Four reasons why China will not revalue
RMB
(China Daily HK Edition)
Updated: 2004-04-05 10:43
Aside from political pressures from the US, there's really no reason
for China to appreciate its currency.
Four fundamental conditions that exist today will prevent China
from floating the renminbi.
First, restrictions on the Chinese travelling to the US and other
major countries restrict investment and spending opportunities.
Second, the floating rate of housing mortgages and the lack of
individual credit lending system reduce China's control on inflation
and lending. Third, the high income tax rate has created near zero
profit for export industries that can easily move factories to other
countries when labour costs or the renminbi become too high.
Lastly, and most importantly, the income gap between the roughly
900 million rural population and the 500 million urban population
has widened to an unprecedented 1:4 level, with the average
rural real income less than 1,900 yuan (US$230) per year. If not
resolved or controlled, any of these four conditions can create
disasters for the Chinese economy.
Restrictions on the Chinese travelling abroad give Chinese
companies no means to sell products directly to end consumers,
no means to find the latest technology necessary to stay
competitive, and no means to invest excess money in other
countries' markets. This unfair condition will put a massive demand
on the renminbi if China floats its currency.
Everyone will buy renminbi to invest and spend in China while
virtually no Chinese will be able to buy foreign currencies to spend
abroad. This will artificially shoot up the value of the renminbi and
stop investment in any new factories while there are still millions
of people in China who can provide cheap labour. As long as
foreign countries restrict entry to Chinese, China will not agree to
float its currency.
In the years to come, we should expect to see a gradual opening
of Chinese investment and spending abroad, but for now the
pressure is still on foreign currencies to appreciate against the
renminbi.
Perhaps not as apparent, but a much more serious problem exists
within China's housing mortgage system. From steel to concrete
to coal to other commodities, the real-estate boom in the past six
years that has created huge demand on raw materials will
continue to require massive imports of commodities that are
lacking in China.
At the same time, real-estate pricing bubbles and illegal
acquisitions of farm lands have created a phantom inflation
problem that has actually put a constraint on the development of
non-real-estate industries. The culprit is the floating mortgage
interest rate.
To make new housing available to common people, China has been
pushing a low floating rate mortgage lending system that allows
people to borrow money to buy houses at an interest rate level
much lower than the most favourable corporate lending rate.
Developers and entrepreneurs have been able to finance their
projects by hyping up property prices and borrowing from banks
twice the amount than the real worth of previous projects. China
will not be able to raise interest rates to regulate the housing
industry simply because by doing so, common people will not be
able to afford the monthly payments and will be forced to forfeit
their homes while developers can walk away free leaving banks
with all the mortgaged properties without a market.
We will see a crackdown from the government on illegal
development of real estate, but without fixing the interest at
market rate, China will not be able to stop the real-estate
inflation problem, which will continue to force the renminbi to
devalue.
In comparison to other countries' income-tax rates, China is
considered one of the highest in the world. Foreigners have been
investing heavily in China for the past 15 years to set up factories
for the manufacturing of their products abroad, taking advantage
of the cheap labour in China. Although China is a big market,
imports have always been tough due to high VAT, sales, and
import duty or quota taxes. With the high income-tax rate, there's
no incentive for these exporting enterprises to leave any profit
inside China. That means multinational corporations will buy from
their Chinese factories at a price just enough to cover the cost
and have all the profits assigned to their distribution companies
elsewhere that have a much lower income-tax rate. That would
then leave China very vulnerable to renminbi appreciation.
By not floating the renminbi, China is essentially asking foreign
companies to use foreign currencies to pay for Chinese labour.
This is also the reason why China is the second-largest holder of
US dollars outside the United States. If China floats its currency,
foreign investments would have the freedom to buy renminbi to
set up Chinese ventures, which will create a huge demand for
renminbi and artificially appreciate the currency.
Appreciation of the currency means Chinese labour is artificially
more expensive, and factories will start to leave China for other
cheap-labour countries, leaving millions of people without a job in
China. We are likely to see the split of income tax to an income
tax and a dividend tax to encourage corporate reinvestment.
The biggest problem China faces in terms of both political and
economic stability is its 900 million rural population that is still
living in poverty. This number represents 65 per cent of China's
total population, much higher than a fully-industrialized country of
about 25 per cent. At the same time, China has been behind in
spending on rural education, infrastructure, technology, and
medical systems. As a percentage of total spending, China has
reduced its annual spending in rural areas from 13.4 per cent in
1978 to 7.7 per cent in 2001, a mere 146 billion yuan (US$17.6
billion). What that translates to is that there are still a lot of
cheap labourers for the world to set up their factories in China. To
industrialize, China will need to invest heavily in the rural areas
and bring the rural population up to industrialization standards.
Already, China has committed to spend an additional 110 billion
yuan (US$13.3 billion) just on the educational systems of rural
areas this year. China will have to keep its labour cost or currency
low to compete and generate new jobs for its people. Until China
can successfully push at least half of its rural farming population
into industrialial production, the currency is not likely to budge.
In conclusion, until the above four fundamental problems are
solved in China, there's really no reason to appreciate the
currency.
chinadaily.com.cn |
