Is Chinese Yuan Undervalued? A Multi-Currency Basket Approach

ABSTACT We examine the valuation of Chinese currency had it not been pegged to the U.S. Dollar. To the extent that the Chinese Yuan can be predicted by the change of multi-currency basket including four currency values, such as Australian Dollar, Euro, U.K. Pound, U.S. Dollar, our regression analysis suggests that the Chinese Yuan is undervalued during the period of January 1999~October 2009. The results of Yuan undervaluation remain intact even after we change the composition of currency basket. We further explore the implication of this hard pegging both in short term and long term for China, United States and other countries. Finally, due to the global imbalance arising from China’s huge trade surplus and huge trade deficit of U.S., we argue that removing hard pegging to the U.S. Dollar could be beneficial to China and the remaining part of the world in the long-term to alleviate the global imbalance problem