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Source link: http://archive.mises.org/3859/china-secedes-from-the-dollar/

China Secedes From the Dollar

July 21, 2005 by

Well, it’s happened. China has severed the yuan from the dollar. Some relevant Austrian commentary:

China Does Not Determine U.S. Interest Rates by Frank Shostak

What’s Behind the Trade Deficit Numbers? by Antony P. Mueller

{ 8 comments }

Rothbardian July 21, 2005 at 3:12 pm

I’m a fan, but I don’t quite have my head wrapped around austrian economics. Can someone give me the low down on what this means? The yuan isn’t going to affect interest rates, ok. Chinese imports are going to get more expensive, ok.

Maybe that will stimulate the domestic economy by making american goods more competitive, or it will weaken people by taking more money out of their pocket.

Is it a dire event, or will it help us avoid our economy getting worse?

I have this suspicion that the monetary inflation has really devalued the dollar a lot more than the market is reflecting, and that cheap imports are keeping prices down, along with the housing bubble. That foriegn countries buying treasuries have kept us afloat, and even if they aren’t a factor in interest rates, forieng central banks will eventually start ridding themselves of accumulated treasuries… leading to very high inflation in the US.

Is this:
1. A plausable scenario, but with an incorrect understanding of how it works.
2. Paranoid fear from someone who needs more learnin’ in economics.

Thanks.

iceberg July 21, 2005 at 3:42 pm

I too, for one wish a qualified Austrian scholar could lay out what would be the most expected ramifications of this event in the practical world.

I do understand that there are multitudes of human and social variables in play, but if we apply lessons from economic history, is it reasonable for one to expect to see a somewhat-accurate theory which will predict the global or local U.S. consequences?

Stefan Karlsson July 21, 2005 at 4:15 pm

I don’t know whether I am considered a “qualified Austrian scholar” or not, but in any case I’ll post a more detailed analysis of this event tomorrow (I don’t have time for it tonight).

Jeff Lonsdale July 21, 2005 at 4:17 pm

“Now, if China were to decide to sell off its holdings of US t-bonds, obviously it would lead to an initial rise in yields. However, the Chinese are unlikely to sit on the dollars—they most likely will employ the dollars obtained from t-bond sales to purchase some other US assets”

A common problem with Austrian analysis seems to be the simplifying assumption of two countries. What if China traded dollars for Euros, decreasing the price of the dollar… The move causes an increasing currency risk and therefore pushing up rates (As treasury rates are time preference + risk).

Yes, the Fed and fractional reserve banking is the root cause of a whole lot of things going wrong in our global economy.

But countries playing around with their currency like China can effect things such as interest rates on the margin, but economists should be aware of the marginal effects if they want people to believe them about root causes.

Paul Edwards July 21, 2005 at 6:36 pm

According to the article, entitled “China Cuts Currency Link to U.S. Dollar”, China both “cut its currency’s link to the U.S. dollar” and simultaneously “…raised its value by about 2 percent”. Maybe i’m just always looking for controversy, but isn’t there some implicitly contradictory statements going on here? Does this comment “The government announced the change to an exchange rate of 8.11 yuan to the dollar” imply the Yuan’s link to the US dollar has been cut? To me, it seems as if its been adjusted (and slightly at that) but not cut at all.

As for impact, if this is all they do, it strikes me that a 2% increase in the cost of Yuan to a US consumer is a 2% increase in the cost of Chinese goods to the US consumer. Is 2% going to make a big impact? I’m skeptical. I’ve seen bigger increases in my grocery bills this year, not to mention my fuel bills.

Stefan Karlsson July 22, 2005 at 10:39 am

Paul, what is meant is that the new 8.11 exchange rate will be the base value for the dollar in their new currency basket. In order to establish a currency basket index you have to have a base value and 8.11 will be the base value for the dollar. From this follows given yesterday’s exchange rates also the base value for other currencies, for example with a exchange rate of $1.2/euro the euro will have the base value of 9.732 yuan.

Paul Edwards July 22, 2005 at 12:28 pm

Hi Stefan: Baskets still confuse me, so bear with me for a sec: does this mean that the Yuan will float freely from day-to-day with respect to this basket of currencies including the USD? (I don’t’ think you are saying that). I get this weird feeling the CNYUSD ratio is now fixed at 8.11. Is there something about a basket of currencies that makes a permanent, Chinese central bank enforced, fixed ratio of 8.11 to the USD less of a peg than in its previous status?

melt_core July 24, 2005 at 5:47 pm

Is this basket system like the european monetary system that went on until 91?

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