Globalization and Chinas Economic and Financial Development (Preliminary draft not to be quoted 9/8/05) Gregory C. Chow o under!

tand China"! e#onomi# reform and de$elo%ment !in#e &9'8 one may #on$eniently di$ide the to%i# into it! dome!ti# and international a!%e#t! e$en though the two are #lo!ely related. (t i! the %ur%o!e of thi! e!!ay to e)amine the international a!%e#t! a! China ha! ta*en %art in the %ro#e!! of world e#onomi# globali+ation, a !alient feature of world hi!tory today. he Chine!e leader -eng .iao%ing who initiated and dire#ted e#onomi# reform from a %lanned to a mar*et e#onomy under!tood the im%ortan#e of globali+ation and ado%ted what he #alled an /o%en0door %oli#y1 a! an e!!ential %art of the reform %rogram. he term globali+ation refer! to the #ro!!ing of national boundarie!. (t mean! the flow of good!, #a%ital, information/te#hnology and %eo%le a#ro!! national border!. China %ra#ti#ed globali+ation in the 2an dyna!ty (3045C03306-) when trade too* %la#e between the 2an Chine!e and neighboring %eo%le in the 7orth0we!t through the 8il* 9oute. -uring the ang dyna!ty (4&8090&) trade flouri!hed and the 8il* 9oute e)%anded a! Chine!e traded with the 9oman!. 2owe$er, in the :ing -yna!ty and in the %eriod of the P9C u% to -eng .iao%ing"! o%en0door %oli#y China tried to #lo!e it! door! and re!i!ted globali+ation. ( will !ur$ey the a##om%li!hment! of globali+ation for China"! e#onomi# de$elo%ment and #larify !ome #ontro$er!ial i!!ue! #on#erning globali+ation. 1. Foreign Trade. ;ir!t #on!ider foreign trade or the flow of good! a#ro!! national border!. 8in#e &9'8 China ha! en#ouraged free trade and aboli!hed trade re!tri#tion! !te% by !te%. he go$ernment ha! #hanged it! %oli#y from the admini!tration of foreign trade by the <ini!try of ;oreign rade, to gi$ing %ro$in#ial go$ernment! mu#h autonomy in foreign trade and to allowing %ri$ate enter%ri!e! to engage in foreign trade. he total $olume of foreign trade or the total $olume of e)%ort! and im%ort! in#rea!ed from 30.4= billion >8 dollar! in &9'8 to 430.8 billion in 3003, a##ounting for 45 %er#ent of G-P and wa! growing at the rate of ?5 %er#ent %er year. (n 300=, the trade $olume rea#hed &.& trillion >8 dollar!, and had a growth rate of ?0 %er#ent. China be#ame the third large!t trading #ountry in the world, ne)t to the >nited 8tate! and Germany. oday e)%ort! from China #an be found all o$er the world. (n term! of >80China e#onomi# relation! e)%ort! from China ha$e benefited many 6meri#an! in %ro$iding them with high0quality #on!umer good! at low %ri#e!, but ha$e al!o generated re!entment and re!i!tan#e by !ome 6meri#an manufa#turer! and wor*er!. Chine!e e)%ort! to the >8 may hurt !ome >8 indu!trie! %rodu#ing !imilar %rodu#t!. >8 wor*er! in the!e indu!trie! may !uffer tem%orarily, but in the long0run the labor mar*et i! able to ad@u!t a! new indu!trie! are de$elo%ed to hire the di!%la#ed wor*er!. (n the long run, the aggregate unem%loyment rate (now at 5 %er#ent) ha! not been $i!ibly affe#ted by the 6meri#an

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im%ort! of foreign good!. 7ote al!o that e)%ort! from China, in fa#t about 40 %er#ent of them, are %rodu#ed by foreign in$e!ted enter%ri!e! in China and !ome are 6meri#an #om%anie!. Aut!our#ing of @ob! !u#h a! ha$ing !omeone in 6!ia read .0ray or an!wer %hone! ha! al!o #reated re!entment in the >nited 8tate!. ;rom the e#onomi# %oint of $iew, out!our#ing of @ob! a! illu!trated abo$e i! the !ame a! im%ort of !er$i#e! from China. he effe#t! are the !ame a! for the im%ort of good! %rodu#ed in China that ( @u!t tal*ed about. 8u#h im%ort! are good for China and for >8 although !ome wor*er! may be di!%la#ed tem%orarily. 6lthough thi! %oint i! $alid, Profe!!or Greg <an*iw of 2ar$ard and at the time Chairman of the Pre!ident"! Coun#il of B#onomi# 6d$i!er! got into trouble when he made thi! $alid %oint in a Congre!!ional hearing in 300= be#au!e !u#h a $iew%oint #an be un%o%ular for 6meri#an wor*er! and %oliti#ian!. 6! an im%orter China %ro$ide! a large mar*et for foreign manufa#turer! and ha! gained e#onomi# %ower a! a re!ult. -emand for im%ort! to China %ro%el! e#onomi# growth of other #ountrie! in the world. China fir!t too* a mer#antili!t !tand in the re!tri#tion of im%ort!, but after the ra%id e)%an!ion of Chine!e e)%ort!, the table ha! turned a! !ome de$elo%ed #ountrie! in#luding the >8 are #on!idering the im%o!ition of re!tri#tion! on im%ort! from China. he im%o!ition of quota! on te)tile! from China i! an e)am%le. (n 300& China @oined the Corld rade Argani+ation. <ember!hi% in C A required China to lower it! tariff! for manufa#turing a! well a! agri#ultural %rodu#t!. he lowering of tariff! hel%ed in#rea!e #om%etition for Chine!e manufa#turer! and farmer! and %ro$ide #hea%er %rodu#t! for Chine!e #on!umer!. ;oreign trade ha! hel%ed e#onomi# growth in China in three a!%e#t!. ;ir!t international !%e#iali+ation that ta*e! %la#e a! ea#h #ountry %rodu#e! the good! for whi#h it ha! a #om%arati$e ad$antage in %rodu#ing will enable the #ountry to obtain more good! than by dome!ti# %rodu#tion alone. 8e#ond, e)%ort! are a %art of aggregate demand and an in#rea!e in aggregate demand hel%! in#rea!e the #ountry"! national out%ut. hirdly, trade together with foreign in$e!tment ha! brought in modern te#hnology and method of management that ha! in#rea!ed %rodu#ti$ity in China. 2. Foreign Investment 6. ;low of %hy!i#al #a%ital in the form of foreign dire#t in$e!tment ha! been good in %romoting China"! e#onomi# growth. 8in#e e#onomi# reform !tarted in &9'8 China"! %oli#y #on#erning foreign in$e!tment ha! made an &80 degree turn, from treating it a! a form of e)%loitation by foreigner! to wel#oming it for China"! e#onomi# de$elo%ment. (n the year! 300& to 300?, the amount! of dire#t foreign in$e!tment a#tually utili+ed were re!%e#ti$ely =9.', 55.0 and 54.& billion >8 dollar!. ;oreign in$e!tment ha! %ro$ided %hy!i#al and finan#ial #a%ital, te#hnology, and management !*ill and %ra#ti#e to China. 2owe$er foreign in$e!tment i! not a fundamental e#onomi# fa#tor in China"! ra%id growth but only a $ehi#le %ro%elling that growth. here are three fundamental fa#tor!, namely (&) abundan#e of high0quality human #a%ital that in#lude! !*illful and

