The Rise of China and the Emerging Markets

I'm posting a graph from Google Finance today. It graphs the relative movement of various currencies over the past few years. The graph is extremely interesting. The baseline for this graph is the USDCNY downward slope. View the other currencies against that baseline.

Some interesting observations:

  1. The US Dollar has depreciated 20% against the Chinese Renminbi since late 2005. The other way to look at this statistic is that the Chinese Renminbi has appreciated 20% against the world standard currency - the dollar. That's because its exports are in much greater demand across the world and more so in America. America has a $295 billion trade deficit with China that is fueled primarily by American consumerism and its insatiable appetite for imported goods at low rates.
  2. The US Dollar has appreciated 20% against the Indian Rupee since 2005 but we all know that the dollar isn't doing too well as a currency. What then explains this increase? The answer, my friend, lies in India's reckless profligacy. India has been running a current account deficit that it's government refuses to control (the money is being used for programs like NREGA, NHAI etc.). Foreign inflows are continually being used to finance the shortfall that the country's exchequer is facing and the situation is dire. RBI's comment on the matter? "The country's current account deficit is unsustainable." Note: As long as we're running a current account deficit, we're devaluing the currency with respect to the rest of the world because we're making interest payments in return for goods of no objective value (i.e. money in another currency). The resulting inflation in India is a testament to this devaluation. Another interesting fact to note is that the shortfall involved is 4.3% of India's GDP (NOT Tax Revenue). That figure is substantially greater than what we will be able to easily repay via tax collections since the money is being used essentially as handouts to the poor (e.g. NREGA) and not for setting up new industries or galvanizing rotting ones.
  3. Given the above two points, it's entirely not surprising that the Chinese Renminbi has appreciated 60% over the Indian rupee since 2005. Of the 60%, 40% can be accounted for by taking the US dollar as the base currency for valuation: 1 USD buys 20% less CNY and 1 USD buys 20% more INR, therefore 40% of the currency gap is accounted for. The remaining 20% gap can only be explained by the enormous bilateral trade deficit (~ $27 billion) that India runs with China.
  4. However, these 3 points don't indicate the full story. Look at the graph for CNYJPY and compare that with USDJPY. The two graphs nearly mirror each other but sometime starting in 2007 and extending through most of 2008, there was a gap introduced between the values of the two currencies. The current value of that gap is around 20%. What does that mean? Why is the USD devaluing against JPY (down 20% since 2008)? Was it the financial crisis that caused this devaluation? Alternatively, is CNY devaluing against JPY? The second explanation seems more likely. The Japanese Yen seems to be becoming a stronger currency - especially since it is a hidden part of the US-China trade deficit (Bloomberg states that South Korea, Japan and Taiwan account for a $200 billion trade deficit that China runs against these countries. This makes sense if you realize that Chinese factories are assembly lines and the components are actually sourced from these countries). 
My inference from the above indicates that the rise of China will be accompanied by the rise of these 3 countries to a much greater extent than what is currently being expected. India is a sitting loser in this series since it's not part of this virtuous cycle of products being made, packaged and exported. We're sitting on a time bomb of "service exports" to developed countries while China is sitting on a gold mine of manufacturing goods ready to be sent to countries willing to pay for them. It's hard to realize it, but we're being run into the ground by international trade and we're paying heavily for it in terms of the future of our country.

If you want to view the graph in all it's glory, have a look here. Look at it closely and draw your own conclusions. Let me know if you differ with my opinion. Have a good day in analysis!


  1. One of the most lucid articles on trade I've read so far.

  2. Really interesting article. Did you look at more stats on your claim that India's current deficit is unsustainable. Maybe with more devaluation of currency, more Indian services will be exported and more of the poor will be able to get jobs.

    1. Devaluation of a currency is never a good thing. It makes imports extremely expensive and acts as a trade barrier. China is using an artificially devalued currency to gain an unfair trade advantage. When we devalue our currency - every single person in our country: man, woman and child becomes poorer. It's basically an insidious tax and something that's imposed on the citizens by their government with only implicit consent and very little discussion. It's horrible and should never be seen as a solution to ANY problem.

  3. Devaluation of a currency is often a good thing. China has been doing this for years, buying up large amounts US debt in order to keep its currency devalued with respect to the usd. Its only recently letting its currency rise, partially due to international pressure, and partially because it wants to increase consumerism in its own people to reduce dependence on US consumers.

    -Debdatta Basu

    1. Please don't use China as a justification for the general case. China has a huge trade imbalance with most of the world because of its artificially devalued currency and they're a pretty self sufficient economy. They maintain this trade imbalance but pay through their nose for anything that they import. That's why securing foreign oil supplies, imported raw material etc. is such a high priority for the Chinese government and that's why they look towards vertical integration and trade denominated in the Reminbi.

      Devaluation as a policy makes your entire country poorer, oil more expensive and fuels a vicious cycle of inflation where salaries cannot keep up with expenses. The people who have saved for retirement are hit the hardest as the money that they so painstakingly saved now purchases them fewer and fewer necessities. Families with kids pay more for the same resources as compared to families with more stable economies. Inflation pushes the lower middle class back into poverty and promotes a greedy, speculative, hoarding mentality (the same asset being more valuable in just a short period if you hold on to it but money in the bank being less and less valuable for the same period of time).

      So, no, there is no justification for devaluation. And there is no justification for unbridled inflation. That's the job of the Central Bank of the Country and they better do it well for securing the future of citizens.

    2. I wasn't saying it was good for the people in the short term. I was saying its good for the economy. There's a difference. Inflation pulls the rug out from under the people's feet, and this makes them (have to) work harder. That makes the economy more productive. Now that's a lousy way to make the economy more productive, as ideally, we would want productivity to come more from capital investments. However, for economies stuck in the 19th century, devaluation is certainly an option.

      However, that need not be permanent. Once there is a stable industrial base, people are more or less educated, and the system can sustain its own weight, it is time to switch strategies. It is time to let the currency strengthen by slowly reducing the purchase of foreign debt. This makes the people richer on the back of a stronger currency, and leaves more money in the hands of the government to carry out social agenda. Slowly but steadily, consumerism rises, and there comes a stage where people can afford to buy large quantities of products that they themselves manufacture. That is the ultimate goal.

      This has worked well for japan, south korea, and germany in the past. It is probably going to work well for china as well.

      -Debdatta Basu

    3. Almost all of the examples you've cited are economies that facing extreme difficulties.
      Germany and Japan didn't devalue their currencies by choice. They had to do it because they lost the World Wars. And their recoveries are not to be attributed to inflation. In fact, Japan as an economy has been suffering from deflation for the past 10 years and yet Tokyo is the world's most expensive city to live in. Germany had a 40 year period of pain before it became wealthy through its industrious citizens. Unfortunately, I don't have sufficient data to comment about South Korea.

      Being young, you're pro-inflation right now because you don't have any savings in the bank. The world is very different for your Dad who might retire in the next few years. Would you advocate for a government that is selectively cruel to its citizens? Then spare a thought - inflation is selective cruelty to the frail, to the wise, to the careful and to the disadvantaged and these are the sorts of people that will never get to see the "mythical golden age" that you assume will eventually take place. All they will remember is a government to whom they paid taxes dutifully but who let them down when they needed its support in return. What's the alternative, you might ask - that alternative is a slow, time dependent maturing of the economy. It gives everyone the opportunity to save appropriately for the future and the country develops as a whole.

      Unbridled inflation of the sort you're advocating is economic genocide and nothing that you've said in support of it above has caused me to change my mind and I will stick to my stated views. I hope I would have played a small role in trying to get you to reconsider your thoughts.


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