China’s Big Choice: Strengthen the Yuan or Face Collapse

The only thing more expensive than education is ignorance.

Anyone who trades liberty for security deserves neither liberty nor security.

He that is good for making excuses is seldom good for anything else.
– Quotes by Benjamin Franklin

China:  Strengthen the Yuan or Face Collapse
There has been a lot of noise out there on the yuan recently and I want to try to set the record straight.  Not only do I think that a revaluation higher in the yuan is inevitable, but as I have said for many months now, the longer they take to implement this the greater the probability of a total economic implosion that will be very, very difficult to reverse.  Let me explain.  First and foremost, the argument being made against a yuan appreciation relates to the concept that the margins for exporters in coastal China are so thin (somewhere around 3% is what I have been reading) that the government cannot possibly allow an appreciation as it will wipe out the exporters and then led to social unrest.  This is pure nonsense and all you have to do is look at the following article in today’s China Daily http://www.chinadaily.com.cn/cndy/2010-03/11/content_9570417.htm.  Below I have provided some excerpts from the piece.

“Workers at the factory will each receive an extra 150 yuan ($20) in their March wage packet, pushing their salaries up to about 2,000 yuan a month – 40 percent higher than before the onset of the global recession, said He. The boss has also thrown in free lodging and lunch subsidies to sweeten the deal.”

“I had no choice but to raise the salaries of my less experienced workers from 750 yuan a month to 960 yuan,” said Cao. “Also, to make sure the workers who did return stayed, I boosted my skilled workers’ pay by 10 to 15 percent.”

“Manufacturers have a very low profit margin. If we raise their pay we face a situation where we will have no profit at all,” said human resource director Sun Yiduo. “Shanghai has the highest minimum wage on the Chinese mainland, so it is easier to hire here than elsewhere.”

Some people will read this article and say; “you see, you can’t allow the yuan to appreciate because this will put even more pressure on the manufacturers that are already struggling.”  I would look at it another way.  China is holding onto the peg hoping that the West (in particular the U.S. consumer) goes back to borrowing more, saving less and buying superfluous items again in an attempt to feel better about their increased state-imposed poverty and decent from middle class living standards.  In other words, China wants the old game back and in fact are holding on for it.  Well good luck, that strategy is failing.  We know it is failing due to the inflation problem already evident in real estate, commodities and now wages in China.  So the point is you cannot stop economic law as hard as you try and exporters are getting squeezed irrespective of the yuan peg as a result of too rapid an increase in money and credit (Keynesianism is basically witchdoctor economics as far as I can tell).  China needs to think like an Austrian economist and understand it needs to embrace natural economic forces and stimulate consumption in healthy manner via a yuan free-float, or something of that nature.  That will increasing the purchasing power of its citizens and allow them over time to buy their own products rather than keeping stuffing them on the U.S. consumer, which is like its government is basically dead broke.  This will not be easy to do and will take time but it’s what has to happen.  The policy of denial will only lead to global hyper-inflation.

Another myth that is often floated out there by pundits and the Fed is the idea that there is no wage inflation in the U.S. so there can be no inflation.  Well I want everyone to ask themselves a question, where are a lot of the world’s goods produced?  Asia.  Second question, is there an acceleration of wage pressure in Asia?  Yes.  Ok then, so if policies remain unchanged Asia’s biggest export to the world is about to be inflation and China will receive it as well unless they deal with the yuan sooner rather than later.  I think China has already lost control of inflation and a yuan move is the only logical and healthy option they are left with.

Mike

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