hardwor*ing laborer! and re!our#eful entre%reneur!, (3) !uffi#iently well fun#tioning mar*et in!titution! and (?) the %o!ition of a late #omer that #an ado%t modern te#hnology from the more de$elo%ed #ountrie!. he!e three fundamental fa#tor! ha$e enabled China to attra#t foreign #a%italD otherwi!e the #a%ital #ould ha$e been in$e!ted el!ewhere. 7ow China i! e)%orting #a%ital, not only to le!! de$elo%ed #ountrie! but al!o to the >nited 8tate!. Chine!e in$e!tment ha! hel%ed the e#onomi# de$elo%ment of !ome 6!ian and 6fri#an #ountrie!. (n$e!tment in the >nited 8tate! i! illu!trated by the attem%t in the 8%ring of 3005 by the Chine!e 7ational Aff!hore Ail Cor%oration Cnoo# to buy >no#al in the >nited 8tate! although the attem%t turned out to be un!u##e!!ful. he attem%t i! a %art of the free flow of #a%ital. ;rom the $iew%oint of the >nited 8tate!, e)%ort of #a%ital from >8 to China that ta*e! %la#e when a >8 fa#tory mo$e! from Cle$eland to 8hanghai i! al!o #on!idered a #a!e of the out!our#ing of @ob! a! the fa#tory i! !u%%o!ed to go to 8hanghai to ta*e ad$antage of the le!! e)%en!i$e and good quality labor in China. hi! #a!e of out!our#ing of @ob! i! different from !im%ly buying good! or !er$i#e! from China that ( tal*ed about earlier !in#e it ta*e! the form of foreign in$e!tment. Ca%ital flow! to China in thi! #a!e but not in the %re$iou! #a!e that in$ol$e! only foreign trade. 8u#h an in$e!tment i! good for the >8 a! it rai!e! >8 G7P. he rea!on i! that what thi! %ie#e of #a%ital #an %rodu#e in China i! more than it #ould be %rodu#ing in the >8D otherwi!e the fa#tory would not ha$e mo$ed. herefore the mo$e in#rea!e! total out%ut of the >8 whi#h the e#onomi!t! #all gro!! national %rodu#t or G7P. he mo$e, howe$er, ha! a harmful effe#t on the wor*er! in Cle$eland who lo!e their @ob! when !u#h a fa#tory mo$e!. 6! in the #a!e of #om%etition from im%ort! from China, there will be @ob lo!! in !ele#ted indu!trie! in the !hort run 5ut aggregate em%loyment in the >8 in the long run will not be affe#ted. (n the #our!e of globali+ation there i! mo$ement of re!our#e! between nation!. he mo$ement i! good for ea#h nation in the long run but may ha$e harmful effe#t! in the !hort run for a !egment of the %o%ulation. he !ame #an be !aid about the mo$ement of e#onomi# re!our#e! between different region! of one #ountry. (n >8 hi!tory, the mo$ement of te)tile fa#torie! from 7ew Bngland to the 8outh to ta*e ad$antage of the lower labor #o!t i! good for the #ountry"! e#onomi# de$elo%ment, both in 7ew Bngland and in the 8outh. (n 7ew Bngland !ome wor*er! were di!%la#ed during the mo$e but other indu!trie! were de$elo%ed and %eo%le were em%loyed again without leading to an in#rea!e in the unem%loyment rate in the region. An the negati$e !ide, there may be en$ironmental %roblem! a!!o#iated with new fa#torie! built in the #our!e of globali+ation, but thi! %roblem e)i!t! for dome!ti#ally finan#ed fa#torie! and for e#onomi# de$elo%ment in general. he Chine!e go$ernment ha! %aid !eriou! attention to en$ironment %rote#tion. B#onomi!t! try to balan#e the harm from %o!!ible damage to the en$ironment with the gain in ha$ing more out%ut. (n general %oorer #ountrie! in the #our!e of e#onomi# de$elo%ment are willing to a##e%t !ome en$ironmental degradation in e)#hange for more out%ut but they !hould be aware of the damage whi#h may be long0la!ting.

