Renminbi deserves depreciation

The plunge in the euro and threat of persistent economic instability has caused the Chinese government to take a more cautious approach to adjusting its exchange rate. But ironically, the collapse of the euro presents a golden opportunity for China to introduce greater exchange rate flexibility.

China should do this now, rather than wait for the crisis to abate. And to the surprise of many, it should begin by depreciating rather than appreciating the value of the renminbi.

Chinese authorities have been reluctant in the past to appreciate the exchange rate in response to global pressure because when markets are convinced that the renminbi will rise even gradually - in value over the foreseeable future the rise will encourage speculative capital inflows. Over the past decade, estimates suggest that perhaps 20-40 percent of the annual capital inflows have been "hot money" pursuing the likelihood that the currency would appreciate either steadily or in measured steps. Such inflows intensify pressure for further appreciation and create negative results that China is already struggling to address.