The quest for determinants of Chinese exchange rate policy

Abstract

This paper examines the decision function of the People’s Bank of China concerning setting of the renminbi exchange rate against the U.S. dollar. We use an ordinal dependent variable model to check whether main macroeconomic variables and repeated complaints from U.S. institutions and officials about the Chinese exchange rate had an influence on the Chinese exchange rate policy in the period 2000−2011. The results of estimation show that GDP growth, trade balance and pressure from the U.S. on greater exchange rate flexibility had a positive impact on the probability of renminbi exchange rate appreciation. These findings suggest that the primary goal of the exchange rate policy in China is to support the export sector. This goal, however, is compromised by allowing the renminbi to appreciate under pressure from the U.S. Treasury. This suggests that in large open economies the exchange rate policy cannot be pursued regardless of its international ramifications.