5. Con#erning finan#ial in$e!tment, the free flow of finan#ial #a%ital i! one ob@e#ti$e in the de$elo%ment of finan#ial mar*et!. China wel#ome! foreigner to in$e!t in it! !to#* mar*et! in 8hen+hen, 8hanghai and 2ong Eong, and al!o de!ire! to in$e!t it! #a%ital abroad. <o$ement of finan#ial #a%ital i! one a!%e#t of the free flow of re!our#e! to where they yield the highe!t return !o that total out%ut of the world would be larger. (n thi! #onne#tion ( would li*e to #all your attention to the fa#t that the wor*ing of the free mar*et in$ol$ing the free flow of re!our#e! wa! well under!tood by the great Chine!e hi!torian 8ima :ian of the 2an dyna!ty. (n #ha%ter 49 entitled F he biogra%hie! of the money mar*et!F of hi! boo* Historical Records he wroteG F here mu!t be farmer! to %rodu#e food, men to e)tra#t the wealth of mountain! and mar!he!, arti!an! to %rodu#e the!e thing! and mer#hant! to #ir#ulate them. here i! no need to wait for go$ernment order!G ea#h man will %lay hi! %art, doing hi! be!t to get what he de!ire!. 8o #hea% good! will go where they will fet#h more, while e)%en!i$e good! will ma*e men !ear#h for #hea% one!. Chen all wor* willingly at their trade, @u!t a! water flow! #ea!ele!!ly downhill day and night, thing! will a%%ear un!ought and %eo%le will %rodu#e them without being a!*ed. ;or #learly thi! a##ord! with the Cay and i! in *ee%ing with nature.F Chat he #all! nature i! what we #all the law of e#onomi#!. An the negati$e !ide of the free flow of finan#ial #a%ital it enable! finan#ial #ri!e! to ta*e %la#e, in#luding the 6!ian finan#ial #ri!i! of &99'08. hi! #ri!i! did not affe#t China $ery mu#h a! the Chine!e go$ernment ha! had a wi!e %oli#y of ado%ting international finan#ial reform at a moderate !%eed e!%e#ially in allowing a gradual o%ening of finan#ial mar*et! and of the #a%ital a##ount in international finan#e be#au!e e#onomi# in!titution! are not ready. 5ut globali+ation it!elf i! good for the reform of ban*ing and finan#ial in!titution! in %ro$iding foreign #om%etition to %u!h the reform forward. >!ing foreign #om%etition to !%eed u% e#onomi# reform wa! the main rea!on for the former Premier Hhu 9ong@i in leading China to @oin the C A in the fir!t %la#e. he !trategy of u!ing foreign #om%etition to !%eed u% e#onomi# reform of dome!ti# in!titution!, howe$er effe#ti$e, ha! limitation in %romoting the reform of China"! ban*ing !y!tem and large !tate0owned enter%ri!e! for two rea!on!. ;ir!t, while Chine!e go$ernment offi#ial! ha$e been %ragmati# in mo!t a!%e#t! of e#onomi# reform, they ha$e been #on!er$ati$e and !low in allowing foreign ban*! to enter the dome!ti# mar*et. 8e#ond, Chine!e ban*! and !tate enter%ri!e! are !tate0owned and #ontrolled and o%erated by bureau#rat! who #an ta*e ad$antage of the e#onomi# %ower #onferred u%on them to benefit them!el$e!. Corru%tion i! a ma@or hindran#e to e#onomi# reform at the #urrent @un#ture of China"! e#onomi# de$elo%ment a! ( ha$e di!#u!!ed el!ewhere. 8ee Chow (3005) for a di!#u!!ion of the %roblem of #orru%tion and 6llen, :ian and :ian (3005) that #ontain! mea!ure! for China"! finan#ial reform that may be hindered by #orru%tion a! well.

The Exchange ate Iss!e 6n im%ortant determinant of foreign trade and foreign in$e!tment i! the e)#hange rate. 6 low $alue of Chine!e 9<5 ma*e! Chine!e e)%ort! #hea%er and in$e!tment in China more attra#ti$e if the in$e!tment i! to %rodu#e for e)%ort. <any #ountrie! in the world in#luding tho!e in the Buro%ean >nion, Ia%an and aiwan, ha$e ado%ted the fle)ible e)#hange rate !y!tem while China ado%ted a fi)ed e)#hange rate u% to Iuly 3005 but the go$ernment did #hange the fi)ed rate !e$eral time! in the &980! and early &990! relati$e to the >8 dollar a! it! go$ernment deemed a%%ro%riate. <o!t re#ently the Chine!e go$ernment ha! ado%ted a managed floating rate with the go$ernment de#iding the rate around a !mall band daily relati$e to the $alue of a ba!*et of foreign #urren#ie! but the ba!*et i! not e)%li#itly !%e#ified. here are %ro! and #on! of the fi)ed and the floating e)#hange rate !y!tem!. (8ee the 6%%endi) for a more detailed di!#u!!ion.) 6 fi)ed e)#hange %ro$ide! an an#hor for the go$ernment in the #ondu#t of it! monetary and fi!#al %oli#y. (t limit! the di!#retionary %ower of the go$ernment in the e)er#i!e of it! monetary and fi!#al %oli#y that may lead to e)#e!!i$e inflation or deflation. 6n e)%an!ionary monetary or fi!#al %oli#y would lead to inflation and lower the $alue of the #urren#y a! #om%ared with a more !table >8 #urren#y. hu! the fi)ed e)#hange rate !y!tem might be good for a de$elo%ing #ountry whi#h ha! diffi#ulty in di!#i%lining it!elf in the e)er#i!e of it! monetary and fi!#al %oli#ie!. he fli% !ide i! the %ower that it gi$e! u% and it! de%enden#e on the monetary %oli#y of the >8 if the e)#hange rate i! fi)ed a! in term! of the >8 dollar. ( wa! one of the !e$eral e#onomi!t! who %ro%o!ed a fle)ible e)#hange rate for aiwan three de#ade! ago. 6fter the aiwan go$ernment ado%ted it the e#onomy !eemed to fun#tion well. Jet u! #on!ider two que!tion!G ;ir!t, what e)#hange rate regime !hould China ado%tK 8e#ond, gi$en the #urrent regime of a managed float !hould the 9<5 be re$aluedK 8in#e the Chine!e go$ernment ha! already de#lared it! %o!ition to ado%t a more fle)ible regime in the long run a! the !ituation %ermit!, ( !hould not #omment on the fir!t que!tion. <a*ing re#ommendation! on %oli#y whi#h i! already de#ided i! fruitle!!. Jet me @u!t %oint out that in the ado%tion of a !uitable e)#hange rate !y!tem the Chine!e go$ernment i! %ra#ti#ing it! tried and %ro$en method of reform of e#onomi# in!titution!, namely, graduali!m and e)%erimentation in order to de#ide on a good !y!tem and when to ado%t it. An the !e#ond que!tion many foreign go$ernment! in#luding the >8 go$ernment ha$e %re!!ured the Chine!e go$ernment to rai!e the $alue of the 9<5 for their own benefit!. 8ome >8 e#onomi!t! in#luding 6lan Green!%an ha$e !aid that the effe#t of the e)#hange rate of the 9<5 on the >8 e#onomy i! rather limited. Con#erning the effe#t on the Chine!e e#onomy, ( belie$e that the 9<5 i! !till under$alued and re$aluation i! good for the Chine!e e#onomy. Ce ha$e witne!!ed the under$aluation of the 9<5 or the o$er$aluation of the dollar in term! of the 9<5 by the e)#e!! !u%%ly of the dollar in the foreign e)#hange mar*et in China due to it! high %ri#e and the re!ulting a##umulation of a large amount of foreign e)#hange re!er$e! in China in the amount of o$er '00 billion >8 dollar!. he in#rea!e wa! o$er 300 billion @u!t in 300= alone. 6n under$alued 9<5 ha! #au!ed the large e)%ort !ur%lu! and large inflow of foreign in$e!tment and the

