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Title: the influence of exchange rate movements on export trade in China

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Sep 15, 11, 02:12AM | #1
The structure of dissertation



Title: the influence of exchange rate movements on export trade in China



Chapter 1 introduction

1. Background

2. Dissertation aim and layout



Chapter 2 the evolution of the exchange rate movements on the foreign trade

1. Relevant theories to the research

2. Literature review

The influences of exchange rate fluctuations on domestic export trade

a. The fluctuations of exchange rate on domestic export trade have a positive influence

b. The fluctuations of exchange rate on domestic export trade have a negative influence

c. The fluctuations of exchange rate on domestic export trade have inconspicuous influence

The influences of exchange rate fluctuations on export trade in China

3. Summary



Chapter 3 the analysis of reasons for RMB exchange rate movements

1. The history of RMB exchange rate movements and the corresponding export trade situation

2. Two factors

a. Objective factors

b. Policy factors



Chapter 4 the analysis of the influence of exchange rate movements on export trade in China

1. Investigation to the influence of exchange rate movements on export trade in China

a. Methodology

VAR analysis

b. Results and discussions

2. The advantage influence of exchange rate movements on the export trade in China

3. The disadvantage influence of the exchange rate movements on the export trade in China

4. Some suggestions of choosing a exchange rate for China's export trade

5. Summary



Chapter 5 conclusion and recommendation

1. Conclusion

2. Recommendation for further research

>>>>>>>>>>>>>>>>>>>>>>>>>>>>>>>>>>>>>>>>>>>>>>>>>>>>>>>>>>>>>>>>
Chapter 4:The Analysis Of The Influence Of Exchange Rate Movements On Export Trade In China
1. Investigation to the influence of exchange rate movements on export trade in China
Over the recent years China has been the world largest exporter. Even though there has been a rapid rise in its exports but it has been at the cost of other countries' market shares, which has pointed us in the direction of China's exchange rate. Now the real question is whether this export boom can maybe partially be explained by an undervalued currency.
The under-evaluation or over-evaluation of a currency has always been difficult to encompass, however in the case of renminbi it seems to be true as China is the final processor in global supply chain. Thus, this makes China's exchange rate policies important worldwide. Even for those countries which are linked to China through production chains, mainly East-Asian countries.
Recently several studies have analyzed factors behind China's foreign trade. According to these papers, Chinese exports have been motivated to a large extent by increasing demand, in particular since China's WTO agreement in December 2001 (Table 1). The studies also confirm that Chinese exports are price elastic; an appreciation of renminbi implies a fall in China's exports.
Somewhat surprisingly however, several studies report that imports have also fallen – instead of rising – when the renminbi real effective exchange rate appreciates (Marquez and Schindler 2006, Cheung et al. 2008, and Garcia-Herrero and Koivu 2008 and 2010). For example, Garcia-Herrero and Koivu (2010) find that a 10% appreciation would lead to a decline of 6% in imports of dispensation (Table 1). Ordinary imports would decline even more.
Table 1. Long-term impacts of real effective exchange rate and world demand on China's imports and exports.
Regular exports Fully Processed exports Regular imports Imports meant for processing
Consequence of ten percent appreciation of China's real exchange rate -14% -12% -16% -5%
Impact of one percent rise in world demand +1.7% +1.6% +1.8% +0.4%

