VZCZCXRO2290
PP RUEHCN RUEHGH RUEHVC
DE RUEHBJ #4481/01 3442343
ZNR UUUUU ZZH
P 092343Z DEC 08
FM AMEMBASSY BEIJING
TO RUEHC/SECSTATE WASHDC PRIORITY 1294
RUEATRS/DEPT OF TREASURY WASHDC PRIORITY
INFO RUEHOO/CHINA POSTS COLLECTIVE
RHEHNSC/NSC WASHDC

UNCLAS SECTION 01 OF 02 BEIJING 004481 
 
SIPDIS 
SENSITIVE 
 
STATE FOR EAP/CM AND E/YON 
TREASURY FOR OASIA/DOHNER/WINSHIP/CUSHMAN 
TREASURY ALSO FOR IMFP/SOBEL/MOGHTADER 
NSC FOR LOI 
 
E.O. 12958: N/A 
TAGS: ECON EFIN CH
SUBJECT:  HAS CHINA CHANGED ITS EXCHANGE RATE POLICY? 
 
THIS CABLE IS SENSITIVE BUT UNCLASSIFIED.  NOT FOR INTERNET 
DISTRIBUTION. 
 
¶1. (SBU) Summary.  Since December 1, the Chinese renminbi 
(RMB) has depreciated 0.7 percent against the USD, 
generating speculation that the government has altered itQs 
longstanding policy of gradual appreciation.  Senior 
economic and financial leaders, however, continue to 
maintain that policy has not changed, but that exchange 
rate fluctuations must be expected.  They also have 
acknowledged that the exchange rate issue is complicated, 
requiring a balancing of various social, political, and 
economic concerns, including how best to assist the 
distressed export sector.  Most analysts expect further 
appreciation of the RMB against the USD will be limited in 
the near term.  See paragraphs 7-8 for comments.  End 
summary. 
 
¶2. (SBU) The recent slight depreciation of the Chinese 
renminbi (RMB) against the USD has raised questions about 
whether China has revised its exchange rate policy.  Over 
the past week (Dec. 1-8), the RMB depreciated 0.7 percent 
against the USD.  More specifically, during the six trading 
days from Dec. 1-8, the RMB depreciated each day by 0.4-0.5 
percent (the band limit) in intra-day; after each dayQs 
depreciation, the PeopleQs Bank of China (PBOC) set the 
following dayQs morning reference rate 0.4-0.5 percent 
higher.  In response, various rumors and speculation have 
begun to appear: China is delivering a warning to the 
United States Government in advance of the Strategic 
Economic Dialogue and/or Qsending a signalQ to President- 
elect Obama (one currency trader claims to have been told 
by the PBOC that the Dec. 1 depreciation was intended to 
send a message to the incoming Obama administration), or 
China wants to reassure its exporters that their government 
is responsive to their plight. 
 
¶3. (SBU) Officially, the Chinese Government insists there 
has been no change of policy.  At the December 4-5 
Strategic Economic Dialogue (SED) meetings, Vice Premier 
Wang Qishan stated that the United States can Qrest assured 
that the Chinese government will not go back on its word 
(on currency policy).Q  Commerce Minister Chen Deming said 
the RMBQs slight weakening reflected the USDQs strength and 
had been decided by the market.  Chen also said China was 
Qnot counting onQ the falling value of the RMB to help its 
exporters.  Similarly, a December 8 Hong Kong press report 
quoted remarks by Wang that the recent RMB depreciation was 
due to market-led technological adjustment and revision 
(perhaps referring to investors adjustment of their 
portfolios following the Chinese central bankQs 108 basis 
point reduction in administered interest rates), and was 
not a deliberate government intervention. 
 