a!!o#iated large inflow of foreign e)#hange re!er$e!. he inflow of foreign e)#hange ha! been #on$erted into 9<5 and ha! #au!ed a ra%id in#rea!e in money !u%%ly <3 in 3003. he ra%id in#rea!e in money !u%%ly ha! led to great in#rea!e! in in$e!tment and out%ut in 300?05 and in %ri#e! in 300=05 (while from &998 to 3003 China had a $ery !table or !lightly de#rea!ing %ri#e le$el). 6 more detailed di!#u!!ion of the effe#t! of money !u%%ly on aggregate out%ut and %ri#e! #an be found in Chow and 8hen (300=). hu! the under$alued 9<5 wa! a main #au!e of an o$erheated Chine!e e#onomy in 300?0=. he Chine!e go$ernment tried to !low down the o$erheated e#onomy by the admini!trati$e mean! of #ontrolling the e)ten!ion of #redit! by ban*! and limiting the number of #on!tru#tion %ro@e#t!. (f the ban*! had had no e)tra money to lend out in the fir!t %la#e, there would ha$e been no need to #ontrol the amount! of ban* #redit and to re!tri#t in$e!tment in #on!tru#tion whi#h wa! finan#ed by !u#h #redit!. hu! an under$alued 9<5 i! the #ul%rit of the o$erheated Chine!e e#onomy. o !ol$e the %otential %roblem of o$erheating and inflation in the future the go$ernment need! to rai!e the $alue of the 9<5 !ub!tantially. 6nother rea!on for re$aluation of the 9<5 i! that a high $alued 9<5 would enable the Chine!e to buy more im%ort! for #on!um%tion and e#onomi# de$elo%ment rather than a##umulating an e)tremely large amount of foreign re!er$e! that are mo!tly lying idle or earning a !mall amount of intere!t from in$e!ting in >8 rea!ury bond!. ". Trans#er o# In#ormation and Technolog$ ogether with the flow of good! and #a%ital i! the tran!mi!!ion of information and te#hnology. hi! ha! benefited China by u%grading it! te#hnology. 8o far China ha! mainly been an im%orter of te#hnology but it will !oon be an im%ortant e)%orter a! it i! already an e)%orter of te#hnology to !ome le!! de$elo%ed #ountrie!. (n re#ent year! the Chine!e go$ernment ha! !%ent a large amount on higher edu#ation and Chine!e uni$er!itie!, e!%e#ially the to% one!, im%ro$ed ra%idly. 8ee Chow and 8hen (3005). hi! will hel% China to be#ome one of the world leader! in te#hnology. 6! of today, China ha! already hel%ed many de$elo%ing #ountrie! in 6!ia and in 6fri#a by in$e!ting in the!e #ountrie!, %ro$iding them with te#hnology, labor and a!!i!ting them in e#onomi# de$elo%ment in general. China !eem! to ha$e done $ery well in thi! regard, in $iew of the fa#t that it ha! it! own %oor region! to de$elo% al!o. Chine!e di%loma#y i! ba!ed on mutual re!%e#t, treating a !mall #ountry a! equal and trying to hel% !ol$e it! %roblem! if it i! fea!ible. he effort of the Chine!e go$ernment in a!!i!ting the de$elo%ing #ountrie! and it! di%lomati# %o!ture a! a friendly #ountry are doing a! mu#h in in#rea!ing China"! influen#e in the world !#ene a! it! ri!ing e#onomi# %ower. 9eturning to China a! an im%orter of te#hnology, we *now that the im%ort of te#hnology from the >8 to China i! good for China, but i! it good for the >8K 6 %art of the an!wer i! ye!. he main rea!on for #a%ital and te#hnology to mo$e from >8 to China i! to get a higher return to #a%ital. (t rai!e! >8 G7P a! ( ha$e e)%lained and that i! good for the >8. (n the $ery long run, howe$er, one #an ma*e a #a!e that thi! tran!fer of te#hnology might be bad for the >8 although it i! not ne#e!!arily !o. o ma*e the #a!e, the tran!fer may

enable China to im%ro$e it! te#hnology in the future to a %oint when it will o$erta*e the >8 in the indu!trie! in whi#h the >8 now ha! mono%oly %ower. o illu!trate, when the Ia%ane!e too* o$er mu#h of the mono%oly %ower of the >8 automobile indu!try in the &950! and &940!, the >8 lo!t i! #om%arati$e ad$antage in %rodu#ing automobile!. Ane #an argue that the tran!fer of te#hnology in %rodu#ing automobile! from the >8 to Ia%an wa! bad for the >8. 8ee 8amuel!on (300=) whi#h ma*e! the !im%le %oint that when there i! te#hnologi#al #hange that im%ro$e! the te#hnology of #ountry & (China) in the %rodu#tion of good & in a two0good e#onomy, the welfare of #ountry 3 (>nited 8tate!) may de#rea!e if it #an no longer !%e#iali+e in %rodu#ing good & and doe! not engage in trade with China. hi! abo$e argument that the >8 may lo!e e#onomi#ally by tran!ferring te#hnology to China i! different from the fear of military threat from China after it a#quire! the te#hnology. he fear of military threat #an @u!tify re!tri#ting the tran!fer of military te#hnology to China. ( %er!onally belie$e that the Chine!e go$ernment ha! no de!ire for military e)%an!ion but many 6meri#an! ha$e an o%%o!ite $iew. hi! i! not an i!!ue that #an be !ettled by further di!#u!!ion in thi! e!!ay. %. &igration o# 'eople ;ourth, about the mo$ement of %eo%le. he Chine!e ha$e mo$ed to many %art! of the world to find @ob!, to !ettle down or to get edu#ated. hey ha$e #ontributed to the #ountrie! where they ha$e !ettled or are $i!iting. he out migration of Chine!e ha! been #on!idered a %roblem for China e!%e#ially when the emigrant! are edu#ated or ha$e !*ill!. he %roblem i! #alled brain drain. hi! %roblem wa! #on!idered an i!!ue mu#h di!#u!!ed in aiwan in the &9'0! but i! not #on!idered a !eriou! %roblem in China today. ( do not #on!ider it a %roblem for China. B$en when the o$er!ea! Chine!e li$e abroad, they are hel%ing China by !hort0term $i!it! a! le#turer!, trader! and ad$i!er!. <ore o$er!ea! Chine!e will return a! o%%ortunitie! im%ro$e in China a! the number returning ha! #ontinued to in#rea!e in re#ent year!. Peo%le mo$ing to li$e and wor* in China ha$e benefited China al!o. hey !how the Chine!e how to im%ro$e their life !tyle by li$ing in other way! if de!ired and may hel% im%ro$e the legal !y!tem and legal beha$ior of the Chine!e %eo%le. 2ere again the free mo$ement of %eo%le ha! more benefit! to the mo$er!, to their home #ountrie! and to the ho!t #ountrie! than %o!!ible harm. 8ima :ian"! !tatement /8o #hea% good! will go where they will fet#h more, while e)%en!i$e good! will ma*e men !ear#h for #hea% one!1 a%%lie! not only to the free flow of good!, but of #a%ital and %eo%le a! well. (n China"! e#onomi# globali+ation there i! one a!%e#t of the mo$ement of %eo%le whi#h i! $ery im%ortant and unique and i! inde%endent of foreign in$e!tment and foreign trade. hi! i! the mo$ement of o$er!ea! Chine!e all around the world who are edu#ated and e)%erien#ed in their %rofe!!ion and are willing to return to China to gi$e le#ture! and ad$i#e in the %ro#e!! of reform and de$elo%ment. hi! i! an im%ortant #om%onent of the human #a%ital #ontributing to China"! e#onomi# de$elo%ment. (t i! unique to China in term! of the number of o$er!ea! %eo%le in$ol$ed and their willingne!! to hel%, although (!rael ha! had a !imilar e)%erien#e a! well. he #ontra!t with the #a!e of 9u!!ia"!

