Chinese Monetary Policy

1
Chinese Monetary Policy exchange rate
2
Content

• Important events in exchange rate management
• The art of allocating wealth
• Credit slaverize
• Fact rich becomes richer

3
two Key Milestones

• 1994 Jan. 1st
• integrate exchange rate market, consolidate and
  fix the exchange rate to 1 8.7 USD
• 2005 July 21st
• Introduce a basket of currencies as for CNY
  exchange rate for references, appreciated 2 to
  8.11 on that day.

4
1994 PolicyWhat the government did

• price depending on demand supply from
  government assigned bank, ? but actually it is a
  pegged system 18.7 USD CNY, with a floating
  allowance of 0.3 a day
• USD is the only reference currency.
• Consolidated the two market with a membership
  scheme,
• All trade and settlement are done by
  inter-banking quote system.
• Paying a premium on the supply of foreign
  currency in private sector.
• A lot government intervention.

5
2005 policyWhat the government did

• RMB appreciated 2 to 1 8.11 USD on that very
  day
• Added a basket of currencies as Reference
  currencies, they are USD, HKD, JPY, EUR, GBP,
  MYR
• Golden bull for Chinese stock market until 2007
• Release the inflation pressure from huge
  international reserve

6
Chinese Exchange rate policy concerns

• Americans insists that China is manipulating
  exchange rate to achieve price advantage to
  compete with American firms in manufacturing
  industry
• The Chinese policy makers view exchange rate
  policy as a means to achieve certain economical
  goals
• To avoid failure like Thailand in 1997,
• To attract foreign investment fund

7
Monetary Policythe art of allocating
wealth???????

• We all know about the three basic feature of
  money, medium of exchange, unit of account, and
  store of value. But in real world, it is more
  than that.
• There are several hidden identity of money
• We all learned about the time value of money,
  there are two key elements Time and Price, or
  interest rate.
• Different price of money represented different
  future expectation of certain money
• ? This indicates that the money today in
  different persons possession does not
  necessarily worth the same to each other.

8
Monetary Policythe art of allocating
wealth???????

• We all learned about the time value of money,
  there are two key elements Time and Price, or
  interest rate.
• Different price of money represented different
  future expectation of certain money
• ? This indicates that the money today in
  different persons possession does not
  necessarily worth the same to each other.

9
Monetary Policythe art of allocating
wealth???????

• Government can make benchmark prices for money
  through monetary policy (by setting different
  interest rate, exchange rate)
• ? Government can control the future wealth of a
  society.
• However, this is not the most powerful tool.
• The most powerful tool is controlling the money
  supply. M1, M2, M2 whatever
• strategy
• Low inflation to encourage people to work hard
• High inflation to lick up the wealth the people
  created.

10
Monetary Policytwo-person economy

• But government can not just do that because there
  will be revolution fighting for this extreme
  unfairness.
• So they change the name, by using credit.
• Lets consider a two person economy
• A plants for food to survive and provide all raw
  material, and B is in charge of building
  infrastructure and other production for both of
  them.

11
Monetary Policytwo-person economy

• Think about A getting a mortgage for a house in
  economically good time from B.
• Pay only 20 of the total price, and borrow the
  rest under a Monetary loose phase. Borrowing to
  stimulate economy.
• In economics terms, it is bringing the money from
  the future to the present. It is increasing Money
  Supply, but the reality is their wealth does not
  worth the same, or, their wealth is leveraged
• At the same time, people will pay for the price
  of borrowing, say 5 of principal a year.

12
Monetary Policytwo-person economy

• Two years later, both A and B find that the price
  are inflated, as MS grows artificially by them.
  So B proposes to limit the credit to fight
  inflation, by doing so, interest rate has to go
  up, because supply of fund goes down, price of
  fund goes up.
• But A borrowed money before, so his price of fund
  went up as well. There is no influence on B
  because he does not need to borrow.
• ? Rich people are richer and richer.

13
Monetary PolicyCredit Slaverize????

• Summary of two person model for credit
  slaverizing three steps
• 1. Grow the fleece
• Loosen credit limit during expansionary phase
• ? Bring future money to present artificially
  increase money supply without creating anxiety
• 2. Hunting the sheep
• Tighten credit limit during contractionary phase
• ? But it just stops bringing money from future to
  the present, it does not suck up the money
  brought before
• 3. Cutting the fleece
• Force the poor into bankrupt and take over
  valuable assets
• increase debt burden of them by change the
  interest rate because they have to survive by
  relying on debt.
• Benefit from lending money, as the first owner of
  the newly created money

14
Monetary Policythe rich gets richer

• In China, the rich people are becoming richer and
  richer.
• According to Huren.net, in 2009, there are
  825,000 people who has more than ?10,000,000
  worth of asset in China including 51,000 people
  with assets more than ?100,000,000.
• In 2010, there are respectively 875,000 and 55,000

15
Monetary Policy the rich gets richer

• Combined wealth of top 10 richest year by year
• Source hurun.net

Year Total Growth
2005 94.7B
2006 154.9B 63
2007 543.0B 250
2008 272.5B - 49
2009 308.0B 13
2010 405.0B 31
16
Monetary Policy the rich gets richer

• GDP per Capita in USD vs. Rich people wealth
  growth
• Source IMF. 2010 World Economic Outlook

Year Total Growth
2005 4102.495
2006 4748.661 15.75
2007 5553.39 16.95
2008 6187.707 11.42
2009 6778.091 9.54
2010 7517.717 10.91
Year Total Growth
2005 94.7B
2006 154.9B 63
2007 543.0B 250
2008 272.5B - 49
2009 308.0B 13
2010 405.0B 31
17
Summary

• There are two important Exchange rate policy
  adjustments 1994 and 2005
• Mundels inconsistent trinity indicates that
  Chinese government is trying to allow free of
  capital flow in China
• Monetary policy is a useful tool to allocate the
  wealth of a society by using money as the
  liability of the whole society. Or credit
  slaverize
• The rich gets richer and richer as a result.