When examining the imports more closely, one notices that it is primarily imports from other Asian countries that decrease when the renminbi appreciates (Table 2). This counterintuitive end result points to the importance of being a important part of the global production chain. As a matter of fact, an appreciation of currency that causes the export sector's competitiveness to decline also spells a fall in investment goods' demands as well as demands for imported parts, and various components for that particular sector. This result also has a strong repercussion worth noting, namely that China´s export goods are becoming more of a complement to the production of goods in other Asian economies than a substitute.
Table 2. Impacts of long-term bilateral real exchange rate and demand on China's imports from its major trading partners
China's imports from
Korea Germany Australia Taiwan Malaysia US Thailand
Impact of ten percent appreciation of China's two-sided RER -5% 7% (0%) (-28%) (3%) (-14%) -5%
Impact of one percent surge in China's demand 0.6% (0.8%) (0.3%) (0.9%) (-0.2%) 0.5% (-0.2%)
Note: parentheses values aren't statistically significant.
Source: Koivu and Garcia-Herrero (2008)
It was predicted way back in 2005 that renminibi couldn't be attached to the American dollar anymore and its worth would be solid, based on market supply and demand with reference to a plethora of various currencies. However a more market-based mechanism to determine the daily central parity of the RMB/USD exchange rate was introduced.
In spite of the desertion of the US Dollar peg and the consequent build up of the infrastructure of the financial market, the renminbi's stability against the American dollar has been maintained, appreciating by just 1.5% in a single year following the revaluation of 2.1% (Chart 1). The broad stability of the currency against the American Dollar implies that it has managed to moved considerably in effective terms, given the strength of the US Dollar. It eventually appreciated by 8.8 percent back in 2005 in nominal effective terms but later declined by 3.9 percent since the end of that year, that is, December 2005.

Chart 1


However, the Chinese economy has continued to power ahead despite the marked fluctuations in the renminbi effective exchange rates. Exports have mainly sustained their strong growth impetus, and trade surplus had increased from 1.7% - 5.4% of GDP from the year 2004 up till the initial part of 2006.
Chinese currency is widely perceived to be undervalued against the dollar. Estimates of the degree of undervaluation against the range of the American dollar from 7%-67% as stated by Cline and Williamson (2007). American government officials have consistently argued for a more rapid appreciation of the renminbi against the American dollar so as to keep away from further protectionist actions fuelled by critics of the increasing mutual trade unevenness between the countries. While China formally changed its exchange rate setting procedure in July 2005, it has largely rebuked or sidestepped American pressure to allow the currency to appreciate more rapidly. The appreciation of the renminbi has been slow enough that, from July 2005 to October 2007, the renminbi had in fact nominally depreciated against the euro and pound. The problem of the alleged weakness of the Chinese currency is not just limited to the United States. Back in November 2007, Europeans such as Jean-Claude Trichet, European Central Bank president jointly released a statement calling for China to make its currency appreciate more quickly.

a. Methodology
VAR analysis
In financial mathematics and financial risk management, Value at Risk (VAR) is a widely used risk measure of the risk of loss on a specific portfolio of financial assets. For a given portfolio, probability and time horizon, VAR is defined as a threshold value such that the probability that the mark-to-market loss on the portfolio over the given time horizon exceeds this value (assuming normal markets and no trading in the portfolio) is the given probability level.
VAR has five main uses in finance: risk management, risk measurement, financial control, financial reporting and computing regulatory capital. VAR is sometimes used in non-financial applications as well.
Important related ideas are economic capital, backtesting, stress testing, expected shortfall, and tail conditional expectation.
The VAR system consists of three variables, i.e., the nominal exchange rate, the real exchange rate, and the relative output of China and a foreign country. Consistent with most previous studies, the empirical evidence demonstrates that real shocks are the main drivers of the fluctuations in real and nominal exchange rates, indicating that the central bank cannot maintain the real exchange rate at its desired level over time.
The empirical microstructure methodology consists of 2 chief components: a statistical model and a structural model (Lyons, 2001). These couple of models are appropriate for market maker markets, particularly the foreign exchange market. Two characteristic statistical models exist: Trade-Indicator and Vector Autoregression (also called VAR). On the other hand, the most important structural model is known as Dealer-Problem approach.
The VAR model was brought forward by Sims (1980), and was put in to application by Hasbrouck (1991) for microstructure theory. Of late this tool has been usually employed for currencies (Payne, 2003; Evans, 2002; Danielsson and Love, 2006; Froot and Ramadorai, 2005). Before we estimate the VAR approach, lets us shift our emphasis to the assumptions related to the model. The VAR model in such practical work is based on these behavioral assumptions:
1. The public information right away gives an idea of the quotes.
2. The knowledgeable traders develop their profit through effective usage of their market orders.
Let Y be a vector of transaction characteristics and let Z be the lag of each transaction characteristic, and consider t as an event-time observation counter. The following VAR model is employed in this empirical work:



