THE GIST of Editorial for UPSC Exams : 10 August 2019 (The Yuan’s devaluation has made investors nervous (Mint))

The Yuan’s devaluation has made investors nervous (Mint)

Mains Paper 3:
Prelims level :
Mains level :

Context

  • Chinese yuan broke the seven-to-one parity against the dollar for the first time since 2008. China deliberately devalued the Chinese currency after the latest tariff threats issued by US.

Two reasons behind China’s Yuan devaluation

Economic reasons

  • China’s weakening manufacturing competitiveness is likely to strengthen with yuan-priced goods and services getting cheaper across supply chains in East Asia, parts of Africa, etc.
  • It is likely to widen China’s trade surplus with the US in the immediate short run.
  • It will also help China expand trade margins within its own region, especially with Vietnam, Thailand, Indonesia, etc.

Political Reasons

  • The US’ own strategic engagement in Asia has weakened under Trump, who questioned the “value of US alliances with Japan and South Korea
  • Japanese imposed trade restrictions on South Korea. China and Russia staged their first joint aerial patrols in the region, causing South Koreans to react militarily.
  • China-US friction has offered significant economic and political leverage to smaller emerging nations like Vietnam and Indonesia within their respective regional spaces

Problems occurred

  • Risk not only for those trading in the US and Chinese currencies or their stocks, but also for capital flows between emerging markets
  • China, around 2015-16, tried something similar by letting the yuan depreciate; it led to a stock market crash in China, and billions of its dollar reserves disappeared in just a few days.
  • That devaluation saw led to a massive capital flight from China, further weakening its external position.
  • The debt denominated in foreign currencies has increased for global companies and developing nations across the world, and maybe vulnerable to a currency shock if the “currency war” continues.
  • Most foreign investors switched to the safety of gold or other currencies like yen.

Conclusion

  • China’s weakening of its currency to hurt US economic interests for political gains will only make other Asian countries more vulnerable to a political crisis that could quickly escalate to a financial crisis induced by either a dollar currency crash or waves of capital flight.
  • Any markets responding cautiously to the latest devaluation are correct in issuing a “fragile" alert for investors for now.

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Prelims Questions:

Q.1) What is the Currency used by China?
A. Yuan
B. Yen
C. Tögrög
D. Dinar

Answer: A
Mains Questions:

Q.1) What are the key reasons behind YUAN devaluation? What are key problems occurred in between two countries in terms of International trade?

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