In The Process Of Financial Liberalization In China's Exchange Rate Strategy

This paper is on the exchange rate strategy of China . Taking the exchange rate policy and the choice of exchange rate regime as part of macroeconomic policy, part of China's development strategy and part of Asian monetary integration, this paper provides a wide stage for thinking about exchange rate strategy.This paper is divided into four parts.In chapter one, the author introduces the concepts of exchange rate , point out two fundamental approaches of exchange rate detarmination-purchasing-power-parity approach and interest-rate-parity approach. I describe nearly a dozen of exchange rate regimes which are chosen by modern countries, such as exchange rate target zone, adjustable peg regime, and the Bretton Woods system. Then I introduce two basic theories on the choice of exchange rate regimes.In chapter two, the author develops a broad framework for thinking about exchange rate plicy . I borrow from the literature of macroeconomic policy, financial liberalization , and optimum currency mm, and ask how can all these theories bring insights to our current problem-to choose a proper exchange rate regime. First I introduce theMundell-Fleming model which leads to the famous Trinity-the dilemma between fixed exchange rate, capital flow and independent monetary policy. Second, I dig into the monetary crises literature pioneered by Krugman and Obsfeld , and give the reason why a country should the two extremes of the regime spectrum . he developing countries in the process of industrialization and financial liberalization. Third, I introduce the third generation monetary crises theory aimed at expaining the Asian Economic Crises , and explain the reason of the frequent financial crisis of the emerging markets, providing the proper process of industrialization and financial liberalization. Forth , I introduce the literature of currency substitution and optimum currency area, point out that monetary policy may be invalidated by the substitution of two currencies . This chapter sets the stage for our discussion of exchange rate strategy in chapter four.In chapter three, I explore the evolving process of Japan's and Taiwan's exchange rate regimes , how their reform of exchange rate regimes influence the economic development, what lessons we can learn from their experiences.In chapter four, I review the historic evolution of exchange rate regime of RMB, point out that the managed flexible regime has degenerated into a US dollar-pegged exchange rate regime . Drawing onthe purchasing power parity(PPP) and the model of foreign exchange supply-and-demand, some economists propose RMB should reevaluate.I analyze the current macroeconomic situation and come to the conclusion that the Chinese should maintain its fixed exchange rate, and should not open its capital account too quickly. Before 2006, when we open our financial industry, we should maintain the fixed exchange rate iegime, providing a stable environment for macroeconomic reform. At the same time we should speed up the reformulation of state-owned enterprises and banking system, strengthen financial management, gradually open the stock market. After 2006, when we finished the reform of banks, we can gradually open our capital account. The year 2008, when Beijing will hold the Olympic Games, is the best time for China to shaft to a freely floating exchange rate regime. After 2008, RMB will become a world currency like Euro and US dollar. We should consider the internationalization of RMB in the framework of Asian Monetary Integration.