The Chinese yuan (also known as renminbi - or 'peoples' currency') appeared to have traded briefly above its long-time ceiling (8.2760 yuan per USD) briefly on Friday during the Asian lunch hour. Click the title for the NY Times article on the episode which caused some dislocation in the global currency markets and a bit of furor for long-time China watchers.
1. Most likely, the accurate explanation is the least sexy one -- it was a technical error. There is precedence for this as the Hong Kong dollar (HKD) once traded for serveral minutes below its set floor as the Hong Kong and Shanghai bank, the de facto agent for the Hong Kong Monetary Authority, fell briefly asleep at the wheel. No explanation was ever given and nothing ever resulted.
2. The U.S. has been arguing heatedly for a yuan revaluation to help the gaping US trade deficit. The biggest culprit has been the significantly undervalued yuan which makes Chinese exports unusually attractive while making American imports expensive. The Chicomms, who are more manic about 'face' than anyone, are EXTREMELY UNLIKELY to relax the yuan peg WHILE UNDER PRESSURE TO DO SO.
3. Every forced currency regime change, in each case recently a devaluation, (though the lesson is completely fungible) has come because of a FAILURE OF POLITICAL WILL. If nothing else Beijing has that in spades. The Chinese currency regime is really invulnerable from outside attack since it is at all freely traded. An instructive example: speculators have tried many times to break the HKD peg and failed each time even though the HKD is fully capital-account convertible (freely traded). The reason? The Hong Kong government always had the political will (after 1997 bolstered by their masters in Beijing) to hold against all pressure.
4. When a revaluation (or, equally likely, a widening of the allowed trading band) comes it will come when such an action would not be seen as forced by the United States or external forces.
5. The MOST important issue for the continued growth of China and the survival of the Communist Party is economic stability. The past decade of 8-10% annual economic growth has covered many ugly abscesses in the Chinese economy - the most important of which is that the banking system is saddled with a huge percentage of non-performing loans and is extremely risky by any standard. A significant yuan revaluation (which would occur if there were a flotation) could be quite risky for the Chinese economy which has a subsistent migrant worker population in the urban areas that number many scores, if not hundreds of millions. These workers scrape by in the major urban areas since there are no opportunities in rural areas. A drop in GDP growth to 4-5% from current rates could trigger widespread social discontent as the marginal businesses get pushed over the edge en masse.
6. Relaxing a currency regime is a slippery slope. Once you start you lose your most important asset - your credibility. It's a bit like virginity - you can't get it back. And the market will demand and expect more.
Will it happen? Yes. But at a time of the regime's choosing and this does not look like it.
7. The best lesson to learn from this? How other currencies reacted to a possible revaluation. (Weaker dollar across the board with other SE Asian central banks likely to take relative advantage by preventing their currencies from appreciating at the same rate.)