"Frankly speaking, foreign exchange reserves have become a big burden for us, because such reserves translate into the base money, which could affect inflation," Phoenix New Media Ltd quoted Li as saying during a visit to Kenya.
"From China's perspective, macroeconomic controls could face tremendous pressures if the overall trade is imbalanced."Translation: China's mercantilist trade policy is creating distortions in the domestic economy, as well as affecting the value of the RMB in the currency market that the peg is not completely offsetting as China increases the float.
China will take steps to reduce its trade surpluses with the rest of the world, including Kenya, Li was quoted as saying.
How it is it that foreign reserves have become a burden since they translate into base money? Chinese companies exports goods to the US, UK and EZ and get paid in USD, GBP, and EUR. Chinese companies are not allowed to convert the proceeds from sales into RMB in the currency market, since that would undermine the peg.
So the People's Bank of China borrows the proceeds from the exporters, puts the foreign currencies into bonds of the respective countries, and only allows Chinese companies to draw on a limited amount of RMB, mostly to pay bills and for investment. The problem with "inflation" comes importing, especially energy, in an undervalued currency and from a run up in investment that leads to asset inflation and from there to price and wage inflation. China has been dealing with this through financial repression — keeping interest rates low to encourage investment and reduce interest payments that could increase domestic demand that would fuel price inflation, hence rising wage demands.
Reuters (May 11, 2014)
China's FX reserves may stoke inflation, a 'big burden': premier
Reporting by Kevin Yao; Editing by Clarence Fernandez
2 comments:
"Chinese companies are not allowed to convert the proceeds from sales into RMB in the currency market, since that would undermine the peg."
Really? I thought the PBoC bought the USD from Chinese exporters with RMB, then used the USD to buy US government bonds.
From what I understand from reading Michael Pettis, Chinese firms lend to the PBC and are only allowed to use a certain amount of that in the economy. The government has been gradually relaxing the peg by increasing the amount it is allowed to float and also increasing the freedom of companies to hold deposit accounts abroad. Simultaneously, the government has been attempting to rebalance between investment and consumption, but so far consumption only accounts for about 35-40% of the domestic economy.
China is approaching the Lewis turning point., where they are running out of cheap labor and need to make the transition to a domestic demand driven economy instead of relying on cheap labor and imported capital and technology to fuel investment.
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