'

e#onomi# reform and de$elo%ment i! !ti#*ing. 2ere the o%en0door %oli#y ha! wor*ed again. Concl!sion( 6fter e)amining the fa#t! of globali+ation for China we #an all re#ogni+e that the o%en0 door %oli#y fir!t ad$an#ed by -eng .io%ing when China had a $ery different ideology ha! been a great !u##e!! in hel%ing to moderni+e China. he dream of the Chine!e %eo%le for o$er one hundred !i)ty year! !in#e the A%ium Car of &8=0 to moderni+e China ha! been finally reali+ed. 6 main #ontribution to the moderni+ation %ro#e!! i! the o%en0door %oli#y whi#h allow! globali+ation to ta*e %la#e. (n thi! e!!ay we ha$e !ur$eyed the four im%ortant a!%e#t! of globali+ation in China"! e#onomi# reform and de$elo%ment !in#e &9'8. >nder!tanding the nature and hi!tori#al de$elo%ment of China"! o%en0door %oli#y for the %ur%o!e of moderni+ation will enable u! to a%%re#iate the for#e! at wor* that will %ro%el China"! e#onomi# growth in the future and the role of China in the world e#onomi# #ommunity.

e#erences 6llen, ;ran*lin, Iun :ian and <ei@un :ian, /China"! ;inan#ial 9eformG Pa!t, Pre!ent and ;uture1 to a%%ear in Joren 5randt and homa! 9aw!*i, ed. Chinas Economic Transition: Origins, Mechanism, and Consequences. >ni$er!ity of Penn!yl$ania, Charton 8#hool, mimeo, 3005. Chow, Gregory C. Chinas Economic Transformation. A)fordG 5la#*well Publi!hing Com%any, 3003. Chow, Gregory C. Knowing China. 8inga%oreG Corld 8#ientifi# Publi!hing Com%any, 300=. Chow, Gregory C. /Corru%tion and B#onomi# 9eform in the Barly 3&!t Century,1 Prin#eton >ni$er!ity, -e%artment of B#onomi#!, mimeo, 3005 Gregory C Chow and Lan 8hen, /<oney, Pri#e Je$el and Aut%ut in the Chine!e <a#ro0 e#onomy.1 Prin#eton >ni$er!ity. Center for B#onomi# Poli#y 8tudie!, -i!#u!!ion Pa%er, 300=. Gregory C. Chow and Lan 8hen, /-emand for Bdu#ation in China.1 Prin#eton >ni$er!ity. Center for B#onomi# Poli#y 8tudie!, -i!#u!!ion Pa%er, 3005. 8amuel!on, Paul 6. /Chere 9i#ardo and <ill 9ebut and Confirm 6rgument! of <ain!tream B#onomi!t! 8u%%orting Globali+ation,1 Economic ers!ecti"es, &8G ? (8ummer, 300=), %%. &?50&=4.

)ppendix on &* reval!ation Exchanges bet+een on &c,innon and Gregor$ Cho+ Exchanges set 1 Frida$ -!l$ 2./ 2001 -ear 9on, ( ha%%en to di!agree with mu#h of your C8I arti#le and %ro$ide my #omment! below. 6ny rea#tion from you for my edu#ation and enlightenment would be mu#h a%%re#iated. 5e!t regard!, Gregory ;rom Call 8treet Iournal arti#le of Iuly 39 by <#Einnon with #omment! by Chow. An Iuly 3&, 3005, China again ga$e in to #on#erted foreign %re!!ure 00 !ome of it no doubt well intentioned 00 to gi$e u% the fi)ed e)#hange rate it had held and grown into o$er the #our!e of a de#ade. Congre!! had threatened to %a!! (and may !till do !o) a bill that would im%o!e an im%ort tariff of 3'.5M on Chine!e im%ort! unle!! the renminbi wa! a%%re#iated, and had %re!!ured the 5u!h admini!tration to retain ChinaN! legal !tatu! a! a F#entrally %lannedF e#onomy (de!%ite it! wide o%en #hara#ter) !o that other trade !an#tion! 00 !u#h a! anti0dum%ing dutie! 00 #ould be more ea!ily im%o!ed. 6 de#ade ago, when negotiation! o$er ChinaN! entry into the C A began, a raft of Call 8treet ban*!, in$e!tment ban*!, in!uran#e #om%anie!, and other finan#ial in!titution! !ub!equently %re!!ured the >.8. rea!ury to require China to loo!en it! #a%ital #ontrol! and gradually %ermit the entry of foreign firm! into ChinaN! dome!ti# finan#ial mar*et! 00 e$en though the!e finan#ial #ondition! were not required of other C A member #ountrie!. China i! #om%lying with the!e term!, a! well a! eliminating tariff! and quota! on im%ort! beyond what wa! required by the C A agreement. Chile (un#ertain) #urren#y a%%re#iation or the %remature di!mantling of #a%ital #ontrol! on #urren#y inflow! and outflow! are not a! malign a! an o%ium %lague, the danger to ChinaN! heretofore robu!t e#onomi# growth and great !u##e!! in lifting large number! of %eo%le out of ab@e#t %o$erty !hould not be undere!timated. ChowG here i! no !ub!tantial #au!al relation between China"! growth and a fi)ed e)#hange rate. 7ote that China"! e)#hange rate $. the dollar wa! #hanged !e$eral time! during thi! growth %eriod. (6)

