The Currency Manipulation Game
10 September 2019

If you’ve ever holidayed overseas or made a purchase abroad, you may have experience of personal foreign exchange. Exchange rates play a pivotal role in commerce, too, and can have a significant influence on the success of imports and exports in a country.

The free trade market is based on the principle of free currency exchange rates, which allows the fluctuation in line with supply and demand. This is the organic way that an economy should operate, but there are suggestions that not every country is playing fair. This is where the allegations of currency manipulation begin to circulate.

Currency manipulation hit the headlines recently when US President Donald Trump and his administration claimed that China was a currency manipulator. There are ramifications if a country is found to be manipulating its currency, and so far, China has hotly contested the allegation. But what is currency manipulation and why does it matter? Here are the facts you need to know.

Currency manipulation - the basics

When a currency is weak, a country’s exports are much cheaper for overseas buyers but importers will see costs soar. Conversely, when a currency is strong, it's expensive for overseas buyers to buy the exported goods but a country can import much more cheaply. In a nutshell, this is why exchange rates have such an influential effect on trade.

Some nations try to cheat the exchange rate system by artificially weakening their own currency – and this helps their exports by making them cheaper.

As an example, the US and China have recently locked horns over trade, with the US imposing tariffs on some Chinese goods. This has made it more expensive for US customers to buy Chinese items. If China weakens its currency, it becomes cheaper for US customers to buy the same goods, offsetting the effect of the tariffs. And this is what the US has accused China of doing.

How can currency be weakend

The principle may sound straightforward, but in a market that’s as vast as foreign exchange, how is it possible to deliberately weaken a currency? To have any chance of influencing exchange rates, significant spending power is required – such as that possessed by a government.

As mentioned above, currency rates respond to supply and demand. If demand for a currency drops, the exchange rate follows suit (as a general rule). Therefore, if a country wants to devalue its own currency, it needs to sell off large quantities and purchase another currency with it instead. The currency that is bought is typically the US dollar.

These transactions are carried out by a government releasing large sums of currency from its reserves and making the trades on the interbank market. The buying and selling activity in varying quantities allows a nation to weaken or strengthen its own currency.

How to spot currency manipulations

Both the World Trade Organisation (WTO) and the International Monetary Fund (IMF) prohibit currency manipulation to secure a trade advantage. There are certain tests that can be applied to check whether a country is manipulating its currency:

  • is it holding a large surplus over a fixed six-month period?
  • during the same period, did it increase its reserves in foreign exchange?
  • are the reserves of a sufficient size (normally deemed to be able to cover three months of imports)?

If a country meets the above criteria, they may be labelled as currency manipulators and required by the IMF to take action to rectify their valuation in the market.

Quantitative easing is an economic measure many countries participate in but this is not considered to be currency manipulation as foreign exchanges are not typically involved.

Is China a currency manipulator?

The Chinese government has a long history of directly intervening in the value of its currency, the renminbi but experts believe that in the past five years, Beijing has relinquished much of its control. Although they have a benchmark daily exchange rate, they allow this to fluctuate in response to trading.

The Trump administrator has claimed that China is a currency manipulator, and is directly influencing the value of the renminbi. However, these claims are in contrast to the official semi-annual US Treasury report that suggests that although China has a large surplus, it does not meet the full three criteria for manipulation.

This view is shared by the IMF who confirmed there was no clear evidence of currency manipulation. Although the renminbi fell to an 11-year low, the IMF said it believed this was concordant with the currency’s fundamentals with no signs of direct intervention. A report from the IMF in July also found that the renminbi was valued at a level which was broadly correct.

Some experts have suggest that the label from the US is being applied in an “arbitrary” way and is just the latest weapon in the ongoing trade war.

A global concern

Currency manipulation has the potential to alter the balance of global trade by offering unfair advantages to the country who are weakening their currency. This potential economic disharmony can significantly affect other nations, which is why it’s a practice disallowed by bodies such as the IMF and WTO. It can be difficult to identify when done subtly, and countries with a history of carrying out currency manipulation such as China will always find their transactions under scrutiny.

The latest reports of the renminbi appear to exonerate China of full currency manipulation despite the claims from the US. However, China’s ongoing close control of the renminbi and previous willingness to intervene means they will be monitored very closely by all concerned.

