The equilibrium real exchange rate of China: a productivity approach

A large body of theoretical and empirical works asserts that exchange rates depend upon a country's productivity growth, and this effect is dubbed the Balassa-Samuelson effect. This paper examines the evidence for a Balassa-Samuelson based explanation for the real exchange rate movements of China vis-a-vis the U.S. dollar. Using disaggregated industry level data, we construct sectoral total factor productivities (TFPs) for the tradable and nontradable sectors from 1980-2003. Our main findings are: (a) the sectoral TFP differential is cointegrated with the relative price of nontradables with the unit cointegration vector; and (b) the real exchange rate is cointegrated with home and foreign sectoral TFP differentials. This productivity based real exchange rate model is then used to estimate the equilibrium exchange rates of the Renminbi (RMB). A comparison of the equilibrium exchange rate predicted by the productivity-based model and the actual rate indicates that the Renminbi is somewhat undervalued against the US dollar, though the undervaluation is not statistically significant. Our conclusions continue to hold even after we have controlled for the movements of net foreign assets.Nontraded Goods; Balassa-Samuelson Model; Cointegration

Too much of a good thing? on the effects of limiting foreign reserve accumulation

Some emerging economies have recently experienced large government surpluses and accelerating foreign exchange reserve accumulation far in excess of what would be implied by the literature on optimal reserves. China in particular has repeatedly stressed that there may be an upper limit to how many reserves it is willing to hold. Using a dynamic general equilibrium model, we show that the credible expectation of such a limit would lead to a balance of payments anti-crisis, which is characterized by an economic boom, real appreciation, growing demand for domestic currency, and domestic inflation, in the period prior to the limit being reached.Balance of payments anti-crises; foreign exchange reserves; foreign exchange intervention; inflation targeting; exchange rate targeting

Would Global Patent Protection be too Weak without International Coordination?

This paper analyzes the setting of national patent policies in the global economy. In the standard model with free trade and social-welfare-maximizing governments à la Grossman and Lai (2004), cross-border positive policy externalities induce individual countries to select patent strengths that are weaker than is optimal from a global perspective. The paper introduces three new features to the analysis: trade barriers, firm heterogeneity in terms of productivity and political economy considerations in setting patent policies. The first two features (trade barriers interacting with firm heterogeneity) tend to reduce the size of cross-border externalities in patent protection and therefore make national IPR policies closer to the global optimum. With firm lobbying creating profit-bias of the government, it is even possible that the equilibrium strength of global patent protection is greater than the globally efficient level. Thus, the question of under-protection or not is an empirical one. Based on calibration exercises, we find that there would be global under-protection of patent rights when there is no international policy coordination. Furthermore, requiring all countries to harmonize their patent standards with the equilibrium standard of the most innovative country (the US) does not lead to global over-protection of patent rights.intellectual property rights, patents, TRIPS, harmonization

Chinese Firms’ Political Connection, Ownership, and Financing Constraints

We empirically examine some listed Chinese firms’ political connection, ownership, and financing constraints. Politically-connected firms display no financing constraints whereas firms without connection experience significant constraints. Non-connected family-controlled firms bear greater constraints than non-connected state-owned firms.Political connection; investments; financing constraints; Chinese firms

Financial liberalization and financing constraints: some evidence from panel data of listed Chinese firms

This paper examines the impact of recent financial liberalization in China on the financing constraints and investment of publicly-listed Chinese firms. Two continuous indices are constructed to measure the evolution and intensity of financial reforms: a financial liberalization index and a capital control index. Dynamic panel GMM method is used to estimate firms’ financing constraints in an Euler-equation investment model. The results indicate that while smaller firms face significant financing constraints than larger firms, financial liberalization has raised the financing constraints for the latter and failed to relieve the constraints for the former. It appears financial reforms in China have subjected larger firms to greater market discipline but the reforms probably have not been profound enough to benefit smaller firms.Financial liberalization; investments; financing constraints; Chinese firms

