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Why Does China Manipulate its own Currency? - YouTube
Channel: Economics Explained
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china is always one of the more
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controversial topics that we cover
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but as the world's second largest
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economy one that is home to a radically
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different market system than the us
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it is almost inevitable that this nation
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is just a great opportunity to see a lot
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of interesting economics in action
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in fact a lot of that controversy
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actually comes from the way this nation
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handles its economy
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and what these actions mean for the
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workers and consumers in the western
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world
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chief amongst these concerns is trade
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pretty much
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everything is made in china from low
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quality disposable toys to
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high-end electronics the nation has
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become the workshop
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of the world to the usa which rose to
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its prominent position today by
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also once been the workshop of the world
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this can seem very threatening
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this perceived threat true or otherwise
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has led to hostilities like the us-china
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trade war
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as well as a host of other tensions
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between china and other nations as it
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spreads its influence over
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the world now we are not here to
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speculate over china's plans for world
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domination
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but instead we are here to use this
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tension to explore something that has
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come up
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time and time again out of all of this
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and that is the idea
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that china is not playing fair in the
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game of global trade
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and that they are cheating other
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countries companies and consumers out of
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business
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by manipulating their own currency so
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how does a nation like china control
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their currency
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can this actually be used to give an
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unfair advantage in global trade
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if it can why doesn't every country do
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it can business profit off this
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middleman market failure
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and finally does currency price even
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matter
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at the end of the day someone could go
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to japan and be a millionaire
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because their currency has such a low
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denominated value but that doesn't
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really mean anything for global trade or
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our
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would-be baller this episode of
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economics explained was made possible by
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our fans on patreon
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supporting our channel on patreon.com
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economics explained now just the phrase
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currency
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manipulation has a sinister vibe to it
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it's almost never good to be called out
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for manipulating
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anything but is this more a case of bad
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branding or is this a genuine
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underhanded attempt to ruin their
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competition
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well perhaps the best way to actually
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assess this is to look at how a nation
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does control their currency and by
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extension
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how this impacts price competition in
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general
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most nations want to export lots of
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goods and services and
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import only what they really need to
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this relationship of
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imports versus exports is noted in a
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trade surplus
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if a nation exports more than they
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import or a trade deficit
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if they import more than they export you
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have no doubt heard the term
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trade surplus a lot because it's a
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pretty commonplace political football
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a trade deficit sounds bad and
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politicians will use this to scare
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people into thinking that their nation
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is losing the ability to make anything
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for themselves
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which can actually be somewhat true free
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trade
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is almost always a good thing for the
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overall wealth and prosperity of the
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nations
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engaging in that free trade but this
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prosperity
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can often come at the expense of local
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industry
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for example the uk used to have a
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very strong auto industry with a local
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branch of general motors operating in
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the nation under the name of vauxhall as
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well as the usual group of mini
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rover jaguar etc this industry employed
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tens of thousands of workers and they
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made just absolutely terrible cars
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now i know i know i can hear the rage in
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the comments already
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some of these cars were cool and today
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they are classics
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but the average consumer runabout that
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came out of these companies
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was absolute garbage it left a lot to be
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desired by their german
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and japanese and even their american
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rivals now they could get away with
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producing these lemons because the
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government was looking out for them
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if these international competitors
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wanted to sell a car in the uk
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they would be more than welcome to do so
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but they would have to pay
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import tariffs these are taxes levied on
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imports and they could be
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pretty steep a toyota corolla might have
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competed with a voxel astra on price in
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a perfectly fair market
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but if the japanese manufacturer had to
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pay a 30 import tariff then they would
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have
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to pass this expense on to their
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consumers making their car
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just simply too expensive for most
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households to consider
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over the domestic manufacturer this is
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part of the reason why if you watch old
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movies or tv shows
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having something like a honda was
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actually a pretty serious flex
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i holy jumping seizures catfish
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my h has been stolen now that's how
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people know it's a honda
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what's the point of having a honda if
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you can't show it on
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now these import tariffs were great for
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keeping the local business operating and
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by extension their employees employed
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but it was still a net loss overall the
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world is much better off today where
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everyone
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can buy a decent car for a decent price
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produced by businesses that have to
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compete
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and trade internationally as nations