The Currency Manipulation Game
10 September 2019

If you’ve ever holidayed overseas or made a purchase abroad, you may have experience of personal foreign exchange. Exchange rates play a pivotal role in commerce, too, and can have a significant influence on the success of imports and exports in a country.

The free trade market is based on the principle of free currency exchange rates, which allows the fluctuation in line with supply and demand. This is the organic way that an economy should operate, but there are suggestions that not every country is playing fair. This is where the allegations of currency manipulation begin to circulate.

Currency manipulation hit the headlines recently when US President Donald Trump and his administration claimed that China was a currency manipulator. There are ramifications if a country is found to be manipulating its currency, and so far, China has hotly contested the allegation. But what is currency manipulation and why does it matter? Here are the facts you need to know.

Currency manipulation - the basics

When a currency is weak, a country’s exports are much cheaper for overseas buyers but importers will see costs soar. Conversely, when a currency is strong, it's expensive for overseas buyers to buy the exported goods but a country can import much more cheaply. In a nutshell, this is why exchange rates have such an influential effect on trade.

Some nations try to cheat the exchange rate system by artificially weakening their own currency – and this helps their exports by making them cheaper.

As an example, the US and China have recently locked horns over trade, with the US imposing tariffs on some Chinese goods. This has made it more expensive for US customers to buy Chinese items. If China weakens its currency, it becomes cheaper for US customers to buy the same goods, offsetting the effect of the tariffs. And this is what the US has accused China of doing.

How can currency be weakend

The principle may sound straightforward, but in a market that’s as vast as foreign exchange, how is it possible to deliberately weaken a currency? To have any chance of influencing exchange rates, significant spending power is required – such as that possessed by a government.

As mentioned above, currency rates respond to supply and demand. If demand for a currency drops, the exchange rate follows suit (as a general rule). Therefore, if a country wants to devalue its own currency, it needs to sell off large quantities and purchase another currency with it instead. The currency that is bought is typically the US dollar.

These transactions are carried out by a government releasing large sums of currency from its reserves and making the trades on the interbank market. The buying and selling activity in varying quantities allows a nation to weaken or strengthen its own currency.

How to spot currency manipulations

Both the World Trade Organisation (WTO) and the International Monetary Fund (IMF) prohibit currency manipulation to secure a trade advantage. There are certain tests that can be applied to check whether a country is manipulating its currency:

  • is it holding a large surplus over a fixed six-month period?
  • during the same period, did it increase its reserves in foreign exchange?
  • are the reserves of a sufficient size (normally deemed to be able to cover three months of imports)?

If a country meets the above criteria, they may be labelled as currency manipulators and required by the IMF to take action to rectify their valuation in the market.

Quantitative easing is an economic measure many countries participate in but this is not considered to be currency manipulation as foreign exchanges are not typically involved.

Is China a currency manipulator?

The Chinese government has a long history of directly intervening in the value of its currency, the renminbi but experts believe that in the past five years, Beijing has relinquished much of its control. Although they have a benchmark daily exchange rate, they allow this to fluctuate in response to trading.

The Trump administrator has claimed that China is a currency manipulator, and is directly influencing the value of the renminbi. However, these claims are in contrast to the official semi-annual US Treasury report that suggests that although China has a large surplus, it does not meet the full three criteria for manipulation.

This view is shared by the IMF who confirmed there was no clear evidence of currency manipulation. Although the renminbi fell to an 11-year low, the IMF said it believed this was concordant with the currency’s fundamentals with no signs of direct intervention. A report from the IMF in July also found that the renminbi was valued at a level which was broadly correct.

Some experts have suggest that the label from the US is being applied in an “arbitrary” way and is just the latest weapon in the ongoing trade war.

A global concern

Currency manipulation has the potential to alter the balance of global trade by offering unfair advantages to the country who are weakening their currency. This potential economic disharmony can significantly affect other nations, which is why it’s a practice disallowed by bodies such as the IMF and WTO. It can be difficult to identify when done subtly, and countries with a history of carrying out currency manipulation such as China will always find their transactions under scrutiny.

The latest reports of the renminbi appear to exonerate China of full currency manipulation despite the claims from the US. However, China’s ongoing close control of the renminbi and previous willingness to intervene means they will be monitored very closely by all concerned.

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