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- May 20, 2010 -

 

Global Supply Chain News: Will Chinese Currency Revaluation have Any Impact on US Imports?

 

Despite Many Calls for Yuan Appreciation, Changes Unlikely to Really Impact Import Volumes or US Manufacturing Levels; New Bill Plans Chinese Tariffs Nonetheless

 
     
 


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For several years, politicians in Washington, labor leaders, and some US business interests have called on China to revalue its currency versus the US dollar, as the yuan has retained a fixed value to the dollar even as Chinese exports the US have surged along with the US trade deficit. Unlike most other major world currencies today, the yuan’s value does not openly trade in global currency markets, but rather stays pegged at a fixed exchange rate to the dollar based on decisions by the Chinese government.

 

Pressure on the Chinese to increase the valuation of the yuan versus the dollar have come from both sides of the political aisle, but has become more pronounced during the Obama administration. Yuan valuation is one of several issues behind the increasingly rocky relationship between Washington and Beijing. Many believe a re-valuation would reduce US imports from Chinese and increase the competitiveness of US goods being sold into China, creating a boost to US manufacturing in the process.

                       

“To some in Washington these days, adjusting the yuan-dollar exchange rate is the fix for all America's ills,” Joseph Sternberg, editor if the Wall Street Journal Asia's Business Asia column recently wrote. “That single number supposedly determines which jobs stay in the United States and which go to China. It dictates which and how many goods move where. It's attributed the mystical power to raise or destroy mighty economies by its movements or lack thereof.”

 

Certainly, substantial revaluation could change the cost dynamics of China sourcing, but it is almost unthinkable that the Chinese government would re-value the yuan in way that would make much of a dent in China’s export volumes to the US. Last year, a leading Chinese economist suggested the country should consider a revaluation of some 10%, which many thought may have been a Chinese government sponsored “trial balloon” indicating a potential one-time move of the yuan to pacify US critics without causing much damage to the country’s export machine. (See New Call in China to Let Yuan Rise 10% Against Dollar.) Most now though seem to think a rise of 10% is more than double what the Chinese government might eventually agree to.

 

What is the Relationship between Yuan Value and Price?

 

A critical question though is how much impact any sort of revaluation is likely to have in practice. Chinese manufacturers could react to a re-valuation by reducing prices to compensate for the effective rise in their sales prices that would result from a more richly value yuan - a move that could potentially be supported by the Chinese government increasing its current levels of export incentives.

 

The other reality is that the total cost of imports from China are not as fully tethered to the value of the yuan as some in Washington and elsewhere may think. A 5% appreciation in the value of the yuan will not usually result, for example, in a direct rise in the pricing of Chinese exports by an equal amount.

 

One of the most important factors is the cost of any raw materials or commodities used in the manufacture of goods. That includes everything from iron ore to steel to cotton to oil. Those commodities are based on global prices for goods regardless of where they are purchased, and are generally valued in US dollars. Thus, those costs would be unaffected by a yuan revaluation. The greater the percentage of an item’s total cost that is driven by raw materials and commodity pricing, the less a yuan revaluation would have on the price of finished goods coming out of China.

 

Logically, a revaluation of the yuan would likely have the largest impact on goods that are the most labor intensive to produce, such as apparel items that rely on manual sewing operations. However, rising labor costs in China that have nothing to do with yuan revaluation have already pushed many US companies to look to Vietnam and even Africa as sourcing regions for those types of high labor content goods.

 

In fact, rising labor costs generally are by far a larger concern for Chinese manufacturers than a yuan revaluation.

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“The rising costs of Chinese manufacturing in general are a much bigger headache for some apparel manufacturers than a yuan revaluation would be,” the Journal’s Sternberg observes. “Wage increases alone force factory owners along China's coast to boost productivity by 6% or more each year to stay competitive. Increasing productivity by another 2% or 3% to compensate for a revaluation would be tough, but perhaps not the most serious challenge”

Where is the Margin Captured?

Many may not realize the extent of mark-up on many branded and fashion goods coming into the US from Asia. A pair of jeans made inChina might cost some $8.00 a pair, which includes the cost for cotton that would not be affected by revaluation. Logistics and insurance costs to ship those jeans to the United States might add something like 50 cents to the cost to each pair.

 

But at brand-name store in the US, those jeans may sell for $40.00 or more – an ultimate mark-up of likely more than $30.00 a pair.

 

That mark-up in price captures the real value added by the intellectual property of the design, advertising, distribution and financing—all services often provided by U.S. companies, in dollars.

 

In this example, a single digit rise in the valuation of the yuan in this process would have a very modest impact at best on the sourcing decision.

 

Of course, the impact would be greater on more basic items, such as auto parts or electronic components, that don’t carry that brand premium, but even there the impact of a small yuan revaluation is unlikely to be significant.

 

Some say the recent turmoil over the Euro stemming from the Greek debt crisis will cause the US and the Chinese to pull back from serious discussions around a yuan revaluation to avoid adding another dynamic to world currency markets.

 

However, New York Senator Chuck Schumer recently said that “The Chinese always have a reason to delay. Europe shouldn’t change the need and fairness of obtaining the current appreciation.”

 

Schumer has introduced legislation that would require that the US impose tariffs on the Chinese (and other countries) that have misaligned currencies with the US.

 

Are you in favor of a yuan revaluation? How big does it be to make a difference in the balance of trade and US competitiveness?  Let us know your thoughts at the Feedback button below.


 
 
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