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realize this
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barriers to trade like the
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aforementioned import tariffs have
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become less and less common
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however some nations are still looking
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to get a bit of an edge in less obvious
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ways
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chief amongst these techniques is
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lowering the value of their own currency
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artificially now a low-valued currency
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sounds kind of bad if you were to hear a
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news report saying that japanese yen
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lost three percent of its value
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overnight
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your first question might be oh no what
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is 2020 done to japan
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but in reality there are some big
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benefits to have a lower valued currency
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for starters if your currency is less
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valuable
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then importing stuff becomes more
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expensive
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now this sounds bad but let me explain
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if someone is tossing up between a
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cadillac and a mercedes
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they might be pretty cost comparable if
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the us dollar
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loses half of its value though then that
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mercedes is going to be twice as
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expensive to purchase
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because it is going to take double the
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amount of american dollars to pay the
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german auto manufacturer
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in euros this means that an american car
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buyer will just have to stick with the
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caddy and
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hey look american auto manufacturing
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lives to see another day
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this achieves the same thing as the
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tariffs we were looking at earlier
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but it does not break any rules of any
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trade agreements that will normally
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stipulate that tariffs are banned
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even better still the opposite effect is
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also true
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if a german was making that same
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decision then they would suddenly see
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that for the same portion of their euro
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savings they can now buy
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two cadillacs making it more tempting of
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a proposition
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than their locally offered mercedes now
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obviously any self-respecting german
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would not be caught dead driving a
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cadillac so
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this example is a bit oversimplified but
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it goes to show that devaluing a
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currency is a big win
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for local industry a question that a lot
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of switched-on people
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ask here is well wouldn't prices just
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adjust to reflect this
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i can go to japan and trade in 10 000 us
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dollars for 1 million japanese yen but
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that hardly makes me a millionaire right
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and that's correct 1 million yen
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probably has the same purchasing power
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as about 10 000 us dollars
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in reality probably less given the cost
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of living in japan versus the united
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states
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over a long enough time frame
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free-floating currencies will normally
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even out on purchasing power
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even if that means the nominal figures
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are different
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but and this is the important
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distinction here a nation like china is
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not
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deprising their currency they are
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devaluing their currency
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price and value are terms pretty
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strongly related to one another
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so if you're still confused think about
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it like this
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apple shares are about to be split into
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four what this means is that someone
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holding 10 apple shares on the 27th of
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august will wake up the next day
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with 40 apple shares sounds pretty good
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right
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the only problem is of course that these
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shares will now only be worth
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one quarter of what they were previously
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worth so
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our would-be investor hasn't really made
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any money off this split all other
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things been equal
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the benefit of this though is that apple
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shares are now easier to invest in
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because
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small-time traders can get in for 100
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dollars rather than the 400
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per share apple is currently trading at
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but all the same
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one apple share versus four quarters of
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an apple share 10 000 us dollars versus
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1 million yen
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these pairs all have the same value
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one apple share today will pay the same
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dividends as four apple shares next week
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and i can buy the same gaming pc for 10
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000 us dollars
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as i might be able to with one million
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japanese yen
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what china is doing with its currency is
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not like what apple is doing with its
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shares
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it's more like apple trying to push its
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share price down
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50 percent without changing anything
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else
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now apple would never want to do this of
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course because it is owned by
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shareholders who want to see healthy
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returns on those shares
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but for all of the reasons that we saw
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earlier a sovereign nation like china
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may want to do this with its currency so
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the only other question is
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how is this even possible economists
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will talk at length about the guiding
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hand of the market
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how it's impossible to fight the market
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and win and how everything else
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eventually moves towards equilibrium
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so how is it that china is apparently
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fighting this unstoppable
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force to push its own currency down well
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it's actually pretty ingenious
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they use the market forces to their
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advantage by effectively
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becoming the market in the regular
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foreign exchange market there are
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hundreds of thousands of entities
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buying and selling and trading at
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currencies
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this can be anybody from some schmuck at
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the airport cash exchange trying to get
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some spending money for their holiday
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all the way up to goldman sachs
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exchanging billions of us dollars for
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euros but the market for chinese
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currency
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is a little bit different the chinese
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government says that this is the price
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and that is what it is for argument's
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sake
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let's say it's five rmb for every one us
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dollar
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to make this happen the government will
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set up their own exchange where
