As we know every year certain very angry US politicians get together to insist that the President must declare China to be a "currency manipulator". The thought is that the country artificially keeps its currency low in value against the dollar, thereby boosting exports from China to the US. This is presumed to be to the detriment of US industry (although those politicians do overlook how it benefits US consumers).
There may even be some truth to the complaints. But what interests is, well, imagine that China became entirely free market about the value of the yuan? Just allowed anyone who wanted to to buy and or sell how ever much they wanted, to be allowed to ship money in or out of China as they wished? The assumption is that the yuan would climb in value but I'm not so sure.
The reason I'm not so sure is here:
China’s foreign-exchange rules cap the maximum amount of yuan that individuals are allowed to convert at $50,000 each year and ban them from transferring the currency abroad directly. Policy makers have taken steps in recent years, including allowing freer movements of capital in and out of China, as they seek to boost the global stature of the not-yet-fully convertible yuan.
The story has some legs right now because its been revealed that in certain privileged areas of the country those limits have been allowed to be breached. And as a result there's been some significant, several billion dollar's worth, of shifts of money out of the yuan and out of China.
And of course such movements of capital out of the country reduce the value of the yuan, all other things being equal.
So, our question then becomes, what would have the greater effect if there were a truly free market in the yuan? Let's assume that those calling the country a currency manipulator are correct (they're not, not in detail at least, for they always fail to note how much the currency has appreciated, and always fail to adjust for the internal inflation rate correctly) and that in a free market that manipulation would no longer be going on.
We should also assume that there's some amount of pent up demand inside China to get assets out of the yuan and out of China. Given that when people do have that opportunity they do so shift their cash this seems like a no brainer. The question then becomes which will have the greater effect?
Will the absence of manipulation to depress the value of the yuan be greater in effect than the flood of capital leaving the country has on depressing the value of the yuan? It's not possible to be certain about this, either way, but my hunch is that the depressive effect of capital flight would be greater. For two reasons:
1) The financial repression within China. The banking system is not allowed to pay interest rates that even manage to keep up with inflation, let alone provide a real return. So there's a very great desire to find alternative assets (and this is the reason for many of the investment booms in that country, including the Bitcoin one) that can provide a real return. Allow full convertibility of the yuan and some to many Chinese will be looking abroad for such returns.
2) There's significantly more private wealth in China than there is public, or State, wealth. Given that the method of currency manipulation alleged is the use of State wealth to depress the value of the yuan if we take that away (leading to a rise in value) but then replace it with a larger rat run of private capital then the presumed effect would be to further depress the value of the yuan.
As I say, it's not possible to be definitive here. But I think it's certainly arguable, possible, that a truly free market in the yuan and on capital crossing China's borders would lead to the yuan devaluing against the dollar.
Which isn't, really, what those wanting an end to currency manipulation want, is it? Then again, as Mencken didn't quite say, one of the joys of politics is that sometimes people do get what they ask for, get it good and hard.
