Treasury and risk management - Essay Example

Therefore, China is pursuing a weak currency policy in order to boost demand for Chinese exports. The large current account surplus in China is the indication that China’s currency is undervalued (Pettinger, 2011, p.1). The reason behind holding the value of Yuan is to compensate for its economic weakness. Its weak currency policy makes Chinese goods cheap compared with those of global competitors in Europe and Japan for instance. Since 1996, China has maintained a same fixed exchange rate resulting in an enormous increase in foreign exchange reserves.

This enormous increase will be fuelled by Yuan that is estimated to be undervalued against the dollar. The benefit which it is getting by holding the value of Yuan is that it is selling more goods in foreign countries i.e. trade surplus (Cohen, p.1). Another benefit is that its capital market is becoming attractive to investors. If the successful internationalization of the Yuan will be possible then it will also be the international currency (Cohen, 2011, p.1). Evidence Suggesting Weak Currency Policy of China It has undervalued the price of its currencies in order to keep its currency policy weak in order to boost export and enjoy trade surplus.

Its weak currency policy in relation to US Dollar enables them to buy dollar from the open market in order to keep the demand for dollars high. It drives the dollar price upward in relation to Yuan. The large account surplus in China is the evidence for its weak currency policy (Cksd, 2012, p.77). There are some negative aspects towards the weak currency policy of China. By depending more on exports and foreign direct investment inflows made China particularly weak towards the effects of the global economic slowdown.

A weak currency policy i.e. undervalued currency makes import more expensive, thereby throbbing Chinese firms that import raw materials and machinery (Morrison and Labonte, 2011, p.22). A huge rise in China’s foreign exchange reserves in recent years is also the evidence that the Chinese Government has been holding its currency down in order to make weak currency policy (Shapiro, 2009, p.85). Relationship between Yuan Appreciation and Dollar Depreciation Currently imports from China accounted for about 10% of total U.S. imports.

In June 2010, the value of Yuan was 6.79 to the dollar. In 2012 China allow the Yuan to trade in a daily range against the U.S. dollar. Soon it was announced that Yuan’s new trading band against the dollar will allow the exchange rates to move 1% above or below a daily reference exchange rates (Fung and Hong, 2012). Therefore a 25% appreciation of Yuan would be equivalent to 20% dollar depreciation. Such depreciation will result in stemming America’s appetite for foreign goods. If Yuan value appreciates, it will cause deflation, cut off foreign direct investment and cut economic growth.

If these things will happen, prices will skyrocket preventing the consumers to buy the stuff in China, and the Chinese economies would break up to a halt. On the other hand, it will lead to the more export of U.S goods. The other country will have money and reserves to buy America’