Where,
P is the change of exchange rate;
tX is the accumulated order flow;
i-i* is the interest rate differential;
R is the country risk premium.
The VAR equations are estimated by employing OLS and may consist heteroskedasticity robust standard errors.
The specifications of the VAR model built to test for exchange rate changes are shown in the equation given below:

P is the change of exchange rate; X is the accumulated order flow; i-i* signifies the interest rate differential; R is the country risk premium. Another additional variable represents the country risk premium. The variable P and the companion matrix are allowed for a common number of lags and are absolutely constant across the currencies.
[]tt= is the covariance matrix; it makes room for residuals across the currencies for simultaneous correlation. In theory, the credit cost shows a marginal loan i for a country during the particular year t. Though, practically, the credit cost is hard to measure. Berganza et al. (2004) are of the opinion that the greatest available alternative for measuring the country risk premium, and the most extensively employed is the Emerging Markets Bonds Indices (EMBI). It is worth mentioning that the EMBI Global comprises of 27 countries, and serves as a standard of investor demand for budding market's debt.




VAR Graphical data
China–US real exchange rate on GDP prices and accumulated order flow in China over the period 1990-2008.

Year 1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009
Real Exchange rate 109 100 101 110 87 100 105 104 102 96 96 95 95 96 99 101 103 113 130 1 20




While the VAR has its exclusive advantages as a modeling framework, one of the greatest difficulties in arranging such a framework involves the means of determining the suitable lag length for the system variables. 2 methods for selecting the most favorable VAR lag length have been recommended in the literature, the various methods built upon information criteria and on cross-equation restrictions. The Cross-equation restriction method needs the Block F-test, which renders it intractable in the setting of the VAR (Brooks, 2009). We consequently employ the Akaike Information Criteria method which is needed where the number of independent variables is larger; it strikes a balance between reduction of RSS and increase of penalty term. The multivariate information criterion is best defined by the equation given below:




Instructions for making an AIC table

• 1
Calculate the no. of parameters of the model. As an example, the regression equation Growth = 6 + 2*time + 2*meal + error has four parameters, while Growth = 2*time + 2*diet + error consists of 3 parameters.
• 2
Multiply Step 1 by 2 and save the results.
• 3
Go for the natural log of the possibility.
• 4
Multiply -2 with Step 3..
• 5
Carry out an addition of Step 2 and Step 4.



We carry out the ADF test and locate the smallest AIC for the most favorable lag length. The results are depicted in Table 4.

From the table above, we come across the least AIC from the lag length 15. In estimating the VAR system, we then settle on a lag length of 15 for every variable in the system.
b. Results and discussions
This research is concerned with the short-term dynamics and long-term determinants of the Chinese exchange rate, with a specific focus on the function of cumulative order flow in the entire process. Employing an inventive method devoid of all transaction record details, we build a measure of everyday order flow in the Chinese exchange to get to know the surplus demand and pressure in the foreign exchange market of China. A new variable known as the country risk premium, is also added in the variable space, alongside the exchange rate, interest rate differential and order flow. To examine the Chinese exchange rate behavior with relation to its long-run equilibrium and short-run dynamics, we make a VAR framework in order to do estimation. We come to know that cumulative order flow is co-incorporated with China's foreign exchange rates.
It is evident that order flow possesses a lot of power in the foreign exchange market of China. The coefficient on the order flow variable Xt is always positive, signifying its positive relationship with the dollar's CNY price. The coefficient is often taken to be 0.0000228 in the RMB equation, which tells us that on a certain day with a 10% gain in net buying of dollars, the RMB price would soar by 0. 228 %. The result of impulse responses shows that order flow responds without delay and far more strongly than various other variables (excluding the exchange rates of course) to the movement of the exchange rate over the relatively short horizon. The interest rate differential possesses a marked influence on exchange rate movement in the long horizon.
Model type Number of parameters Akaike Information Criterion
Core/buffer slope: vâr(ns)=0ns+1nsI(buffer)+ɛ 2 335.43
Core/buffer +intercept: vâr(ns)=0+1ns+(2ns+3ns)I(buffer)+ɛ 4 338.10
Global and intercept: vâr(ns)=0+1ns+ɛ 2 392.06
Global slope: vâr(ns)=0ns+ɛ 1 393.67
Intercept-only: vâr(ns)=0+ɛ 1 437.50
Core/buffer intercept: vâr(ns)=0+1I(buffer)+ɛ 2 436.21

