US Treasury voices its concern over China keeping its currency undervalued

Pressures for the Chinese Yuan to become a convertible currency will only intensify.

In a not so diplomatic report to Congress, the US Treasury has highlighted the need for greater exchange rate flexibility on the part of China and angered German politicians by pointing out Germany’s large global trade surplus is persistently harming the rest of its European partners. The statement comes after several steps taken by Chinese authorities to prepare the way for the Renminbi to become another major counterparty on the forex markets.

As Chinese authorities have realized, a big part of the shift of their growth strategy will have to do with the convertibility of their currency. We have reported recently that there is an apparent plan to shift the status quo and it has all started with fresh efforts by the newly appointed government by Xi Jinping.

Nevertheless US authorities are still unhappy with the pace of revaluation of the currency even as the CNY has hit a lifetime high of 6.062 a couple of weeks ago. After Chinese authorities increased the daily trading band in which the Yuan is allowed to float versus the other major currencies and the move increased awareness of currencies among China-based retail FX traders, whose trading is up more than 30% this year we can only conclude that this trend is here to stay.

The report stated that China has again embarked on a substantial buying spree of foreign exchange this year despite having in their coffers $3.6 trillion in reserves.The Treasury goes on implying that such reserves “are more than sufficient by any measure and that the Chinese yuan “is significantly undervalued”.

The impact of liberalizing the country’s currency will be substantial, but it is also a very delicate process, which the authorities seem to be willing to control in a tight and gradual manner, as it will become very difficult for China to control the flows of currency trading, should the change happened abruptly. Domestic households have been long looking for alternative ways to stash their savings instead of buying more of the same Chinese real estate.

While we keep awaiting free trading in the USDCNY currency pair, which is likely to shift the scope of the foreign exchange business big time, we cannot skip but point out that instead of focusing on Chinese undervaluation and “Germany’s anemic pace of domestic demand growth and dependence on exports”, the US Treasury should focus more on domestic issues. While the Treasury reported the smallest budget deficit in 5 years there is still some leeway towards getting government finances on a sustainable track.

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