ANSWER TO QUESTION 1
Since the beginning of the economic reform process in 1979, the Chinese currency (yuan) was devalued on many occasions until 1994 when the two-tier foreign exchange system was ended. While the official rate of yuan had been maintained constant over seven years since 1998, the pressure on the revaluation of yuan intensified. After years of speculation and hearsay, China finally revalued the RMB by 2.1% in July 2005 . While the currency remains effectively pegged to a basket of hard currencies,( USD, JPY, EUR, WON) it is allowed to fluctuate against the US dollar (USD) by less than 0.3 per day in either direction. ( Zhang , N.D )
Below , the chinese RMB has been compared with the USD , Japanese Yen , and Euro in terms of their nominal rate and real exchange rate . Nominal rate is the rate at which the currency will be traded with another and the real exchange rate is the purchasing power of a currency relative to another . ( Zhang , N. D )
The Chinese RMB and The USD
As we can see in the above graph , the nominal rate has been higher than the real exchange rate , before and after the revaluation in july 2005. This shows that the RMB was undervalued by 0.706% ,and it undervalued further till December to 2.32 % . (see appendix 1) , However, from the mid 2007 , the real exchange rate seemed to be higher than the nominal rate till 2008 , resulting in an over valuation of 1.48% by 2008 December. After again a movement in end 2009 , the RMB overvalued by to 0.3607% by end 2012 . Overall , the RMB was overvalued by an average of 0.35% in the time spam.
The RMB and the Japanese YEN
The RMB seemed to have a higher Real exchange rate against the JPY even before the revaluation. After the revaluation , also , the real exchange rate seemed to be higher than the nominal rate. The highest overvaluation of the RMB was at end 2007 at 5.05% and slowly decreased to 2.52% by end 2012. Overall , the RMB was overvalued by average 3.08% in the whole period. Thus it can be concluded that the RMB was overvalued against all the major currencies after revaluation till the end of 2012.
RMB and the Euro
It is evident from the above graph that the nominal exchange rate and the real exchange rate of the RMB has been closely related before and after the revaluation till the end of 2012. It can be concluded that the RMB was overvalued by an average of 0.79% .
Under/Over Valuation of the RMB
Fig. 3 From Fig. 3 , it can be stated that the RMB was overvalued most of the time during the regime. It was the highest against the Japanese yen at nearly 8% at the beginning of 2008. It reached record low against the US at around 3% during the year 2006 followed by an overvaluation and then undervaluation eventually settling at slight overvaluation at the end of 2012. The RMB was also overvalued most of the time against the Euro , eventually settling close to its nominal rate by Dec 2012.
Answer to question 1 b
RMB against the USD
With the emerging Chinese economy as the largest reserve country and the largest ‘world factory’, the Chinese Renminbi (henceforth, RMB) exchange rate issue has been at the centre of on going debate over the source of global current account imbalance, especially with the United States. Although China abandoned the US dollar peg policy in July 2005, the RMB became re-pegged to the US dollar after the global ﬁnancial crisis in fall 2008. However, On 19 June 2010, the People’s Bank of China (PBOC) announced that it would enhance the ﬂexibility of the RMB exchange rate again. However, it is still at debate whether and to what...