The Chinese yuan, also referred to as the renminbi (“the people’s money”), is the legal tender issued by China’s monetary authority, the People’s Bank of China. The official currency has a floating exchange rate and China’s central bank controls its valuation in relation to other major currencies like the US dollar, euro, pound sterling, Swiss franc, and Japanese yen.
SHOULD I INVEST IN THE CHINESE YUAN?
Due to China’s successful monetary policy of the past few decades, you may be wondering if you should invest in the Chinese yuan.
The Pros of Investing in the Chinese Yuan
● China’s Economy is Growing, and Poverty is Falling
● China Is a Global Financial Powerhouse
● China Is a Net Creditor to the USA
The Cons of Investing in the Chinese Yuan
● China’s Government, Businesses, and Citizens are in Debt
● Local Governments Struggle to Provide Social Services
● China has a High Rate of Corporate Loan Defaults
If you’re evaluating a basket of major currencies in the foreign currency markets, then you’ve probably become aware of the potential significance of the Chinese yuan, after China became the largest economy in the world. You may also have become aware of the relationship between U.S. dollars to Chinese yuan because of all the news about the trade war and tariffs between the United States and China.
Does China’s new era of prosperity now mean that its currency is a good investment? To answer that question fully, we must weigh the pros and cons of investing in the Chinese yuan.
The Pros of Investing in the Chinese Yuan
China’s Economy is Growing, and Poverty is Falling
In 1978, China was so poor that 9 out of 10 people fell below the World Bank’s classification of living below the level of extreme poverty, which was defined as earning less than $2 a day. Since the population numbered into billions, starvation was the rule rather than the exception. The majority of the population spent most of their waking hours toiling to make enough money to feed themselves and their families.
Today, all of this has changed. Now, 1.3 billion people have more than enough to eat, and families enjoy both more leisure time and shared meals. In fact, it’s now estimated that some citizens of China have experienced a fifty-fold increase in their standard of living.
What’s more, over the past four decades of exponential growth, the economy has doubled every seven years. To put this in perspective, individual well-being in China is now at its highest point. More people are happier and healthier than in the past four thousand years of the country’s history.
China Is a Global Financial Powerhouse
China has surprised the world by becoming a global financial giant, arising from what looked like an economically hopeless situation in the late 1970s. During this time, most countries used the US dollar for international trade. Now, many countries prefer using the Chinese yuan when trading with China, a move that will strengthen the Chinese currency. According to SWIFT, a leader in processing international payments, over 1,050 financial institutions in more than 90 countries are using the Chinese Yuan for international trade.
The global rise in Chinese yuan transactions means that the currency has a high probability of becoming a global currency that will be used to settle international trades. If this happens, the renminbi will have a stronger valuation.
China Is a Net Creditor to the USA
China has been steadily buying US Treasury Bonds over a course of many years, and this now places the country as a creditor to the US, rather than a debtor. China has also invested in gold reserves to improve its own credit ranking. On top of all that, China is becoming an increasingly dominant player in energy resources like oil–often referred to as “black gold” because it’s a precious resource that has a huge impact on global markets.
However, in all fairness, since China’s central banking has more control of the country’s economy than the Federal Reserve has over America’s free market system, the Chinese government has more options for manipulating the Chinese yuan to the US dollar exchange rate.
The Cons of Investing in the Chinese Yuan
China’s Government, Businesses, and Citizens are in Debt
The rapid development of China is due to substantial government spending. This policy of quantitative easing has exerted a high price. The Chinese government has increased inflation, reduced food safety, and produced industrial pollution in its major cities. Rapid industrialization has compromised consumer safety in many ways.
This high rate of spending to rebuild the economy has resulted in a skewed debt to gross domestic product ratio of 260%. Moreover, this debt extends beyond the government because it owns numerous corporations, so it includes consumer debt. Since corporate debt has an influence on consumer debt, it has resulted in an asset bubble that has increased the price of urban housing that was built on low-interest loans.
Consumer debt is not limited to the high cost of housing. Consumers have tightened their belts by spending less on purchases like automobiles and telecommunication devices. This reluctance to shop has resulted in a slump in retail sales for big-ticket items.
