While there are many advocating an international gold standard, or another international standard currency based on a basket of commodities and/or currencies, it is very difficult to see sufficient international consensus for this to be practical or feasible.
So, waiting in the wings is the Chinese renminbi (RMB) or yuan. The appointment of Zhu Min, the deputy governor of China's central bank, as a special adviser to the IMF seems to signal China's assertion in the global currency scheme. The fund, historically led by a European but dominated by the United States, has tried to engage emerging economies like Brazil, China, India and Russia.
But according to economist Geng Xiao, director of the Brookings-Tsinghua Center for Public Policy, it's still in China's--and the world's--best interest not to dump the dollar just yet.
Yuan Revaluation Solves Nothing
In an interview with McKinsey Quarterly, Xiao noted that there's no argument on either side about the trade imbalance between China and the US. However, there are some philosophical differences between the two as the US places more emphasis on the short-term adjustment through price and the RMB exchange rate, whereas the Chinese put more emphasis on medium and long-term structural and institutional change.
Xiao finds it quite difficult for the exchange rate to correct the trade balance:
"Even if you change the exchange rate, it will have very little impact on US trade deficit because the US is going to buy from some other countries."
Time To Reform & Float
China needs time to push through difficult economic reforms at home before it can allow its currency to float freely against the dollar, as Xiao explains:
"China needs a benchmark so that the price can be compared to the global price, to the price structure, compatible with efficiency. That's why price reform is more important than exchange-rate change... Exchange-rate change would not really change the inefficiencies - [as] the internal subsidies are still there."
Xiao estimates it's going to take 5 to 10 years for China to correct its distortions - land reform, reform of the energy sector, state-owned-enterprise reform, and social welfare. Only when the productivity of China reaches that of the United States will the two countries' price structures converge.
A Worst-Case Scenario
A worst-case scenario might come to fruition if China allows RMB appreciation expectation to continue, building up more foreign-exchange reserves, as Xiao cautions:
"I don't see that there's any way that China can significantly reduce its holding of the dollar assets".But if pushed hard, China can always do more. And even marginally, a little bit more is going to have a big impact in the market."
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