Are Chinese Exports Sensitive to Changes in the Exchange Rate?

This paper builds a model of two types of Chinese exports, those processed and assembled laregely from imported inputs ("processed" exports) and "nonprocessed" exports. Based on this model, the sensitivity of Chinese exports to exchange rate changes is empirically examined. Unlike previous work, the estimation period includes the net real appreciation of the renminbi that has occurred over the past three years. The results show that greater exchange rate appreciation dampens export growth, both for non-processed and processed exports, with the estimated cumulative price elasticity being substantially greater than unity. When the source of the increase in the Chinese real exchange rate is appreciations against the currencies of other emerging Asian trading partners, the e¤ect on processing exports is positive but insign…cant, while the e¤ect on non-processing exports is signi…cantly negative. By contrast, when the source of the increase in the Chinese real exchange rate is appreciation against China’s advanced-economy trading partners, the e¤ects on both types of exports are negative. These results are consistent with the predictions of the theoretical model. Counterfactual simulations based on the estimated model strongly suggest that if the trade-weighted real renminbi had appreciated at an annual rate of 10 percent per quarter since mid-2005, Chinese real exports would have been roughly 30 percent lower today. Thus greater exchange rate ‡exibility could contribute to lowering China’s huge trade surplus through restraining growth of exports. Keywords: China, exchange rate, exports. JEL classi…cation: F31, F32, F41. The author is Chief, Emerging Market Economies Section, Division of International Finance, Board of Governors of the Federal Reserve System, Washington, D.C. 20551, U.S.A. The views expressed in this paper are solely the responsibility of the author and should not be interpreted as re‡ecting the views of the Board of Governors of the Federal Reserves System or of any other person associated with the Federal Reserve System. An earlier version of this paper was presented at the 2009 Canadian Economic Association annual meetings in Toronto, Canada. I would like to thank Kavan Kucko and Nikola Kojucharov for excellent research assistance and Jeannine Baillu, Brett Berger, Carlos De Resende, Neil Ericsson, John Rogers, Jaime Marquez, and John Schindler for very helpful comments.