Tuesday, August 08, 2006

Chinese Yuan To Rise Faster Soon
Malaysian Ringgit To Keep In Step

There are heavy indications that Beijing will allow the yuan on a more rapid appreciation very soon. It also means the ringgit will keep rising in tandem. If we were to plot the ringgit movements over the past 9 months against other Asian regional currencies, and including the USD, British pound and Euro, it correlates closes with the Chinese yuan. That is no surprise as it is pretty obvious to keen observers that Bank Negara governor Zeti knows that you have to compete with China in the race to globalisation. Though the ringgit could have, should have, appreciated more over the last 6 months, Zeti is keener to keep it in check with the yuan to maintain competitiveness, even if that means creeping inflationary pressures into Malaysian economy.

One may wonder why is Beijing so slow to allow the yuan to appreciate despite pressures and protestations from other major trading partners. China has just again recorded a record trade surplus again for the more recent month, and property prices in major cities are still quite firm. If we look at Beijing, they have actually engineered a gradual increase in the quantum allowed for the yuan vis-a-vis the USD. When the yuan was allowed to rise, the period from July 2005 till end December 2005, the annualised rate of increase was 1%. For the first quarter of 2006, the annualised increase came to 2.2%. The second quarter saw the annualised increase being hiked to 5%. So, although the actual quantum of increase does seem slow, we have to look at the annualised increments because Beijing knows that the appreciation of the yuan is not a 1, 2, 3 thats it, complete ... they know that it will be a very long term appreciation trend, and every quarter, they will be allowing possibly higher annualised increments for at least next 4 quarters at least. Looking at that trend, we should see the third quarter annualised increment to reach the 6%-7% mark.

The strategy with that is that Beijing wants the economy to be comfortable with the currency appreciation and not be jolted by it. China now has too much USD in their reserves, and they also dop not want to see a drastic devaluation in the USD, but it is obvious the central bank has US$941 billion reserves. Even the reserves in USD for South Korea is a tad much at US$200 billion, while Japan has US$250 billion. Hence, for a proper currency strategy mix, China has more reasons to throw some more USD onto the market to raise the yuan and at the same time rebalance the currency mix holdings. When you start to hold too much of one asset, it becomes a liability in managing it, and you be vulnerable to the risks inherent to that asset.

The fact that the gradual increments allowed for the yuan has done nothing to curb the trade surplus would give Beijing more confidence to move the quantum of allowed increase higher for the 3rd quarter of 2006. The more plausible reason why yuan is staying put in China, and at the same time attracting more hot money into yuan, is the perception that the yuan is far from being fairly valued, it is still perceived as very much undervalued. These creates pools of surplus liquidity swishing in the Chinese economy, thus propelling the property markets and secondary financing or mezzanine financing schemes supporting the easy money economy. Beijing certainly knows that, and to solve that problem faster, they would have little choice but to increase the quantum of increase of the yuan. Now it seems, pressures from the US or EU are not necessary, Beijing needs to revalue the yuan rapidly to stop the hot money from creating pockets of bubbles in the economy. Only when the hot money thinks that the yuan is near fair value, will they leave the country. Beijing knows the yuan has to reach that level as fast as possible but at the same time without jeopardising the entire export economy, domestic economy and foreign investment.

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