China’s rebalancing timetable
Last week’s announcement by the IMF – that the RMB would join the four currencies that comprise the SDR – set off yet a new round of speculation about the future value of the RMB. On balance and over the medium term there are stronger economic reasons to keep the RMB steady than to devalue the currency by enough to affect the trade account, but it is important to remember that any change in currency policy is also form of distribution of resources within China. For this reason any decision is more likely to be the outcome of political give and take than of a carefully reasoned economic strategy.
The PBoC announced one of the biggest ever monthly declines in central bank reserves: Reserves dropped by $87 billion in November, of which over $30 billion may represent valuation changes in non-dollar reserves. This highlights the need for the PBoC to address net outflows on the country’s capital account.
One of the key questions facing China is the amount of time Beijing has to get its rising debt burden under control. This is the timeframe within which rebalancing must occur, and while there has been very little discussion about this timeframe among most analysts, this is mostly because few economists understand China’s debt dynamics, or indeed the dynamics of sovereign debt more generally. What is more, there is nothing in the literature that shows how to evaluate a country’s debt vulnerability. But investors and policymakers still need a way to frame the issue of timing. Once China reaches its debt capacity limits, or once debt levels are high enough that financial distress costs become highly self-reinforcing, China will be forced into a disruptive adjustment.
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