Regional Capital Mobility in China: 1978-2006

We examine cross-region capital mobility in China and track how the degree of mobility has changed over time. The effects of fiscal and redistributive activities of different levels of government in China on private capital mobility are taken into account. Our results indicate that there was a significant improvement in capital mobility over time in China, particularly for private capital in the more developed regions. The central and provincial governments, via their taxation, spending, and transfers, loosen the relationship between private saving and investment and appear to promote capital mobility, particularly for less developed regions. There are considerable differences between more and less developed regions in terms of the degree of capital market integration and the improvement in capital mobility over time. The results have important policy implications on global re-balancing as well as regional development gap and risk-sharing within China.Feldstein-Horioka; Chinese cross-region capital mobility; saving-investment relationship; Chinese capital market integration

Real Exchange Rates and Productivity: Evidence From Asia

This paper examines a productivity-based explanation of the long run real exchange rate movements of six Asian economies. Using industry level data, we construct total factor productivities (TFPs) for the tradable and nontradable sectors. We find that (a) within each country the relative price of nontradable goods is cointegrated with the sectoral TFP differential, and (b) the real exchange rates are cointegrated with the home and foreign sectoral TFP differentials. Using the predicted real exchange rate as a measure of the "long-run equilibrium", we find that most Asian economies�real exchange rates are overvalued before the Asian Financial Crisis

The equilibrium real exchange rate of China: a productivity approach

A large body of theoretical and empirical works asserts that exchange rates depend upon a country's productivity growth, and this effect is dubbed the Balassa-Samuelson effect. This paper examines the evidence for a Balassa-Samuelson based explanation for the real exchange rate movements of China vis-a-vis the U.S. dollar. Using disaggregated industry level data, we construct sectoral total factor productivities (TFPs) for the tradable and nontradable sectors from 1980-2003. Our main findings are: (a) the sectoral TFP differential is cointegrated with the relative price of nontradables with the unit cointegration vector; and (b) the real exchange rate is cointegrated with home and foreign sectoral TFP differentials. This productivity based real exchange rate model is then used to estimate the equilibrium exchange rates of the Renminbi (RMB). A comparison of the equilibrium exchange rate predicted by the productivity-based model and the actual rate indicates that the Renminbi is somewhat undervalued against the US dollar, though the undervaluation is not statistically significant. Our conclusions continue to hold even after we have controlled for the movements of net foreign assets

Too much of a good thing? on the effects of limiting foreign reserve accumulation

Some emerging economies have recently experienced large government surpluses and accelerating foreign exchange reserve accumulation far in excess of what would be implied by the literature on optimal reserves. China in particular has repeatedly stressed that there may be an upper limit to how many reserves it is willing to hold. Using a dynamic general equilibrium model, we show that the credible expectation of such a limit would lead to a balance of payments anti-crisis, which is characterized by an economic boom, real appreciation, growing demand for domestic currency, and domestic inflation, in the period prior to the limit being reached

The equilibrium real exchange rate of China: a productivity approach

A large body of theoretical and empirical works asserts that exchange rates depend upon a country's productivity growth, and this effect is dubbed the Balassa-Samuelson effect. This paper examines the evidence for a Balassa-Samuelson based explanation for the real exchange rate movements of China vis-a-vis the U.S. dollar. Using disaggregated industry level data, we construct sectoral total factor productivities (TFPs) for the tradable and nontradable sectors from 1980-2003. Our main findings are: (a) the sectoral TFP differential is cointegrated with the relative price of nontradables with the unit cointegration vector; and (b) the real exchange rate is cointegrated with home and foreign sectoral TFP differentials. This productivity based real exchange rate model is then used to estimate the equilibrium exchange rates of the Renminbi (RMB). A comparison of the equilibrium exchange rate predicted by the productivity-based model and the actual rate indicates that the Renminbi is somewhat undervalued against the US dollar, though the undervaluation is not statistically significant. Our conclusions continue to hold even after we have controlled for the movements of net foreign assets