An Empirical Study On RMB’s Equilibrium Real Exchange Rate From1996to2011

With the rapid growth of huge foreign exchange reserves, the issue of RMBexchange rate becomes the focal point in the world, especially from the outbreak of theUSA financial crisis and the European debt crisis. From the reform of RMB exchangerate system in2007, the real exchange rate of RMB has appreciated nearly30%.But thepressure on appreciation of RMB constantly increasing. Continued expectation on theappreciation of RMB, our country is facing the great pressure of inflation. Theoristsbegan to keen on RMB equilibrium real exchange rate, to determine a reasonable levelof RMB exchange rate which is the doubtful and difficult problem for the policy maker.With the characteristic of export-oriented economy, exchange rate adjustment is relatedto economic development, employment and a series of problems. So it is necessary tomake further study on the issue of RMB exchange rate. In order to balance externaleconomy, new exchange rate forming mechanism becomes the most impotent means ofregulating international balance of payment. In the long run the consist real exchangerate will be adjusted keep consistent with real equilibrium exchange rate, which is notonly helped to balance external economy but also improve the efficiency of resourceallocation and the growth of economy. The interest to conduct equilibrium exchangerate estimation lies in three parts. The first, it will provide methods and tools from theperspective of theory and technique to identify RMB exchange rate rationalization, andfurther the market-oriented reform of RMB exchange rate formation mechanism. Thesecond, by means of combing out exchange rate determination theories, it will constructtheoretic logics for RMB exchange rate estimation, bring forward, and resolve, themethodology of statistic and measuring tools application in exchange rate research, andpromote cross research of statistics and finance. The last, it will provide a way toresolve the debate about reasonable of RMB exchange rate.At first, this paper expounds the foundation theory of research, reviews theresearch on equilibrium exchange rate from domestic to abroad. Then introduces twokinds of main stream theories of equilibrium exchange rate include the traditionalequilibrium exchange rate theory and emerging equilibrium exchange rate theory,analysis the different model assumptions and the applicable scope. The paper holds thatthe core value of equilibrium exchange rate should be alone with internal balance,which means economic growth, price stability and acceptable unemployment ratio; andexternal balance, which means sustainable external accounts. According to the characteristics of nation’s economic development, choosing BEER model as the tool ofanalysis RMB equilibrium exchange rate is reasonable. The second, this paperconstructed simple single equation model contains the actual effective exchange rate,the trade condition, the degree of opening, government expenditure, net foreign asset,money supply, productivity and so on. Used the macroeconomic data from the firstquarter of1996to the forth quarter of2011and adopted cointegration analysis method,it builds up empirical analysis model to test the level of RMB exchange rate and getsthe degree of misalignment of RMB exchange rate with the help of technology of H-Pfilter.Based on the empirical analysis, the important conclusions of this paper will be asfollowings:1. The RMB equilibrium actual exchange rate can be expressed as afunction of the following economy variables: the trade condition, the degree of opening,government expenditure, net foreign asset, money supply, productivity and so on.2. Theimprovement of the productivity can make the real exchange rate rise. The advancementof the degree of opening causes the real exchange rate drop. The increase money supplyand government’s expenditure causes the real exchange rate rise. There is negativerelationship between the net foreign asset and real exchange rate. The improvement ofthe trade condition makes the real exchange rate rise.3. The structure variation worksineffectively to the real exchange rate. The probably reason is that China has alwaysadhered to the dollar peg system since2005.4. The relationship between improvementof relative Labor Productivity and real exchange rate show that real exchange rate ismainly determined by relative labor productivity as Balassa-Samuelson hypothesisdescribed.5. The RMB equilibrium rate revolves about the equilibrium level. Themaladjustment of RMB real exchange rate has taken place nearly four times during thesample period. RMB exchange rate was overestimated from20031Q and20091Q to20011Q respectively. Overall, the RMB exchange rate underestimated but there is noserious misalignment.6.Lacking of elasticity on the RMB exchange rate system,imperfection of pricing system, imbalance of economy structure and so on couldaccount for the undervalued of real exchange rate. At last, this paper, combining withthe current fact of Chinese economy, put forward some proposals in terms of perfectingthe rate-forming mechanism of RMB and relevant measures.