&0

5y holding the e)#hange rate of 8.38 Luan to the dollar #on!tant for almo!t &0 year!, and building monetary %oli#y around thi! an#hor, ChinaN! rate of inflation in it! CP( ha! #on$erged to that in the >.8., at a low le$el of about 3M %er year. ChowG 2ere al!o, China had low inflation not be#au!e of the fi)ed e)#hange rate but be#au!e of the re!tri#ti$e monetary %oli#y of Hhu 9ong@i (low rate of growth of money !u%%ly) from &994 to 3003. (5) (n %art be#au!e other Ba!t 6!ian #ountrie! (e)#e%t Ia%an) were al!o more or le!! %egged to the dollar in a region where almo!t all trade i! in$oi#ed in dollar!, the fi)ed dollar e)#hange rate wa! a $ery !u##e!!ful an#hor for ChinaN! monetary %oli#y. hi! #olle#ti$e dollar %egging within Ba!t 6!ia al!o en!ured e)#hange !tability and %ri#e0le$el alignment, whi#h allowed regional trade and in$e!tment to grow ra%idly and effi#iently. >nder the fi)ed rate, ChinaN! own high G-P and %rodu#ti$ity growth were %arti#ularly im%re!!i$e. ChowG 7o #au!al effe#t between the fi)ed e)#hange rate and G-P in the Chine!e #a!e, although for !ome de$elo%ing #ountrie! whi#h #ould not im%o!e monetary di!#i%line a fi)ed e)#hange rate i! good in for#ing them to do !o. (C) 2owe$er, on Iuly 3&, the renminbi wa! a%%re#iated by 3M 00 a !mall amount in and of it!elf 00 while a narrow band of 0.?M on either !ide wa! maintained. <ore im%ortant wa! the im%li#it announ#ement that the old F%arityF rate of 8.38 Luan %er dollar wa! being abandoned, but there wa! no #lear !tatement of how the hea$ily managed float would e$ol$e. 7ow that the future e)#hange rate ha! be#ome un#ertain, e)e#uting monetary and foreign e)#hange %oli#y in China will be mu#h more diffi#ult. ( ha$e fi$e negati$e #omment! on the new %oli#yG (&) Cith the fi)ed e)#hange rate now unhinged, the Peo%leN! 5an* of China (P5C) will ha$e to #ome u% with a new an#hor or rule that go$ern! monetary %oli#y. 7one wa! announ#ed when the P5C let the e)#hange rate go. Cill the P5C in!titute an internal inflation targetK Chat will be the finan#ial in!trument! it u!e! to a#hie$e thi! targetK ChowG (f the %eo%le"! ban* wat#he! out for the growth of money !u%%ly why would it need a new an#horK (-) (3) 5e#au!e ChinaN! inflation rate had #on$erged to the 6meri#an le$el (or !lightly le!!), any !ub!tantial !u!tained a%%re#iation of the 9<5 (the 6meri#an! want 30M to 35M) will dri$e China into deflation 00 %re#eded by a !lowdown in e)%ort!, dome!ti# in$e!tment, and G-P growth more generally. ChowG 8ub!tantial a%%re#iation of the 9<5 will ha$e an o%%o!ite effe#tG if we belie$e that ra%id growth in money !u%%ly will #au!e inflation, then a%%re#iation of the 9<5 will redu#e trade !ur%lu! and the inflow for foreign re!er$e! whi#h ha$e been turned into 9<5 to #au!e inflation in 300=05. 6%%re#iation of 9<5 will redu#e inflation. (;)

&&

(?) (f the P5C allow! only !mall a%%re#iation! (a! with the 3M a%%re#iation announ#ed on Iuly 3&) with the threat of more a%%re#iation! to follow, then hot money inflow! will a##elerate. (f China attem%t! further finan#ial liberali+ation !u#h a! intere!t rate de#ontrol, o%en mar*et intere!t rate! in China will be for#ed toward +ero a! arbitrageur! bet on a higher future $alue of the 9<5. China i! already $ery #lo!e to falling into a +ero0intere!t liquidity tra% mu#h li*e Ia%anN! 00 the !hort0term interban* rate in 8hanghai ha! fallen toward &M. (n a +ero0intere!t liquidity tra%, the P5C (li*e the 5an* of Ia%an before it) would be#ome hel%le!! to #ombat deflationary %re!!ure. ChowG ( agree with the !%e#ulati$e inflow of hot money due to !mall in#rea!e! in the e)#hange rate, but the !olution i! to #hange the e)#hange rate by one big !te%, a! #hina did in the &980! u% to the mid0&990!. (G) (=) 6ny a%%re#iation!, whether large and di!#rete or !mall and !te%0by0!te%, will ha$e no %redi#table effe#t on ChinaN! trade !ur%lu!. he !lowdown in e#onomi# growth will redu#e ChinaN! demand for im%ort! e$en a! e)%ort! fall !o that the effe#t on it! net trade balan#e i! indeterminate. ChowG 9on, ( mu!t ha$e failed my e#on &0& on foreign trade. ( thought that in#rea!ing the $alue of 9<5 will ma*e Chine!e good! more e)%en!i$e abroad and foreign good! #hea%er in #hina, both tending to redu#e #hina"! trade !ur%lu!. Af #our!e the abo$e de%end! on ela!ti#itie! of demand for im%ort! of Chine!e good! abroad and of demand for foreign good! in #hina. 8in#e there are !ub!titute! the ela!ti#itie! tend to be high. (2) (5) 5e#au!e the effe#t of a%%re#iation! on ChinaN! trade !ur%lu! will be ambiguou!, 6meri#an %rote#tioni!t! will #ome ba#* again and again to #om%lain that any a%%re#iation i! not big enough. 8o abandoning the FtraditionalF rate of 8.38 yuan %er dollar will, at be!t, re!ult in only a tem%orary rela)ation of foreign %re!!ure on China. ChowG hi! %oint might be $alidO PPP Je!t you thin* that my a!!e!!ment of ChinaN! new %oli#y i! too negati$e, #om%are it to the e)%erien#e of Ia%an two de#ade! ago and earlier. ;rom the &980! into the mid &990!, Ia%an0ba!hing wa! in $ogue in the >.8., mu#h a! China0ba!hing i! in $ogue today. 5a#* then, Ia%an had the bigge!t bilateral trade !ur%lu! with the >.8. and wa! #ontinually threatened (more by the Congre!! than the %re!ident) with trade !an#tion! unle!! there were tem%orary F$oluntaryF e)%ort re!traint! on %arti#ular e)%ort!, and the yen be allowed to a%%re#iate. (ndeed, the yen a%%re#iated e%i!odi#ally all the way from ?40 to the dollar in &9'& to tou#h 80 to the dollar in 6%ril &995. hi! unhinged the Ia%ane!e finan#ial !y!tem (the bubble e#onomy of the late &980!) and e$entually re!ulted in Ia%anN! unrelenting deflationary !lum% of the &990! 00 it! Flo!tF de#ade. Ia%an ha! yet to re#o$er fully and remain! today in a +ero0intere!t liquidity tra%, whi#h %re$ent! the 5an* of Ia%an from reigniting e#onomi# growth. 6nd Ia%anN! trade !ur%lu! a! a !hare of G7P ha! not been redu#ed in any ob$iou! way.

