The Currency Game - Chinese Style

Within the many layers of financial policy, it is simple to forget that control of currency values is an item of sovereign discretion. True, some multinational entities such as the IMF and the World Bank can exert indirect influence on those sovereign acts: "Link your currency to the US dollar, and we will triple your loans", or "Float your currency, and we will improve your credit rating". In most instances the state will wait a respectable length of time so the decision seems voluntary, then the central bank or other monetary authority will accept the advice.

While that is standard policy, some states try to assert their sovereign rights and ignore the lenders' suggestions. Sometimes these currency rebellions are justified; sometimes they are not.

One case now receiving much public attention is whether China will yield to pressure from the US and Europe to float its currency. Some economists estimate that China's currency the yuan (signified as the CNY/RMB) is trading at a rate at least 40% below its actual market value. Several influential central banks recently urged China to release the CNY/RMB from the trading band it has had with the US dollar since 1994. While releasing the CNY/RMB may serve the interests of the global economy, do not be surprised if China retains the trading band.

For years China's banks have played the ultimate "fuzzy math" game to conceal the high percentages of bad loans those banks carry. Since banks in China operate within the communist state structure and are basically protected against failure, China's banks have no incentive to tell the truth. In China there are no such things as external audits and specific reporting requirements, and banks are not completely bound by the Basel Standards or the Basel II Standards. Transparency in China's financial services sector is a myth - and not a very encouraging one at that.

If China releases its currency, the house of cards otherwise known as China's banking sector will come crashing down. Having been "forced" to comply with one of its WTO accession requirements - and receiving such a negative shock from it - the state will fear that the next demand from the international financial system would require China to accept the Basel Standards for capital adequacy, credit/lending spreads, and market transparency. While China should do this to ensure investor security, complying with the Basel Standards would not help China to do another falsified "quick fix" of its banks.

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