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China’s ‘renminbi trap’: The economy needs a weaker currency, but Beijing is unable to act

EXPERT COMMENT

Weakening the currency should be relatively straightforward. But the adverse reaction of China’s trading partners, past experience, and Xi Jinping’s ambitions for the renminbi could combine to prevent it.

Consumer prices in China have now fallen in five out of the last seven months, and the annual inflation rate fell to minus 0.8 per cent in January. 

There is a growing risk that deflation and weak economic activity might aggravate each other, creating a kind of ‘doom loop’: prices fall because demand is weak, and demand stays weak since Chinese households reckon it’s better to delay spending in the hope that goods and services get even cheaper. 

All this should have some implications for Chinese exchange rate policy: a weaker renminbi (CNY) could raise the domestic price of imported goods by enough to help unroot China’s deflationary psychology before it really establishes itself. 

A model here, in a sense, is Japan: as the yen (JPY) weakened from JPY 100 to the dollar to JPY 150 over the past three years, Japanese inflation rose from minus 1 per cent to something approaching 3 per cent. 

Even the IMF is trying to nudge Beijing towards a weaker renminbi. In its latest report on the Chinese economy, out earlier this month, the Fund suggests that ‘greater exchange rate flexibility would help counter disinflation pressures.’

The chances of this happening, however, are very low. China appears to be stuck in a kind of ‘renminbi trap’: its currency will remain stronger than the economy needs it to be, and the risk of the doom loop will hover over China for the foreseeable future.

Click here to continue reading the full version of this Expert Comment on the Chatham House website.

 

Channel website: https://www.chathamhouse.org/

Original article link: https://www.chathamhouse.org/2024/02/chinas-renminbi-trap-economy-needs-weaker-currency-beijing-unable-act

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