Page last updated at 09:47 GMT, Tuesday, 11 October 2005 10:47 UK

Q&A: China revalues its currency

A teller counts Chinese yuan notes
US critics claimed China kept the yuan low to boost exports

China has abandoned its currency's peg to the dollar and revalued the yuan by 2.2%. It now buys more US dollars than before.

With China both one of the world's largest exporters of manufactured goods and one of the largest importers of raw materials, the move's economic impact will be felt worldwide.

Why has China revalued its currency?

China's currency has been fixed at 8.28 yuan to the US dollar for 10 years.

But since China joined the World Trade Organization it has come under increasing pressure to break that link.

The US, in particular, has been worried that China's cheap currency gives it an unfair advantage as it sells its goods to Western consumers.

Already China has built up a huge trade surplus with the rest of the world, and appears to be able to make things more cheaply than its developing country rivals.

China may have been influenced by the fact that it is hosting the world trade talks in December, and did not want talk of its huge trade surpluses to dominate the discussion.

What difference will it make to China?

China's exports will become more expensive as a result of the increased value of its currency.

This might slow the rate of growth of its exports, which are the main engine of China's impressive economic growth.

A slowdown in economic growth could have serious social consequences in China if it led to higher unemployment.

But the relatively small size of the revaluation means it is unlikely to have a huge immediate economic effect.

How will it affect the rest of the world?

Both developing countries and industrial countries will breathe a small sigh of relief if China's export-led growth slows a little.

Developing countries will hope that they will be able to produce more industrial goods like clothing that they can export to Western markets.

And industrialised countries are likely to face fewer calls for protectionism from both workers and manufacturers who fear competition from Chinese exporters.

This is particularly important in the USA, where political pressure was mounting to do something about and against China.

Most recently this was symbolised by the opposition to a Chinese oil company buying its US-based rival Unocal.

Western consumers, however, may be hurting.

Inflation has been low across much of the Western world, not least because steadily falling prices for consumers goods 'Made in China' helped to keep prices down.

And Western companies that have invested heavily in China may have to adjust their business plans to take account of the new development - although many have done so already.

Are there more revaluations to come?

China has said it will link its currency to a basket of currencies, not just to the dollar, so there could be more changes ahead.

But the Chinese authorities will be careful not to move too quickly on revaluation as this could destabilise both exports and the huge inward investments made by Western firms.

In the long-run, as China focuses less on export-led growth and more on supplying the needs of its own consumers, the government will benefit as the lower prices for imports will help keep inflation in check.

What are the dangers of the move?

China resisted devaluing its currency during the Asian financial crisis of 1997-98, and this provided a key element of stability that contained the crisis after most other Asian developing countries were forced off fixed rates.

And if it has a floating currency this could make China more vulnerable to future financial crises.

However, China is protected by having huge currency reserves of $750bn (400bn), built up by its years of trade surpluses.

But many of these are in US Treasury bonds, which will become less valuable to China after its revaluation.

So China may start to switch from holding dollars to holding other types of currency, for example the euro, which could lead to a sharp fall in the value of the dollar.

It could also make it more difficult (or expensive) for the US government to finance its massive budget deficit.




SEE ALSO
China launches shake-up of yuan
21 Jul 05 |  Business

RELATED INTERNET LINKS
The BBC is not responsible for the content of external internet sites


FEATURES, VIEWS, ANALYSIS
Has China's housing bubble burst?
How the world's oldest clove tree defied an empire
Why Royal Ballet principal Sergei Polunin quit

BBC navigation

BBC © 2014 The BBC is not responsible for the content of external sites. Read more.

This page is best viewed in an up-to-date web browser with style sheets (CSS) enabled. While you will be able to view the content of this page in your current browser, you will not be able to get the full visual experience. Please consider upgrading your browser software or enabling style sheets (CSS) if you are able to do so.

Americas Africa Europe Middle East South Asia Asia Pacific