Maybe China’s Currency Isn’t Undervalued After All – China Real Time Report – WSJ

Note to rest of the world: Stop bugging China on undervaluation of its currency.

The World Bank’s re-estimation of global pricing is leading to a second day of questioning of economic verities. Yesterday, a number of publications used the new numbers to pronounce that the U.S. would next year lose its century-long ranking as the world’s number one economy. (China Real Time came to a more nuanced—and skeptical—conclusion.)

Today, two economists at the Peterson Institute for International Economics, perhaps the world’s top econ think tank, used the numbers to conclude that the Chinese yuan was no longer undervalued, as it has been for decades.

“This estimate is of potential historic significance,” conclude Martin Kessler and Arvind Subramanian. “The end of Chinese mercantilism—and relief for the rest of the world—may be in sight,” they write in a Peterson blog post.

To review, the World Bank re-estimated the size of different economies using a calculation known as purchasing power parity (PPP), which tries to estimate relative wealth by looking at differing prices in different countries for the same goods or services. Such comparisons usually show that developing countries aren’t as poor as they seem.  For instance: A haircut in Beijing costs far less than a haircut in Boston, which means the wealth of a Chinese person with a full head of hair –- let’s call him Mr. Wang—is greater than usually understood.

Cheaper in China: haircuts. Not cheaper: iPhones, BMWs and other imports. Reuters

But Mr. Wang doesn’t buy things in PPP; he buys them using actual currency. When he leaves the hair salon and buys an import, say a U.S. iPhone or a German car, his yuan are converted into dollars or euros at the current exchange rate. Given that Chinese earn far less money than Americans or Germans on average, exchange rate comparisons accentuate the gap between developing and developed nations. Most comparisons of international power are done using the prevailing exchange rate, not PPP.

Now, back to the value of the yuan.

Messrs. Kessler and Subramanian use the new PPP calculations to estimate that between 2011 and March 2014 China’s per-capita GDP grew about 13 percentage points faster than the U.S., which they say should translate into a currency appreciation of around 3.2%. Since the actual appreciation was 7%, that suggests the yuan appreciated too rapidly during that period and made up for some of the time when the yuan didn’t strengthen rapidly enough.  “The renminbi in 2014 is thus fairly valued,” they conclude.

Any estimate of a currency’s valuation is a black art. Different economists use different methods and come up with different conclusions, especially if there isn’t an obvious undervaluation or overvaluation.

It’s hardly surprising that many countries accuse the others of deliberately undervaluing their currencies, and use estimates of currency valuation to make their point. Nearly every government has the same strategy for growth — export more — and a cheap currency helps exporters.

via Maybe China’s Currency Isn’t Undervalued After All – China Real Time Report – WSJ.

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