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everybody
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and anybody can come in and trade five
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rmb
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for one u.s dollar or one us dollar for
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five rmb
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so long as they can keep on facilitating
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this trade then this
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is what the price will be to understand
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why consider this
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let's say you are planning a trip to
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shanghai and you need to exchange some
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american dollars to r b to pay for
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everything while you're over there
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if someone offered you four rmb for
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every one us dollar
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you would tell them to get stuffed
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because you can just go to the
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government exchange and get five
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rmb for your dollar the opposite is also
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true
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nobody is going to be willing to give
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you six rmb for every one dollar
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because they would be better off going
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to the government exchange where they
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only need to pay
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five rmb for every us dollar so long as
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that exchange is functioning to
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determine both buy
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and sell prices of r b that price is not
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changing now one big drawback of this
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system
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is that the government will need to
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maintain this exchange and keep a lot of
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foreign currency on hand
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if someone wants to trade 2 billion rmb
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for 400 million american dollars
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they are going to need 400 million
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american dollars
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now collecting and keeping that much
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cash is expensive
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remember they are not just controlling
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their currency against freedom dollars
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either
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so they need to keep euros and pounds
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and yen
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and all of this actually cost the
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chinese government a lot of money
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fortunately though they no longer need
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to service a majority of this trade
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because people have learnt to accept
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that five rmb is one us dollar then they
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will just trade amongst themselves for
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that price to make everything easier
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always knowing in the back of their mind
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if that price deviates at all
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they can always go back to the
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government exchange
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curiously enough the expense involved in
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managing this exchange is very similar
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to the net cost
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borne by society through the tariffs
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that we saw earlier
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now this gets extremely technical but an
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import tariff creates what is called a
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deadweight loss on society
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go watch our video on black market
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economics to learn more about that
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but in short it is basically just the
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cost of market inefficiencies
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now to achieve the same trade advantage
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the cost borne by managing an exchange
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would be equal to the deadweight lost
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experienced through a trade tariff
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the only difference is that the exchange
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is paid for by the government directly
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with tax dollars and a deadweight loss
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is paid
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indirectly by taxpayers with higher
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prices
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i will leave a journal article in the
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sources and citations listing that goes
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over this
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in much more detail for the uber nerds
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amongst you that are interested in that
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but otherwise the takeaway is this
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messing with a free market is gonna cost
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you sure
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you can prop up local industry and maybe
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the benefits of that
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will outweigh the costs in the short
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term but either way
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if you want to mess with mr market
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expect a slap on the bottom line
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now for the entrepreneurial amongst you
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maybe you heard the phrase
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market inefficiencies and a light bulb
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is going off
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that hey market inefficiencies mean that
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there is profit to be made by taking
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advantage of these inefficiencies
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so how would one do that here well
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your us dollars are technically
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overvalued in china
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so you take them over there and use that
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money to buy
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anything it could be a car or a piece of
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furniture or a phone
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whatever it doesn't matter what does
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matter is that you are going to be able
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to get more stuff for your us dollars
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than you would have otherwise been able
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to in america
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now once you have secured your goods you
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bring them back to the united states to
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sell them for a price without the
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influence of the undervalued foreign
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exchanger
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oh wait a second this is just importing
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stuff from china to sell
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congratulations you've made a profit but
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you are playing the game that china
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wanted you to play
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all along currency international trade
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market intervention chinese business
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practices and foreign exchange
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are by their nature all very complicated
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issues
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if you throw all of these factors into a
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blender together
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you get the controversy around currency
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manipulation
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most people don't understand it but
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everyone seems to be afraid of it
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so is this something to really be angry
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about well yeah
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sure but only as angry as you would be
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about a trade tariff
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which i'm going to go ahead and assume
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for most of you is
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not ferry what's more is that every day
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china is loosening this grip on its
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currency
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today rmb is influenced by market forces
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and
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only occasionally beat back in line with
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expectations
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realistically in the not too distant
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future it's likely to become
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a fully free-floating currency which
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will position the rmb to become more
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widespread and universally accepted
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perhaps one day it would even rival the
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us dollar but more about that
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in our next video in this series until
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then i hope you enjoyed this one
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if you did please consider liking and
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subscribing this video was another great
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suggestion by one of our patrons over on
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patreon
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so if you want to have your say about
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guys bye
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