Country risk premium has a alike tendency but to a smaller extent. Comparing our condition with that of Evans and Lyons (2002), we come across a remarkable factor. The coefficients in our research as well as their research are both important, but the difference is that our R2 is fairly low, just 0.0878, whereas Evans and Lyons (2002) get its value as 0.64 and 0.46, but this is in accordance with the results of a alike research carried out in Brazil, another major budding economy. It appears as if the government involvement in the budding foreign exchange market might be the reason for this particular difference. In a nut-shell, this research reveals the long term co-association between the examined variables, comprising of order flow, the macro influences proxy as well as the exchange rates. The short run dynamics reveal the fact that the fresh policy regime of China is strongly affected by significant government intervention.
Many interesting areas have come on to the scene for additional research. Foremost, one can develop the VAR structure so that it includes further variables of influence. Depending on the availability of data, enhancing the quantity of currency pairs shows potential to test for the explanatory power related to the order flow in a cross section. Moreover, one can split the sample into many sub-periods depending of shifting of the regime in the Chinese exchange rate policy, so as to examine the time-dependent order flow effects on the exchange rates formation in the foreign exchange market of China.

2. The advantage of influence of exchange rate movements on the export trade in China
In recent years, along with its booming export trade, China's holding of foreign reserves has climbed at an impressive rate as its demand for U.S. securities increased as well. Speculation has been growing that these developments are part of China's effort to keep the value of its currency weak to help bolster its export trade and economic performance. For the moment, in the United States, in spite of a strong surge in the short-term interest rate, especially since mid-2004, the long-term interest rate has declined or stayed low, which has helped to boost the spending (particularly in the housing sector) and, consequently, has caused an economic explosion through the latter half of 2007. The divergence in the long and short-term interest rates has led to an increase in the interest in the relationship between the value of the Chinese currency, the Chinese purchases of the united states securities and the short-term as well as long-term interest rates of the United States.
3. The disadvantage of influence of the exchange rate movements on the export trade in China
USA is forcing China to get considerable measures to appreciate its currency. And for proper revaluation of Yuan the appreciation is the main step (Goldstein and Lardy 2003b) and it should not be a slow process (Kroeber 2007, Goldstein and Lardy 2003a, 2003b, 2005). As the value of Yuan has been settled 25%-40% lower as compare to US. So China have to appreciate her currency from 20%-40%, which would result in the depreciation of the US dollar from 20%-40%. If China kept on showing this behavior persistently regarding the floating exchange rate system it would have effect on the global exchange rate systems operations and on the policy of various other currencies and on the global trade activities. It would adversely affect the market of US, Japan and Europe (Goldstein 2007). The US is also being helped by IMF and WTO in this aspect. If China would not appreciate its currency WTO will pass the order to US to increase the excise duties on products imported from China.

