Chinese Yuan Undervalued to Dollar - How Does This Affect China?

This Washington Post article mentions that the Yuan is perceived to be undervalued relative to the U.S. dollar.

  1. Assuming the Yuan is, in fact, undervalued to the dollar, what is the domestic affect on China? Does it simply mean the average Chinese Joe has to pay more when buying U.S. currency (or U.S. goods?)

  2. How does China accomplish this undervaluing? I can’t tell if the exchange rate is derived from free trading, is under partial control of China’s Central Bank, or if the exchange rate is under total control of the Central Bank. See, e.g., China's Yuan Rises to Highest Level Against Dollar in Modern Era - WSJ

I believe these question have factual economic answer(s); if not, however, this can be moved to IMHO.

I think the CHinese bank sets the exchange rate, and probably makes it illegal to trade at a diffeent rate.
Looking at the receipt on my wall -
Big Mac and fries - 16.0
Medium Coke - 6.50
Pineapple pie - 5.00
Spicy Chicken Fillet 13.50
Total- 41.50Y
… which, at $1=6Y (approx) means a lunch for 2 in Beijing cost about $7US.
Heck, you probably pay $7 just for the Big Mac meal. $2.25 for a spicy CHicken Fillet sandwich? I’m sure its twice that. 80 cents for a McD baked pie? Not even on sale!

McDonalds tries to price their food, sourced from local products, to produce the same margin of profit in every locale. SO it’s a good indicator how undervalued the curency is.

We paid $125 for a 5-star hotel in Beijing. They were overbooked, so we were transferred across the way to the hotel where the first floor was a Rolls and Bentley dealership. Cost? $125/night. Subways, IIRC, were 2Y or about 30 cents.

The effect is that it is cheaper for locals to buy local, imported goods are priced out of the market. Chinese cannot afford in general to travel outside China, even with good jobs. (Although some make very good wages and can). Foreign manufacturers cannot penetrate the rigged market. Gas costs more, so fewer people drive cars in a heavily polluted urbanscape. People who make goods in China for export have an advantage that could be seen as unfair. Tourists like me get incredible deals. Flying to destinations inside China made US discount airlines look expensive. A luxury car and driver for the entire day in Xian was $100, or 600Y. Heck, $100 was one taxi trip from JFK to Newark a few years ago. A cab ride almost anywhere in Beijing was 10Y or 20Y. Peanuts.

The problem macro-economically: all those US dollars earned from exports pile up because nobody internally is buying much from the outside. OK, they buy some Airbusses (Airbi?) or Boeings; but not a lot compared to what they sell. So the cash reserves of US dollars pile up, and their government buys the US T-Bills with them. China becomes the money lender to the overspending US.

The last time this happened, we shelled China and invaded them until they relented and let us sell them narcotics to balance the trade. (The Opium Wars of the 1840’s) The real nightmare for China, is how to get this all back in balance? They keep the Yuan low to keep the manufacturing jobs that provide income for their population. If suddenly the Yuan juped to its real level, half of China woul lose their jobs because they can’t compete in the outsourced manufacturing business if the wage costs suddenly double. All those people become unemployed, and unemployed tend to riot and topple governments. (Just ask Mubarak) But the longer it goes on, the worse it gets so the harder it becomes to straighten out. It’s the proverbial “when you are riding a tiger, how do you get off?”

The bolded part above doesn’t hold together because “undervalued” is an opinion. It’s like saying “assuming that Britney Spears is, in fact, a better singer than Christina Aguilera . . .”.

No. Undervalued is fairly easy to establish - a currency is pegged by law at a level lower than it would trade at if it were allowed to float and trade freely. The gross imbalance in currency of the country is a non-subjective measure of this undervaluation.

It also leads to other distortions that require government intervention… for example - lets suppose the real price of rice in the rest of the world is high enough that people paid in the undervalued currency cannot affort to eat. So the government sets the price of rice lower internally, but then has to ban exports; since the price interanlly is so low an exporter could make a killing. Worse, there may be a shortage of a price-controlled commodity, meaning the government now must subsidize it - import at world prices and sell at the lower domestic price. Controlling economies by decreee is like trying to nail down jello.