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China’s Equilibrium Real Exchange Rate: A Counterfactual Analysis

Rodney Tyers, Yongxiang Bu and Iain Bain ()

ANU Working Papers in Economics and Econometrics from Australian National University, College of Business and Economics, School of Economics

Abstract: China’s maintenance of a de facto peg against the US dollar during and following the Asian financial crisis caused a realignment of exchange rates in the Asian region. This paper explores the “equilibrium” level of China’s real effective rate in the lead-up to, during and following that crisis. An adaptation of the Devarajan-Lewis-Robinson three-good general equilibrium model is employed to estimate time paths of the equilibrium real effective exchange rate under a variety of assumptions about the balance of trade. Key requirements of the model are indices of import and export prices in time series. Since these are unavailable from secondary sources they are here constructed from trade data. The results suggest that, while there is no clear evidence of undervaluation as of 2004, China’s real effective exchange rate was on the low side in the lead-up to and during the crisis, due in part to an extraordinary rate of accumulation of foreign reserves and an associated trade surplus following the integration of its hitherto multiple exchange rates in 1994. If, instead, China had run a more typical trade deficit, say amounting to 10 per cent of export revenue or 1.5 per cent of GDP, it is estimated that China’s real effective exchange rate would have been higher by about a tenth prior to the crisis.

Pages: 29 pages
Date: 2006-05
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Journal Article: CHINA'S EQUILIBRIUM REAL EXCHANGE RATE: A COUNTERFACTUAL ANALYSIS (2008) Downloads
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Persistent link: https://EconPapers.repec.org/RePEc:acb:cbeeco:2006-466

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