4. Some suggestions of choosing an exchange rate for China's export trade
Fixed exchange rate which is being adopted by China is altering the mechanism of the markets. Though this helps to increase the exports, but people of other nations inclined to buy it not because of their quality mostly but because of their less cost. Therefore, China has kept its goods synthetically cheap, which is appalling for the overseas competitors. Different nations of the world are of the view that they still do not find any such method to letting countries stop from increasing their trade by interference in the exchange rate mechanism. USA is of the view that China should let market forces to determine the exchange rate of country, but Kaltsky, (2010) is of the view that if the market forces didn't aid the US credit crunch to abolish, then in what way can it give employment and lessen the deficit.
Recent strategy of China lead it to the massive foreign reserves, which if otherwise can be invested to the education, healthcare and for the civil welfare purposes. From this strategy of China the common people of China suffers. It shows that China doesn't desire to take suitable steps to reinforce its banking sector. Inflation is expected to rise in the upcoming 20 years. So, investors of China have to purchase the securities on premium and the return they are having is in dollar (of lower value). But this strategy is in their national interest which comes first.
5. Summary
China has been the world largest exporter of the world. Even though there has been a rapid rise in its exports but it has been at the cost of other countries' market shares. China's exchange rate policies are important worldwide. Even for those countries which are linked to China through production chains, mainly East-Asian countries. According to researches carried out on Chinese exchange rate movemnts, Chinese exports have been motivated to a large extent by increasing demand. Several studies report that imports have also fallen instead of rising. When examining the imports more closely, one notices that it is primarily imports from other Asian countries that decrease when the renminbi appreciates. China´s export goods are becoming more of a complement to the production of goods in other Asian economies than a substitute. In spite of the desertion of the US Dollar peg and the consequent build up of the infrastructure of the financial market, the renminbi's stability against the American dollar has been maintained. China formally changed its exchange rate setting procedure; it has largely rebuked or sidestepped American pressure to allow the currency to appreciate more rapidly.
To examine the Chinese exchange rate behavior with relation to its long-run equilibrium and short-run dynamics, we make a VAR framework in order to do estimation. The VAR model is built to test for exchange rate changes. VAR has its exclusive advantages as a modeling framework but difficulties arise in determining the suitable lag length for the system variables. Criteria method strikes a balance between reduction of RSS and increase of penalty term.
This research is concerned with the short-term dynamics and long-term determinants of the Chinese exchange rate, with a specific focus on the function of cumulative order flow in the entire process. China's holding of foreign reserves has climbed at an impressive rate. USA is forcing China to get considerable measures to appreciate its currency. China's massive foreign reserves may well be invested to the education, healthcare and for the civil welfare purposes.





Chapter 5: Conclusion and Recommendation
1. Conclusion
The entire text thus far has been based upon a solid background of Chinese exchange rate movement and the evolution of the exchange rate movements on the foreign trade in particular. It also contains fluctuations of exchange rates in a detailed manner which gives us an idea about the trends as well as the constraints involved in the Chinese exchange rate movement and RMB exchange rate movements and the corresponding export trade situation.
Chinese exports have been motivated to a large extent by increasing demand. Several studies report that imports have also fallen instead of rising. When examining the imports more closely, one notices that it is primarily imports from other Asian countries that decrease when the renminbi appreciates. China´s export goods are becoming more of a complement to the production of goods in other Asian economies than a substitute. The entire text is concerned with the short-term dynamics and long-term determinants of the Chinese exchange rate, with a specific focus on the function of cumulative order flow in the entire process. Employing an inventive method devoid of all transaction record details, we build a measure of everyday order flow in the Chinese exchange to get to know the surplus demand and pressure in the foreign exchange market of China. A new variable known as the country risk premium, is also added in the variable space, alongside the exchange rate, interest rate differential and order flow. To examine the Chinese exchange rate behavior with relation to its long-run equilibrium and short-run dynamics, we make a VAR framework in order to do estimation. We come to know that cumulative order flow is co-incorporated with China's foreign exchange rates.
Many interesting areas have come on to the scene for additional research. Foremost, one can develop the VAR structure so that it includes further variables of influence. Depending on the availability of data, enhancing the quantity of currency pairs shows potential to test for the explanatory power related to the order flow in a cross section. Moreover, one can split the sample into many sub-periods depending of shifting of the regime in the Chinese exchange rate policy, so as to examine the time-dependent order flow effects on the exchange rates formation in the foreign exchange market of China.
It appears as if the government involvement in the budding foreign exchange market might be a decisive factor. In a nut-shell, this research reveals the long term co-association between the examined variables, comprising of order flow, the macro influences proxy as well as the exchange rates. The short run dynamics reveal the fact that the fresh policy regime of China is strongly affected by significant government intervention.