&3

ChowG ( do not *now the #a!e of Ia%an well enough to #omment, but ( will not ea!ily a##e%t the inter%retation that the !lowdown of the Ia%ane!e e#onomy !in#e &99& i! due to a fle)ible e)#hange rate. 6ny one ma*ing !u#h a !tatement ha! to do#ument it #arefully rather than @u!t !tating it. Perha%! you ha$e written e)ten!i$ely on thi! but the abo$e !tatement /thi! unhinged the Ia%ane!e finan#ial !y!tem1 alone ha! not #on$in#ed me. han*! in large %art to %re!!ure from our lawma*er! in Ca!hington, China i! now in a nebulou! no manN! land regarding it! monetary and e)#hange rate %oli#ie!. (n!tead of #lear guideline! with a well0defined monetary an#hor, it! ma#ro e#onomi# de#i!ion0 ma*ing will be ad ho# and anybodyN! gue!! 00 a! wa! (and !till i!) true for Ia%an. ChowG Lou may re#all that ( wa! one of the !e$eral e#onomi!t! who %ro%o!ed a fle)ible e)#hange rate in aiwan. 6fter the aiwan go$ernment ado%ted the fle)ible e)#hange rate !y!tem the aiwan e#onomy #ontinued to growth for a long %eriod until the growth i! now !omewhat !lower for other rea!on!. Mr. McKinnon, a !rofessor of economics at #tanford, is the author, most recentl$, of %E&change Rates under the East 'sian (ollar #tandard: )i"ing with Conflicted *irtue% +M,T ress, -../0. Exchanges set 2 &onda$ )!g!st 1. -ear GregoryG 5e#au!e you are the truly the -ean of e#onomi!t! !tudying China, ( am honored that you too* the time to read my 1#2 and rebut it !o #arefully. he main differen#e between u! i! that ( am a monetary e#onomi!t who belie$e! that, in an o%en e#onomy, the e)#hange rate i! @u!t the e)%re!!ion of #urrent or intended future monetary %oli#ie!. 5ut you are more in the main!tream in not ta*ing thi! $iew. ( mar*ed your main %oint! in #a%ital letter! below, and am re%lying to ea#h one. (6), (5), and (C)G (n ChinaN! growth %eriod of the &980!, it wa! not a truly o%en e#onomy. 8tate trading #om%anie! for im%ort! and e)%ort! in!ulated dome!ti# relati$e %ri#e! from foreign00and of #our!e e)#hange #ontrol! on both #urrent and #a%ital a##ount %redominated. hu! the Chine!e authoritie! #ould #hange (de%re#iate) the offi#ial e)#hange rate (a! they did !e$eral time!) without ha$ing mu#h effe#t on the dome!ti# %ri#e le$el and monetary %oli#y or growth rate!. 2owe$er, by &99=, the e#onomy had mu#h more o%en with the unifi#ation of the !%ot and !wa% foreign e)#hange mar*et! and $irtually a##e%ting #urrent a##ount #on$ertibility. he e)#hange rate made a big differen#e to the dome!ti# %ri#e %ri#e le$el, QChowG a que!tionable %ro%o!ition, !ee belowR and the o$er de$aluation of the renminbi in &99= when the offi#ial e)#hange rate and !wa% rate! were unified at 8.' Luan/dollar (the offi#ial rate mo$ed from 5.5 to 8.') greatly aggra$ated the inflation that had begun in

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&99? and #ontinued through &995. ChowG al!o que!tionable0 !ee below. (n my $iew (!ee /<oney, Pri#e Je$el and Aut%ut in the Chine!e <a#ro0e#onomy1 in the /do#ument download!1 !e#tion of www.%rin#eton.edu/Sg#how and !e#tion '.? of Chinas Economic Transformation) a ma@or fa#tor affe#ting the inflation rate in China i! the rate of growth in money !u%%ly, <0, <& or <3. (n %arti#ular the inflation in &99?05 #an be e)%lained the ra%id growth of #urren#y in #ir#ulation, ?&'.9, =??.4, 584.5, and '38.8 (billion) at the end of &99&, 93, 9? and 9= re!%e#ti$ely (!ee %. &30 of Chinas Economic Transformation). hi! ha%%ened e!!entially before the #hange in the e)#hange rate !y!tem in &99=. Ce di!agree on the role of the e)#hange rate, a! #om%ared with the rate of growth of money !u%%ly, on inflation. ( ha$e do#umented my $iew about the im%ortan#e of the rate of growth of money !u%%ly in the abo$e two referen#e!. 8ub!equently, the P5C hung on to 8.38 Luan %er dollar for &0 year! through both deflationary and inflationary %re!!ure until 8e%t 3&, 3005. 6nd in ChinaN! CP( %ri#e inflation in 3005, when the e#onomy ha! be#ome $ery o%en, ha! #on$erged to being !lightly le!! than that in the >nited 8tate!. ( am not #laiming that the e)#hange rate by it!elf an#hored ChinaN! %ri#e le$el. 9ather the go$ernmentN! u!e of !ome dire#t #ontrol! on in$e!tment, !terili+ation o%eration!, and !o on, were effe#ti$ely guided by the e)#hange rate target. Af #our!e monetary #um e)#hange rate %oli#y by it!elf affe#t! mainly the rate of %ri#e inflation rather than the real rate of growth. 2owe$er, ( might note in %a!!ing that e#onomyN! rate of growth wa! more errati# from &980 to &99500with !eriou! inflation! in &988089 and again in &99?095. 8in#e then, under the fi)ed e)#hange rate regime, growth ha! been $ery high, !moother , and without any !ignifi#ant inflationary outbur!t! . ChowG here i! a !hort !e#tion on /6 brief monetary hi!tory of China1 in /<oney, Pri#e Je$el and Aut%ut T1 to e)%lain the hi!tori#al fa#t! in your la!t two %aragra%h! without re!ort to the e)#hange rate. (-) and (;). he rate of growth of the money !u%%ly a! a target for monetary %oli#y in the !en!e of <ilton ;riedman i! @u!t a non !tarter in a high growth de$elo%ing #ountry !u#h a! China. ChowG 7o where do ( e)%re!! agreement to the ;riedman"! $iew%oint of targeting money !u%%ly. ( do agree with the ;riedman"! em%iri#al %ro%o!ition (%ointed out to me by 5en 5ernan*e who al!o agree!) that an e)ogenou! #hange in money !u%%ly will in#rea!e out%ut !oon after but the effe#t will !oon $ani!h and will rai!e %ri#e! with a longer delay but the effe#t i! longer la!ting. o the e)tent that an under$alued 9<5 lead! to more inflow of foreign e)#hange re!er$e! (now of '00 billion dollar!, with an in#rea!e of about 300 billion @u!t in 300= alone) whi#h are #on$erted to 9<5, thu! rai!ing the rate of in#rea!e in money !u%%ly, the under$aluation i! inflationary.

