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Course: Finance and capital markets > Unit 8
Lesson 6: Chinese currency and U.S. debt- Floating exchange resolving trade imbalance
- China pegs to dollar to keep trade imbalance
- China buys US bonds
- Review of China US currency situation
- Data on Chinese M1 increase in 2010
- Data on Chinese foreign assets increase in 2010
- Data on Chinese US balance of payments
- Chinese inflation
- Floating exchange effect on China
- Floating exchange effect on US
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Floating exchange effect on China
Floating Exchange Effect on China. Created by Sal Khan.
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why would weakening dollars incur in buying less Chinese products? and how does oil price goes down at inflation2:25? tnx(1 vote)
Because Oil is purchased by Dollars. Lets say one dollar now equals 6 Yuan, and the price of one barrel of Oil is $100, then the Chinese would pay 600 Yuan to buy a barrel. If China let the Yuan floats, then we may see the dollar becomes equal to 3 Yuan, then the Chinese would pay 300 Yuan instead of 600.(7 votes)
In the first few seconds, Sal talks about a stronger currency in China,
how does that make the U.S. currency weaker?(1 vote)
When the Yuan appreciates (Becomes stronger), the Dollar becomes weaker in relation to the Yuan, but not necessarily against other currencies.(5 votes)
Price of Oil goes down because the Yuan strengthens, is that correct?(1 vote)
Yes. The Yuan would have more buying power, thus more oil/Yuan!(3 votes)
- Please explain why oil prices would go down if inflation goes down. Also, what is this I hear about oil can only be purchased in USD?(1 vote)
Inflation means that costs are increasing. If you have lower inflation, oil costs don't increase as much. That's what Sal meant: the cost of oil will not increase as much.
Oil can only be purchased in USD, because OPEC nations will only accept dollars. The USD is the world's reserve currency because of its stability. The U.S. dollar has never been devalued, and its notes have never been invalidated. For countries all too familiar with bank failures, devaluation and inflation, the stability of the U.S. dollar brings with it a certain amount of peace of mind. Business is easier to conduct when a stable currency is used.(3 votes)
- 1:33how did khan arrive at the conclusion that the Chinese consumer is ready to take up the slack in demand from the foreign consumer? Is this due to the higher incomes that Chinese consumers are earning thanks to high exports over the last couple of years? Thanks.(1 vote)
- He doesn't mean the Chinese domestic consumers will FULLY take it up, but a stronger yuan will surely increase their purchasing power to a certain degree and demand for imported goods will predictably rise. I think it's a fair point to make.(4 votes)
- At 1.53, how does slowing down of the economy decrease inflation?(1 vote)
- It doesn't always, but if the economy is so strong that demand is pushing supply too hard (i.e. "capacity utilization" is very high), then the prices of goods and services tend to rise. Think about what a factory does when it has lots and lots of orders. It might start running a second or third shift, and it has to pay people a premium to work those hours. Or it might start having people work overtime, and it has to pay more to people for that. Those costs get pushed through in the form of higher prices as well. In the long run, the company can build another factory but in the short run it may satisfy demand in inefficient and expensive ways(1 vote)
- If the yuan printed by China, for the sole purpose of maintaining the trade imbalance, gets immediately converted to dollars then why does that cause inflation in China?(1 vote)
It doesn't get converted into dollars. That's why it causes inflation.(1 vote)
If the goverment decided to weakness the currency. At the end, the government is helping the businesses (manufacturers), as you said because they will be able to export more than in a real situation (without the government intervention). However, with such intervention, the government is not helping at all the chinese people, they generate inflation and it is more complicated to import from outside of China to China (they mostly have, internal consumption plus export). But what about the China Stock Market?. It will also help the manufacturers, to get a better P&L (more revenues), so maybe it is a good option to invest on those countries where the goverment is "printing" money. Actually, in Europe for example.(1 vote)- Can someone verify my understanding of how China's inflation can be mitigated?
When China pegs their economy, the central bank prints more Yuan. That creates inflation.
But when they stop printing Yuan, that's going to sort of slow down the inflation, and also the Yuan would strengthen which means the Yuan's purchasing power increases so that's another factor that mitigates the Chinese inflation.(1 vote)- I double checked whether your assertion about purchasing power increasing was true.
It is correct. This is because purchasing power is expressed in terms of
Ct = C (1 + i) ^ (-t), where t is years into the future, C is amount of money in the present, and i is the interest rate.
This formula suggests that if the government stops printing Yuan and inflation decreases as a result, purchasing power will increase.(1 vote)
- Japan's Yen has been strengthened due to imbalance trade with USA. The impact of recession in Japan has yet over. Can you explain?(0 votes)
2:25Video transcript
Lets think about what would happen inside of China. If the government would allow its currency to completely float against the dollar, so, we know that the by-product would be its currency would strengthen. So far, they are artificially weakening it. So, you would have a [stronger yuan] and you would have a [weaker dollar]. I want to be clear that the Chinese government actually has been allowing yuan to slowly strengthen against the dollar, but it'€™s keeping maintaining a peg. We want to just think about what would happen if it's completely float. Now, the obvious by-product of this that we know kept the currency weak that favors its exports. It would allow the exports to be cheaper, creating demand for the exports. Now, they allowed their currency to strengthen. Then their exports would be more expensive than the other countries. So, it would [decrease demand for exports]. Now, with fewer exports, fewer production perhaps in their factories now. This, obviously, would [slow down the Chinese economy]. Now, this we have to be careful here. When we say slowdown, just that doesn't mean that they necessarily fall into a recession. They have been growing at high single digits to low double digits for many many many years now. When we talk about slowing down, they might slow down to may be 4 to 5% growth, which is still super fast by any other nation's standards. We have also seen that there is ton of inflation in China. And, to some degree, it kind of hints that the Chinese consumer is ready to take up the slack from foreign consumers. So, may not even slow down as we might first think. That brings up the first unambiguous positive behind allowing the currency to strengthen. If they would actually stop printing the Yuan, and start buying other currencies. It would actually [slow down inflation]. And, we know that we are dangerously close to kind of inflationary spiral. They have been reporting 5 to 6% of inflation. The reality might be closer to 10%. And, the inflation is actually going to be mitigated not just from the fact that you have lesser yuan running around, and the economy is slowing down. But, it is also because Yuan is strengthening. When it is stronger, it allows them to buy imports more cheaply. For the Chinese, perhaps the most important import is import of commodities. And, most important of the commodities is Oil. So, the price of Oil would go down. Now, the bigger question that is harder to answer is what happens to Chinese manufacturing in general? Lot of the people the argument why China is able to build its manufacturing basis is that they have this weak currency. That has allowed them to build ecosystems, get to scale in its factories. Will the manufacturing then go back to US or Europe? My gut is that it would not go back to US or Europe. Because, any thing that requires huge amount of scale and huge amount of labor is going to be very hard for the Chinese - to compete with Chinese, even if the currency was stronger. I think at that point of time, China has to worry about other developing nations may be India, may be Latin America. While they have labor advantages relative to China and if they were able to have same kind of efficiencies in the infrastructure and in the same scale then they would be able to give them a run for their money. This is Salman Khan of KhanAcademy for CNBC.