Saturday, March 19, 2005

What Would The Emperor Do?

News Item: Chinese Premier Wen Jiabao told reporters recently that changes in the renminbi may come about unexpectedly .

Suppose you were the Emperor of China. What would you do about the renminbi? Listen in on a conversation inside the Imperial chambers at the Forbidden City in Beijing. The Emperor is talking with his Grand Vizier, Wen Jiabao.

“Wen, what am I going to do? The Americans keep telling me I have to revalue our currency. That woman Rice, who recently left, pushed me very hard. It was all I could do to remain polite. The Japanese are pushing me hard too.

“Well, sire, if it is your wish, you could abolish the peg to the dollar with a stroke of your ink brush. Just let the currency float, that is rise to its natural level.”

“What would that be?”

“Opinions differ, sire, but most economists I’ve read say that the currency is undervalued by at least ten percent. Some say as much as 40 percent.”

“That much, huh?”

“That, sire, is the conventional wisdom – if you allow it to float. There would be some other advantages to floating the currency in managing the economy, but it might be . . . destabilizing”

“Destabilizing? Oh, I don’t like that. Isn’t there something else I could do?”

“Well, sire, you could revalue. Just change the peg. Maybe move it to six or seven to the dollar. It would be simple and easy and it would make the foreign devils happy.”

“I don’t like that either. Makes me look like I’m kowtowing to the West. Anyway, I’m getting a lot of advice to do nothing. Just the other day that foreign devil, Mundell, told me resist all pressure to revalue, at least until our banks are in better shape. He ought to know what he’s talking about. Didn’t he invent the euro?”

“Yes, sire, and won the Nobel Prize for Economics in 1999.”

“Right, and that Japanese fellow, the one they call Mr. Yen. He tells me that floating the yuan would be a disaster for Asia. And, by the way, Wen, why can’t we fix our banks?”

“We’re working on it, sire. Anyway, with respect, it might not be wise to simply do nothing. For one thing too much money is flowing into the country. It’s fueling inflation and pushing property prices up here and in Shanghai and . . .”

“I know. I’d like to get in on a little of that action myself. But, Wen, what should I do? I’m tired of listing to all these experts and their conflicting advice. I want to take some action.”

Well, sire. I would advise widening the peg, creating a creeping peg.”

“A what?

“A creeping peg, sire. Periodically adjust the currency band. Allow the yuan to appreciate in increments of, say, four or five percent. That’s about what the market expects. Over the next two or three year it should appreciate 10 percent.”

“Won’t that hurt our exports? You know I don’t want to hurt our exports. I can’t afford any more unemployment.”

“A gradual appreciation in this range should not adversely affect exports, sire. The only problem is it may invite speculation, bringing more hot money into the country as the day the peg is changed approaches.”

“But would it make the foreign devils happy?”

“Reasonably happy, sire.”

“How would you institute such a policy?”

“I would advise announcing it when the market is, how shall we say, distracted, by some other event. Leave it to me.”

Chuckling. “I like it, Wen. Keep them guessing.”

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