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he ra%id rate of finan#ial tran!formation and $ery high !a$ing mean! that all monetary aggregate! tend to grow e)%lo!i$ely. ;or e)am%le, from &995 to 300? narrow money in China grew o$er &' %er#ent %er year (8ee able 3 of atta#hed %a%er, FB)#hange 9ate or Cage Change! in (nternational 6d@u!tmentKF) and the broader aggregate! grew e$en fa!ter. ChowG &' %er#ent i! not high for China for %ri#e !tability from the $iew%oint of the demand for money ha$ing an in#ome ela!ti#ity o$er unity. -emand for money a! the Chine!e e#onomy grow! in#rea!e! at a higher rate than G-P. he inflationary %eriod! were tho!e in whi#h the rate of growth of money !u%%ly e)#eeded 350?0 %er#ent !ee table on %. &30 of China"! B#on ran!formation. he monetary authority #annot !im%ly Fwat#hF the money !u%%ly and de#ide whether money growth i! too fa!t or !low. 9ather, it i! better to treat growth in monetary aggregate! a! endogenou! (not #au!al), and loo* for !ome other an#hor to guide tightening or ea!ing monetary %oli#y. 6nd for China o$er the %a!t &0 year!, the e)#hange rate ha! been the mo!t #on$enient one, but now !in#e Iuly 3&, it might ha$e to mo$e to dome!ti# inflation targeting. ChowG (n China, mu#h of the growth of money !u%%ly (again !ee the abo$e #ited !e#tion of /6 brief monetary hi!tory of China1 ) wa! due to go$ernment %oli#y, though not intended to #ontrol inflation. ;or e)am%le, #urren#y in #ir#ulation in#rea!ed by 50 %er#ent in one year &98= be#au!e of reform of the ban*ing !y!tem when ban*! were gi$en freedom to e)tend #redit! in way! not allowed before. 9a%id in#rea!e! of money !u%%ly in &99?0= wa! the re!ult of the ban*! loo!ing #redit in re!%on!e to -eng"! #all in hi! famou! !%ee#h in 8hen+hen in &993 for further o%ening and ra%id de$elo%ment. he !u##e!! of Hhu 9ong@i in #ontrolling inflation !in#e the mid &990 wa! by #ontrolling ban* #redit and money !u%%ly u!ing admini!trati$e mean! im%o!ing quota! to ban*! in ea#h %ro$in#e. ( am not ad$o#ating monetary targeting, but am %ointing out that monetary aggregate i! one of the $ariable! that we !hould wat#h out for, in#luding it! ra%id ri!e re!ulting from %eo%le #on$erting dollar! to 9<5. G. 5e#au!e ChinaN! CP( inflation i! now le!! than 6meri#an at around 3 %er#ent %er year, and $irtually all good! traded in Ba!t 6!ia are dollar in$oi#ed, a large a%%re#iation of the 9<5 will dri$e China into a#tual deflation. ChowG 6 large a%%re#iation will redu#e the growth of money a! #om%ared with no a%%re#iation. 6#tual deflation will de%end on the growth of money it!elf whi#h de%end! on other fa#tor! a well, !u#h a! tho!e mentioned in the la!t %aragra%h. 2. GregG ( am !ure you did $ery well in B#on &0&. 5ut you learned the wrong model for a!!e!!ing what would ha%%en to the trade balan#e of a #reditor #ountry for#ed into a%%re#iation. 8ee my new boo* (li!ted below) with !%e#ial referen#e to the %roblem of F#onfli#ted $irtueF. 6l!o ( atta#h another !hort %a%er #alled F ra%%ed by the (nternational -ollar 8tandardF.

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(. ;inally, ( ha$e written a boo*, (ollar and 3en: Resol"ing Economic Conflict 4etween the 5nited #tates on the Ia%an (with Eeni#hi Ahno, <( Pre!! &99') !howing how the !yndrome of the e$er high yen from &9'& to &995 dro$e Ia%an into the great deflationary !lum% and +ero intere!t liquidity tra% of the &990!. Ia%anN! %roblem i! al!o #o$ered in my new 3005 <( boo* in #ha%ter! ? and =, with China being #o$ered in Cha%ter 5. ( agree with you that aiwan i! too !%e#ial to di!#u!!. B)#hange fle)ibility it!elf i! not ne#e!!arily bad, the %roblem i! e)#e!!i$e and ongoing a%%re#iation!. 9<#E 9onG ( am following u% your email and wel#ome further e)#hange! on my #omment! abo$e. ;urther #omment! will ha$e to await my reading of your two boo*! about Ia%an. 5e!t, Gregory Comment! of Profe!!or . on the <a#Einnon0Chow e)#hange!, 6ug 3 Gregory, han*!. (t !eem! to me that you got the better of thi! e)#hange. though.

wo %oint!,

&. An your #omment on 9onN! %oint =, you !eem to tal* about a %artial deri$ati$e of e)#hange rate on trade balan#e, while he i! thin*ing of !ome more aggregate effe#t. 2e #ome! ba#* to thi! in hi! %oint 2, where he fo#u!e! on the #a%ital lo!! on >8 -ollar a!!et! from China a%%re#iation. 3. ( did not !ee any di!agreement on hi! %oint 3. 2e !ay! !u!tained a%%re#iation of 9<5 will lead to deflation in ChinaD you !ay redu#ed inflation. -ear ., han*! for the two %oint!. &. Con#erning %artial deri$ati$e $. aggregate effe#t, what doe! it mean by #a%ital lo!! on >8 dollar! a!!et!K he >8 dollar! #an !till by the !ame (or almo!t the !ame) amount of >8 a!!et! in the >8 or in the world e)#e%t in China, a%%ro)imately !%ea*ing, e$en if a%%re#iation i! of a higher %er#entage than 3 %er#ent. -oe! ChinaN! a%%re#iation of the 9<5 ma*e my holding of >8 a!!et! le!! $aluable or ma*e me %oorerK 3. An the %oint about deflation being the !ame a! le!! inflation, there i! main differen#e. <y $iew i! that if China doe! not a%%re#iate there will be inflation and o$erheating. 2en#e China !hould a%%re#iate. <a#EinnonN! %oint i! that China !hould not a%%re#iate be#au!e doing !o will lead to !eriou! deflation whi#h i! bad for the Chine!e e#onomy. 6m ( rightK

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Gregory Bnd of a%%endi) on the <a#Einnon0Chow e)#hange! on re$aluation of the 9<5.

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