After China's Party

BEIJING: China has now finished celebrating the 50th anniversary of Mao's revolution, but the hangover cure that so many people in the West have been urging upon the country -- a healthy dose of devaluation -- is unlikely to be swallowed. Instead, the government has put forward a fresh round of fiscal stimulation, including a RMB60 billion new bond issue and the introduction of a new 20% tax on the interest on savings. Devaluation, indeed, remains a taboo.

Why are China's leaders so adamant against devaluing the RMB? First, Prime Minister Zhu Rongi and his advisors are very uncertain about the short-run benefits to be gained from any devaluation. Any boost to competitiveness, for example, is likely to be small and brief, as over 50% of China's exports are part of re-export industries using a great deal of imported materials or semi-finished goods. For these sectors, devaluation means an increase in costs, rather than a gain in competitiveness.

Secondly, devaluation of the RMB may incite tit-for-tat retaliation by other Asian economies. The decline of China's exports have been mainly caused by a 20% decrease in exports to other Asian markets since 1998. But as these regional economies are now starting to recover, China's exports to them are starting to grow. Although a devaluation of the RMB may not have as much impact on the regional markets as before, it is impossible to calculate what way may deliver higher export growth: devaluation or not disturbing the region's increasing stabilization. Doing nothing seems the safer bet.

Moreover, devaluation will impose heavy burdens on China, for example, it will certainly increase the cost of servicing China's debts and may also worsen the overall balance of payment. The only foreseeable benefit to be gained through a devaluation is a reduction in uncertainty as an end will be put to the rampant speculation on when the RMB will be devalued. This may help to increase the foreign investment and reduce the capital flights.