¶4. (SBU) These comments are consistent with those made by 
other senior economic policy officials over the past two 
months.  On December 3, visiting U.S. Federal Reserve Board 
Governor Kevin Warsh asked PBOC Vice Governor Yi Gang if 
the previous four consecutive days of RMB depreciation 
against the USD meant a change in policy; Yi replied that 
in the second half of 2008, the RMB-USD rate had been 
Qbasically stable,Q but the strong USD had caused the RMB 
to appreciate significantly against other major currencies. 
Yi told Warsh that the QUnited States should not worryQ and 
there has been no change in exchange rate policy, and that 
increasing fluctuations in either direction were Qperfectly 
normal,Q and to be expected as China moved to a currency 
policy more reflective of market supply and demand.  Yi 
said China remains committed to the goal of a convertible 
currency, but in the short-term the rate will remain 
QbasicallyQ stable. 
 
¶5. (SBU) Despite official assurances, ChinaQs exchange rate 
policy remains a focus of intense internal debate.  On 
November 7, Vice Minister Liu He of the Central Leading 
Group on Financial and Economic Affairs told TreasuryQs 
Special Envoy Alan Holmer that the exchange rate is a 
Qcomplicated issue.Q  Officials in eastern provinces, SMEs 
and workers in the export sector are QangryQ with the 
central government for letting the RMB rise against the US 
dollar.  Liu said further RMB strengthening against the USD 
was not possible in the short-term as it would lead to 
unrest in those sectors.  Similarly, on October 20 PBOC 
Governor Zhou Xiaochuan told Treasury Under Secretary David 
McCormick that this issue was not simple for ChinaQs top 
 
BEIJING 00004481  002 OF 002 
 
 
leadership.  The State Council felt pressure to signal 
support for the export sector by limiting appreciation of 
the RMB.  Zhou added that periodic pauses in the pace of 
RMB appreciation should not be a concern to the U.S. as 
long as the long-term trajectory remained the same. 
 
¶6.  Most market analysts expect RMB appreciation against 
the US dollar to be limited in the near-term.  Most, but 
not all, analysts do not believe this weekQs depreciation 
signals a fundamental shift in policy towards depreciation, 
given that they believe Chinese officials continue to 
support a gradual reduction in ChinaQs large balance of 
payment surplus; they also believe the government is 
sensitive to the risks that a depreciation of the RMB, in 
the context of continued large-scale intervention in 
foreign currency markets, risks unleashing a protectionist 
backlash.  Another analyst suggests that, regardless of 
what PBoC intends to do, if the traders think they intend 
to depreciate the RMB, then it will come under downward 
pressure. 
 
¶7. (SBU) Comment:  We agree with most market analysts that 
this weekQs developments most likely do not represent a 
fundamental shift in the long-standing policy of gradually 
appreciating and increasing the volatility of the RMB 
against the USD, with occasional QreferenceQ to a trade- 
weighted basket.  We interpret the QreferenceQ to a basket 
as accelerating (slowing) the pace of RMB appreciation 
during periods of US dollar weakness (strength).  We think 
the most likely reasons for the RMBQs depreciation this 
week are: 1) the desire of officials of the PeopleQs Bank 
of China - which only implements and does not determine 
monetary and exchange rate policies, and unlike the Federal 
Reserve is not politically independent - to demonstrate 
that they are sensitive to the difficulties facing Chinese 
exporters (amid press reports that export growth dropped 
significantly in November); and 2) investors exiting the 
Qcarry-tradeQ of shorting the U.S. dollar given narrowing 
interest rate differentials. 
 
¶8.  (SBU) Comment, continued.  That said, if the U.S. 
dollar appreciates significantly against other major 
currencies or the Chinese authorities perceive a rising 
risk of deflation, the chances that exchange policy will 
change in favor of sustained depreciation of the RMB 
against the U.S. dollar increases significantly.  Many 
Chinese firms face excess capacity in the face of rapidly 
weakening demand (particularly abroad), and the pass 
through to inflation of changes in the exchange rate of the 
RMB to the U.S. dollar is relatively high.  Liu He told 
Federal Reserve Governor Kroszner that inflation is no 
longer a concern, and that while deflation is not yet a 
concern, government officials will be watching for signs of 
this in the coming year. 
 
PICCUTA