China’s Exporters Hope For Boost From Yuan Devaluation, But Analysts Say It Won't Solve Systemic Problems

SHANGHAI -- Southwest of Shanghai in the vast indoor "commodities market" at Yiwu, the largest of its kind in the world, the number of foreign traders coming to place bulk orders for everything from plastic flowers to power tools has declined in recent months – and the size of their orders has, too.

“This year is definitely not as good as last year. It’s partly due to instability in the Middle East, where some of our customers come from. But the main reason is the global economy, and the yuan exchange rate,” tools salesman Chen Bo told International Business Times. “Many of our customers pay in euros, and the euro fell so far against the yuan recently.”

One aim of Beijng’s surprise move this week to devalue the yuan against the dollar by 3.5 percent over Tuesday and Wednesday is, according to many analysts, to help people like the traders of Yiwu, a major shop window for Zhejiang province, one of China’s biggest manufacturing bases, to boost overseas orders – at a time when Chinese businesses have been hit by the double blow of rising labor costs and an expensive currency.

“Because the yuan follows the U.S. dollar [trading in a narrow band against the dollar over recent years], and because the dollar has risen very fast against other currencies in recent months, China hopes this devaluation will reduce the downward pressure on exports,” Gary Liu, executive director of the Lujiazui Institute of International Finance at the China Europe International Business School (CEIBS) in Shanghai, told IBTimes.

After China’s exports fell by 8.3 percent in July, some manufacturers in Zhejiang, whose mainly family-run export businesses have played a significant part in China’s economic boom of the past two decades, are hoping the change will have an impact:

“Our exports have been too expensive recently. We hope this will make our products [cheaper and] easier to sell,” said Wang Hairong, General Manager of GLBird Technology, a manufacturer of cigarette lighters and small electronic goods in Zhejiang’s Wenzhou city. “We’ve got one European customer who placed an order and paid us a deposit, but then couldn’t afford to pay the rest as the euro fell. So the goods are still in our warehouse,” he told IBTimes.

Wang, however, said that an adjustment of just a few percentage points in the value of the yuan might not have “such a big impact” on trade. And Matteo Yeung, Sales Director of Yongkang Kaituo, a Zhejiang-based textile company, said that while his company was hoping for a boost to its export orders, which were all priced in dollars, he was not sure there would be a major or immediate change.

“This [devalution] of the yuan will be good for companies that have large amounts of capital in dollars,” he told IB Times. “But I don’t think we’ll see a sharp rise in sales, particularly to Europe. And of course some companies that import machinery or raw materials will also see costs rise.”

Gary Liu of CEIBS agreed that the current “limited devaluation” was unlikely to have a significant impact on exports. “Personally I feel if the devaluation goes beyond 10 percent, it may have quite a positive impact on exports,” he said. “But if it remains in single figures, I don’t think the effect will be too big because we’re also seeing production costs going up fast in China, in terms of the price of labor, environmental costs and the like.”

Liu said it was possible that China’s central bank, the People’s Bank of China (PBOC), might still allow the yuan to fall by as much as 10 percent, but he added: “China needs to see whether the devaluation might cause panic on the markets. The government is very risk averse, so it might change strategy if there was a panic,” to prevent a major sell-off of the Chinese currency by traders who believe it would continue to fall further. “They don’t want everyone to think that the RMB has entered a long, predictable corridor of devaluation,” he said.

And the PBOC on Wednesday sought to dampen speculation about the possibility of further significant falls in the value of the yuan, saying in a statement that, while in future, the currency’s daily trading band against the dollar would be adjusted depending on the previous day’s close, the devaluation of the past two days was a “one-time fix,” and “key economic data all supported a stable yuan.”

And even if there were further devaluations, CEIBS’ Liu suggested that inevitably there would be a time lag before the impact of a cheaper yuan fed through to export figures, or to increased foreign manufacturing investment in China. (Some manufacturers have pulled out of China due to rising costs in recent months.) And with countries such as Vietnam following China’s lead in freeing up exchange rates this week, the long-term effect of the policy could also be dulled.

According to Liu, boosting basic manufacturing exports alone could anyway only play a “limited” role in solving the problems of China’s economy at what he called a ‘”sensitive time. … Chinese exports are in a transitional stage of their development,” he said. “Our share of the global manufacturing economy is already high enough: We’re the second biggest country, and we already have significant overcapacity in our manufacturing. So what we need is not simply to increase our market share, but to raise the quality of our products, improve the technological content, and improve the international competitiveness of our exports through innovation.”

Indeed, as some observers have pointed out, one downside of the devaluation is that it will add to the cost of imports of high-tech equipment for Chinese manufacturers seeking to upgrade their technology. It could also affect recent Chinese government pledges to rebalance the nation’s trade deficit by promoting imports of consumer goods, particularly via cross-border e-commerce.

However, Liu of CEIBS said China was still more focused on exports than on consumer spending, which it hoped would be mainly directed towards consumption of domestically produced products. And he stressed that another significant aim of this week’s devaluation, and the change in the management of the exchange rate mechanism, should not be underestimated – China’s desire to become part of the International Monetary Fund’s Special Drawing Rights mechanism [SDR], since becoming a member of this global basket of reserve currencies would be an important symbol both of China’s increased global role, and of the opening up of its currency and financial system.

“We know that at the moment, though, the IMF has been quite positive about China joining the SDR. The U.S. is not,” he said. “And the key issue is exchange-rate management.” By allowing the market to play a greater role in determining the value of its currency in future, China was trying to send a signal that it “is taking steps to internationalize the yuan, and it hopes that this will win international approval,” Liu added.

The degree of global approval for China’s unexpected step, however, may depend on just how much further, and how fast, the Chinese yuan falls in the days to come, and how well international markets can absorb the impact.