Wang Anyu, Peng Yiyun, Wu Yueze, Yuqiyao

Case Study Report

Chinas Macroeconomic Policies
INTRODUCTION
The Chinese economy experienced astonishing growth in the last few decades that
catapulted the country to become the world's second largest economy. In 1978when China
started the program of economic reformsthe country ranked ninth in nominal gross
domestic product (GDP) with USD 214 billion; 37 years later it jumped up to second place
with a nominal GDP of USD 9.2 trillion. However, since recording its last double-digit
growth (10.4%) in 2010, the Chinese economy has effectively decelerated 30% in five years.
In the last two years, growth deceleration moderated largely due to a variety of stimulus
measures - The Peoples Bank of China cut interest rates and reserve requirements to make
more credit available, and financial deleveragingreducing the growth of debthas been
put on hold. Without such policy support, Chinas GDP growth would have fallen further.
In this report, we aim to account for such economic slow down and identify out the
main macroeconomic problems. Analysis on the policies implemented will be conducted,
along with proposing alternative measures to resolve these problems.

ABSTRACT
Apart from looking at the background informations, we will also focus on the collapse of
the stock market in China, the unemployment rate in both main cities and countryside, and
the fluctuation in exchange rate and balance of payment. In order to obtain a thorough
understanding of the respective issues, we will firstly address the formation of the problem,
followed by the evaluation of current policies and finally, solutions and suggestions to
overcome the shortcomings of existing policies.

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LITERATURE REVIEW
Unemployment in China
Wu Yueze1

This Youth Unemployment in China: a crisis in the making article is done by Terence
Tse, an Associate Professor in Finance at ESCP Europe Business School in London. This
shows his specialization in the field of economics, and thus we can assume that this paper is
reliable and is an informative piece of work. This article aim to discuss about the
unemployment issue in China, and the various reasons that caused such problem.
Firstly, the article inferred data from the Ministry of Human Resources of China and
China Household Finance Survey to arrive at the actual unemployment rate in China. After
addressing this, the writer raised the issue about the inverse correlation between educational
attainment and ease of finding a job, and believes that this is structural unemployment, where
there is a mismatch of skills between the employees and the employers.
This is exactly true for China. In the past decades, China aimed at boosting in
economic growth through expanding its manufacturing sectors, which weighs more than 48%
of the total economy. This has limited the number of high leveled jobs, which is unable to
satisfy the large group of unemployed graduates. These graduates are unable to switch to
other low paid jobs as the expected return will be much lower. Thus, they would remain
unemployed and seek for higher paid jobs.
An economy with unemployment is not producing to its maximum capacity and results
in the actual amount of goods and services produced in the economy being less than its
potential output.,as an unemployed has no income and security,which means a lower standard
of living. Also, unemployment is linked to a lower level of social stability in the economy in
terms of higher incidence of domestic violence and crime.
In overall, it is important for us to look at the problem of unemployment, as it is a
crucial problem which affects everyone in the society. In the content of China, Chinas
unemployment is mainly caused by the economic structure which does not provide enough
white collar jobs to graduates. Thus, just as what the author said, China need to move quickly
to reform its economic foundations, and improve in industries in professional service sectors

Article:http://www.cnbc.com/2014/02/20/youth-unemployment-in-china-a-crisis-in-the-making.html

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to meet the demand of the unemployed graduates. Else, it will lead to social discontent and
unrest in society.

