News headlines suggest that China will seek as much as a 7 percent advance against the U.S. dollar through 2008. China’s leadership is targeting inflation there with this effort.
With good reason: Consumer prices in China rose 8.5 percent in April compared to the previous year, up from the previous two months, and the highest rate in 12 years.
Food costs alone soared 22.1 percent!
Bloomberg reports that Singapore’s United Overseas Bank (UOB) is warning that the yuan could accelerate during the year. China’s central bank can do little, since raising rates will only cause a flood of new foreign investment, speeding inflation along.
Rates are already high, comparatively. The dollar 1-year Libor, or the London interbank offered rate, is at 2.922 percent, while China's 1-year deposit rate is now 4.14 percent.
UOB forecasts the central bank raising bank reserves by 50 basis points at least twice before end of the third quarter and raising interest rates two times this year.
Besides the fact that interest differentials between “important” currencies cause exchange rate appreciations and depreciations, it’s also important to note that Democratic presidential contenders Sen. Hillary Clinton and Sen. Barack Obama both have endorsed the China Currency Manipulation Act of 2008.
U.S. investors should take into account when they make investment decisions that this legislative proposal, as well as the intentions of the candidates, will fuel a continued revaluation of China's yuan against the U.S. dollar.
I’m convinced they all will get what they wish for. There is no doubt in my mind that the Chinese currency will continue to appreciate against the U.S. dollar for an extended period.
To me, the only question is: How much is the yuan really undervalued?
The Congressional Research Service on Jan. 9 published an estimate of the yuan at anywhere from 15 percent to 40 percent undervalued against the U.S. dollar.
It’s a fact that China is running a trade surplus with the United States while it tends to run deficits with East Asian countries, some of which have floating exchange rates with the United States.
Clearly, factors other than currency levels are driving China's trade balance, however. The preponderance of evidence suggests the yuan is undervalued compared to the dollar.
Of course, it is impossible to say by exactly how much, but, in my opinion, the Chinese currency can only go one way — and that’s up against the U.S. dollar.
Remember that the G-7 nations in April this year welcomed faster appreciation of the yuan and have urged a faster rise in China's real effective exchange rate, in view of a rising current account and surplus, and domestic inflation.
China and the U.S. are close to reaching a consensus on the exchange-rate evolution of the yuan/dollar pair, CNY/USD. CNY is appreciating at a faster pace against the dollar since November but still not higher against the euro.
So, U.S. dollar investors who complain about too-low interest rates could make a relatively safe bet, considering the Chinese currency that will return much more than U.S. denominated CDs.
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