Saturday, November 6, 2010

Value of the RMB

  The value of the RMB is not determined by any market analysis. The Federal reserve controls the supply of us dollars. How people wish to act based on Federal decisions is up to them. They are free to make the irrational decision that QE should strengthen the dollar, thus they will sell their gold and buy dollars. They are absolutely free to make that decision. It may be an irrational decision. But they are free to make that decision.

  The RMB is not priced in such a manner. PBOC could raise interest rates, the RMB will not strengthen unless PBOC wants it to. PBOC could lower interest rates, RMB will not weaken unless PBOC wants it to. PBOC could expand the supply of RMB, they could contract the supply of RMB. None of that will have much significance to the value of the RMB.

  In order to fully understand how the RMB operates in the exchange rate market. Think of it to the gold standard. Gold prior to 1971 was worth about 35 dollars an ounce. It did not matter if the us ran budget deficits, or ran surpluses, raise interest rates or lowered interest rates. It did not matter if the us expanded the money supply or contracted the money supply. Gold was 35 dollars an ounce because the us government said so.

The gold standard was a commitment by participating countries to fix the prices of their domestic currencies in terms of a specified amount of gold. National money and other forms of money (bank deposits and notes) were freely converted into gold at the fixed price.

  The price for us dollars nor gold were market driven. Its driven by the whatever price the government states. And that is how the RMB is priced. Its price is whatever PBOC states it is. Not what the market thinks it should be.

  Of course we all know the gold standard failed because like a poker game, Europeans finally challenged the united states and attacked the dollar by calling the us to reveal its gold reserve which the us did not have.

  But who would attack the RMB when the RMB is undervalued, not overvalued. And we know they have the largest foreign currency reserve in the world. Even if they did not have that foreign reserve, it would be ludicrous to attack the RMB. Because the undervaluation of the RMB is what is causing these tremendous trade imbalances. Any lunatic that attempted to devalue the RMB even more would only further cause that trade imbalance in China's favor.

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