Fall of yuan, grim portends for India

There were both structural and market-related reasons for the devaluation of the Chinese currency in three stages from Tuesday. The slowing down of economic growth, the stock market turmoil that accompanied it and the falling exports are considered to be the main factors behind the decision.

It was not very unexpected because this was an easy tool the authorities could use, though they had not made much use of it in the past. China wanted a cheaper yuan because the currency was considered to be overvalued, after appreciating by about 20 per cent in the last three years. So, this week’s devaluation might also be seen as a correction and more such actions may not be unlikely. China wants its currency to be aligned to the realities of the economy and the world markets. These persuasions are strong especially because it wants yuan to be recognised as a global reserve currency.

The decision has also given rise to suspicions that the economic slowdown in China is worse than admitted by the country or seen by the outside world. The integrity of some of its economic data is also being questioned. Wages and costs of manufacturing have risen in China, and a strong currency had made exports uncompetitive. Exports fell by about 8 per cent in July. It is a bad signal for an economy that depends much on exports. Depreciation will give a boost to exports and to manufacturing and other sectors of the economy. But China has moved into a time of currency volatility. The devaluation has had a chain effect. Other currencies, especially those in Asia, have fallen too, in order to stay competitive. They will continue to adjust themselves and stock markets would continue to react, as they have done now.

The Chinese action had an impact in India with the rupee falling to its two-year low and the stock market tumbling in line with other markets. There is apprehension that even with a cheaper rupee, Indian exports will become more uncompetitive against Chinese exports. Imports from China may increase too, further widening the trade gap. This is worrying in view of the persistent poor performance of exports, which have fallen consecutively for the last seven months. The decline in exports showed that the economy is way behind the claims made about it. Now, the threat posed by the Chinese decision also needs to be countered. If the rupee’s value further goes down it may lead to a capital flight. The present situation again underlines the need for increasing domestic investment in the economy and improving manufacturing.