2. Recommendation for further research
Survey and research on currency invoicing choice must be carried out in addition to the research on criteria for the invoicing decision made by firms. The literature would signify exchange rate volatility, market share, size of the economy, product differentiation and financial supply volatility which are noteworthy factors in influencing the invoicing choice. An exchange rate volatility as well as money supply volatility would both suggest the U.S. dollar to still be a suitable choice of invoice currency for Chinese firms.
Researches in to the latest exchange rate strategies being employed by China must be undertaken which could be extended to signify the Chinese interests behind its devotion to fixed exchange rates.
A very interesting research may be carried out on the impact of Yuan devaluation on American exports, imports as well as jobs.
Researches and surveys may be undertaken in to the steps being taken by America in this regard in order to protect its interests from the increasing impact of the Yuan.
The subject of the chances of euro in playing an increasing role as the invoicing choice of Chinese firms can be a very informative topic for further research in to the field of Chinese exchange rate movement as well.






References
Aziz, Jahangir and Xiangming Li (2007). "China's Changing Trade Elasticities", IMF Working Paper 07/266.
Cheung, Yin-Wong, Menzie D Chinn, and Eiji Fujii (2008), "China's Current Account and Exchange Rate", NBER Working Paper 14673.
Jorion, Philippe (2006). Value at Risk: The New Benchmark for Managing Financial Risk (3rd ed.). McGraw-Hill. ISBN 978-0071464956.
Admati, A.R. and Pfleiderer, P. (1988) A Theory of Intraday Trading Patterns, Review of Financial Studies, 1, 3-40.
Agaraual J.P. (1971) Optimal monetary reserves for developing countries, Weltwirts-chaftliches archive, CVII.
Amihud, Y. and Mendelson, H. (1980) Dealership Market: Market-Making with Inventory, Journal of Financial Economics, 8(1), 31-53.
Andersen, T.G., Bollerslev, T. Diebold, F.X. and Vega, C. (2003) Micro Effects of Macro Announcements: Real-time Price Discovery in Foreign Exchange, American Economic Review, 93(1):38–62.
Jin, Z. (2003) The dynamics of real interest rates, real exchange rates and the balance of payments in China: 1980-2002, IMF Working Paper WP/03/67.
Krugman, P. (2005) The Chinese connection, New York Times, May 21.
Corden. (May, 2009). China‟s exchange rate policy, its current account surplus, and the global imbalances.
Cline & Williamson (2010). Notes on equilibrium exchange rates :January 2010)
Peter G. Peterson Institute for International Economics IMF (International Monetary Fund). 2009a. World Economic Outlook (April). Washington.
Pierre-Olivier Courinchas & Helene Rey. (August 2005).From World Banker to World Capitals: USExternal A djustments and the Exhorbitant Privilege.NBER Working Paper 11563, National Bureau of Economist Research.
Luk. K. S. (June 13, 2010). Understanding Chinese Renminbi Appreciation: A Microfounded Model with Imperfect Capital Mobility Journal of Chinese Economics and Business Studies.
Jianxun.S. (17 September 2008).China paper urges new currency order after „financial sunami‟.Reuters.

pheelyks   Sep 15, 11, 12:01PM | #2
Your work sucks. Depending on the situation, you might have a bit of my sympathy, but if you want to work for legitimate companies/decent customers, your English needs to improve significantly.


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