China\'s Renminbi What Will Be

China's Renminbi

What will be the impact of revaluation on Hong Kong?

Since 1983 Hong Kong has engaged in a policy of pegging the Hong Kong dollar to a level of $7.80 to the U.S. dollar. This means that any kind of revaluation of the Yuan or the Hong Kong dollar could increase the overall amounts of volatility seen. Once this takes place, it will have a ripple effect on Hong Kong, meaning that the imports and exports will no doubt create new imbalances in the economy. When the currency has been artificially pegged to another currency (such as the U.S. dollar or a basket of currencies), there is often built up pressure within the markets. This allows various exports that Hong Kong is sending to overseas markets to be inexpensive in comparison to domestic competitors. When many of these imports are coming into Hong Kong, means that they will be more expensive in relation to goods that are manufactured in China or Hong Kong. This allows both China and Hong Kong to develop trade surpluses. This can be used to build up foreign investment reserves and attract increased amounts of foreign direct investments (FDI). The money received from FDI can be reinvested in industries and other projects that can help expand Hong Kong's / China's manufacturing base. This would allow the total amount of exports to continue to remain steady, while the country builds it trade surpluses. A good example of this can be seen by the fact that Hong Kong is one of the top destinations for receiving foreign direct investments. They also have the eight largest currency reserves in the world coming in at: $136 billion. (Fung, 2007)

However, once the fixed exchange rate is removed and the currency is allowed to float freely against the major currencies, means that a major reevaluation will occur. In this particular situation, the large budget deficits would quickly evaporate. What would happen is: once the currency is allowed to float freely, many sellers and speculators will emerge to take advantage of the change. (Fung, 2007) This will cause the Hong Kong dollar and Yuan to face pent up buying pressure, due to the fact that the government kept the peg in place for to long. At which point, the currencies will begin to rise sharply in relation to the U.S. dollar and other currencies. Once this occurs, it will make the various exports that Hong Kong is sending to foreign markets more competitive. While at the same time, it will make imports in Hong Kong / China cheaper in relation to goods that are manufactured in both locations. Over the course of time, this will cause the trade surplus that Hong Kong / China enjoys decreasing as both markets begin to buy the cheaper foreign imports. ("The Impact of China's Revaluation of the Yuan," 2005)