Local Governments Struggle to Provide Social Services
Much of China’s affluence has been concentrated in about 10 cities. In order of wealth, these are Shanghai, Beijing, Hong Kong, Shenzhen, Guangzhou, Chongqing, Tianjin, Suzhou, Chengdu, and Macau. This prosperity is not solely concentrated in one part of the country but has been distributed throughout the land—with Shanghai on the east coast, and Tianjin on the mainland. Macau, the independent city-state often called the Las Vegas of Asia, is located across the water from Hong Kong and ranked as the tenth richest city in China and the fourth richest territory in the world.
However, outside of these directly controlled municipalities, numerous provincial cities and rural areas struggle to provide social services, mainly because of their inability to raise revenues through taxation. This scarcity of social services has forced families to put an emphasis on savings over spending.
Since the interest rates offered by banks on savings is low, this further discourages spending. Low domestic demand has meant slowed economic growth. In addition, there has been a migration of farm workers to the big cities, which has put a further strain on the economic growth of local governments.
China has a High Rate of Corporate Loan Defaults
China’s banks are owned by the state, which means that the government decides interest rates and approves loans. As a result, banks pay a low-interest rate on deposits to make it easier to lend to businesses owned by the state. However, this is a precarious situation because it increases the likelihood of defaults on state-owned companies that have taken on too much debt. Consequently, the default rates on loans will rise if the government cuts back on its economic stimulus plans because this will spike up the interest rates.
Foreign Exchange Rate of the Us Dollar to Chinese Yuan
One way of evaluating the strength of any currency is by comparing it to the U.S. dollar. Currently, the conversion rate of the USD to Chinese yuan rate is $1 USD to ¥6.72 CNY.
How to Buy and Sell Chinese Yuan
When it comes to investing in the Chinese currency, you may wish to hire a forex broker and trade through the foreign exchange currency market. You can also buy Chinese yuan banknotes from a broker who sells Chinese yuan denominations in bulk. You may find that the US dollar to Chinese yuan is far too close for investors to benefit from long-term investments. The situation is dissimilar to buying a large amount of Iraqi dinar or Vietnamese dong because these foreign currencies have a good chance of revaluing to a higher rate because their economies are on an upswing.
The reason why some investors may be thinking along the lines of a wider USD to RMB exchange rate ratio is that they anticipate a Chinese yuan devaluation in response to the Trump administration’s tariffs on Chinese goods. But, in truth, this is not a realistic Chinese yuan forecast. A large currency devaluation that would increase the ratio of the Chinese yuan to US dollar exchange rate could cause China to spread its current trade problems to other countries all over the world.
Incidentally, this speculation of a Chinese yuan undervalued to favor US investors is not as far-fetched as it might initially seem. This situation occurred on August 11, 2015, when the People’s Bank of China caused the devaluation of Chinese yuan three times. This surprising move knocked more than 3% off its previous value. At that time, the move was designed to increase China’s exports, as well as place it in the special drawing rights basket of the International Monetary fund, thus making it eligible to be considered a reserve currency. However, since this drastic move negatively impacted China’s reputation as a nation committed to free-market values, it is unlikely to happen again.
Should You Invest in the Chinese Yuan?
China’s current economic success did not happen by accident, or from random socio-economic conditions coming together. Instead, it occurred as a result of premeditated design; specifically, it has been a direct result of the government spending a significant amount to spur financial growth.
The rise of the purchasing power of the Chinese currency constitutes an economic marvel that has occurred over the course of only a few decades. In 1978, China suffered extreme poverty, but by 2013 it has been internationally recognized for its rapid economic growth. China’s economic reform has been based on a mixed market policy, blending a state-controlled economy and quantitative easing with a limited amount of capitalism.
Today, the country occupies a unique position on the world’s economic stage when it comes to an emerging market. This financial breakthrough is a result of its aggressive economic reform plans and its large labor pool. Consequently, it is now the second largest economy in the world after the United States, displacing the Soviet Union, which was the second highest in 1980. It also has a higher nominal GDP than economic powerhouses like Japan and Germany. In addition, it is also the largest manufacturing economy and the largest exporter in the world.
So, all things considered, and despite many of setbacks, the Chinese yuan is rapidly becoming a viable investment and a global currency. Currently, many investors are looking for an alternative to the US dollar. This is because the International Monetary Fund believes that the U.S. dollar is overvalued, while the Chinese yuan is aligned with economic fundamentals. In short, the Chinese currency looks promising. Now is a good time to buy the Chinese currency. In many ways, its trajectory is similar to the Indian rupee, whose value is continuing to rise despite many economic setbacks because it is based on emerging market forces.