The Central Bank in China caused two of the biggest falls in the nation’s currency last week. This left speculators predicting the potential for more “currency wars.”
Last week’s fall in the renminbi was the greatest since as far back as the 1990’s. However, trade economists have by now documented the fact that currencies are no longer effective as trade weapons.
A latest study conducted by the economists of World Bank revealed that currency devaluation is only partially effective in boosting exports. The study consisted of 46 countries including China.
Currency devaluation was effective for increasing exports in the 1990s. It is, however, no longer relevant in today’s economy.
The reason for this is the greater integration of countries like China into the world economy.
China has been notorious for weakening its currency for seeking a competitive edge in world trade. One of the study’s authors, Michele Ruta, said that there was a distinction between the perception of the potential impact and the authentic impact caused by currency devaluation.
Ruta said that the truth is that currency speculation is relatively far less effective now than it once was. The biggest reason for this is the growth of supply chain markets over the last two decades.
Another reason is the fact that today a lot of products have an agglomeration of individual parts manufactured in different countries.
Currency devaluation, however, does bring down the cost. This indeed provides the economy an edge in international competitiveness when dealing with export of certain goods.
When it comes to a product like the Australian shiraz made with grapes from Margaret River vines, the cost in export will indeed be lower. This will also increase the cost of importing similar products from France or Chili. The increase in import cost will bolster the local economy.
However, for more complex products with several assembled parts the reality is quite different.
China is best known for the export of its electronic products that regularly contain assembled parts. For these kind of products the effectiveness of currency devaluation is far less effective.