster appreciation against U.S. dollar in recent years,especially in August 2010,the downgrade of the United States sovereign credit rating and China Custom's new high trade surplus in July made one—year RMB NDF in overseas markets achieve a record low of 6.260 5 on August 15,2011.Since then NDF showed a depreciation tendency,closed at 6.382 5 on December 30,an appreciation of 0.8% compared with the beginning of the year.In 2011,RMB NDF daily closing prices of different terms,despite expectation of appreciation at the beginning of the year,were reversed by the end of the year,and displayed a depreciation tendency.The 2—year NDF closed at 6.453 5 on December 30,down 2.5% compared with the beginning of the year.
Figure 2—19 Day—to—day closing price of RMB NDF in 2011
Source:Bloomberg.
From the perspective of economic situation and foreign exchange reserves in China,RMB still has a great appreciation margin；and due to the current international environment,the appreciation pressure will not disappear in the short term.Appreciation of the RMB enhances investors' confidence in the price of RMB assets；makes it more feasible that RMB will be an international reserve currency,and has significance to a certain degree for the advance of RMB internationalization.