Literature Review on Chinas Stock Market

Wang Anyu

The Chinese stock market crash began with the popping of the stock market bubble on
12 June 2015. A third of the value of A-shares on the Shanghai Stock Exchange was lost
within one month of the event. Major after shocks occurred around July 27 and August 24's
"Black Monday.
In the year leading up to the crash, encouraged by state-owned media, enthusiastic
individual investors inflated the stock market bubble through mass amounts of investments in
stocks often using borrowed money, exceeding the rate of economic growth and profits of the
companies they were investing in. Investors faced margin calls on their stocks and many were
forced to sell off shares in droves, precipitating the crash.
By 89 July 2015, the Shanghai stock market had fallen 30 percent over three weeks as
1,400 companies, or more than half listed, filed for a trading halt in an attempt to prevent
further losses. Values of Chinese stock markets continued to drop despite efforts by the
government to reduce the fall. After three stable weeks the Shanghai index fell again on 27
July by 8.5 percent, marking the largest fall since 2007.
In response to the crisis, the Central Bank lowered both theinterest rate and depositreserve ratio, meanwhile conducting open market operations to improve liquidity and control
the damage.
After three months of massive government intervention to halt diving stocks, the stock
market correction has left the Shanghai Composite nearly 40 per cent below its June high.In
the days since, the Shanghai Composite has barely moved, rising 1.2 per cent this week.
Having tumbled from a peak of 5,100 points in mid-June, the index seems to have found a
new equilibrium just above 3,000 points since the last week of August.
Even if China has succeeded in putting a floor under share prices, it has done so at
great expense. The government itself has deployed as much as 1.5 trillion yuan to support the
stock market in the past three months, according to estimates from Goldman Sachs.
Besides, the government is still supporting the market at a relatively high level. From 21
November last year, the Central Bank has been establishing policies to lower the interest rate.
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There was an increasing amount of investment flowing into the stock market. High leverage
became the primary pushing force for the boosting stock market. This would also cost a
severe downturn when the the forth is cleared.
After the stock market plunge, the government immediately lowered the barrier of
margin trading and short selling2, whichrefers to the activities where investors borrow (with
collaterals) from qualified companies money (margin trading) to trade orborrow their stock to
trade directly (short selling). The easing of requirement to conduct such activity and the
lowering of trading feewouldgreatly encourage investment. However it appears to me that
this policy is not feasible in the long term due to the following considerations.
Firstly, the ceiling of borrowed leverage is 40,000 billion yuan, double of the previous
20,000 yuan ceiling.Systemicrisk becomes greater. Tracing back the history, in 24 September
of 1988, the Treasury department of Taiwan declared stamp duty on buying shares, followed
by a sever plunge of the stock market. TillJanuary the market loss wasup to45 percent in
total. Tostabilizethe market, the government canceled the stamp duty and issued similar
shorting policy to lift up the ceiling. InFebruarythe stock price showedsignificant increment
andestablished the highest peek in record. Since then, the Taiwan stock market index kept
falling from 12000 points to 2000 points in the following 7 months.
TheChinese government also allowed companies to set their own stop-loss limit. The
limitindicates an amount of money that a portfolios single-period market loss should not
exceed. Despite stimulating the market in short term, investors are not protected by the
damage control system. The benefit it carries cannot compensate for the risk.
The above analysis indicate the lack of insight in Chinas response policy to the stock
market crisis. The stock marketcrisis amidst several quantitive easing policies, some listed
above, would change in liquidity demanded throughout the economy, where there will be a
large decrease in demand for assets with low liquidity, leading to large decrease in its price.
Meanwhile the increase in demand for assets with high liquidity will pull up its price. For
banks, the value of liabilities tied up in low liquidity assets drops and the bank equity also
declines. In turn, to bolster balance sheets, banks would sell assets, and reduce lending due the
the low liquidity and higher risk of loans. Through out the economy, the availability of funds
for assets with low liquidity decreases, with increase in investment in highly liquid assets.
Overall a decline of liquidity in the economy is observed. Ithas become harder for buyers
and sellers to transact without causing sharp price movements.
2! http://wiki.mbalib.com/wiki/

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In conclusion, the side-effect of central banks low interest rate and quantitative easing
policies is to reduce volatility, risk premia and trading volumes with it. Both make bond
markets more vulnerable to shocks, and could exacerbate future moves in spreads.

Literature Review on Stock Market Condition

Qiyao

The article has been discussing about the recent stock market crush happening in China
starting from August, 2015. The main focus is the effectiveness of the monetary polices
adopted to handle the crisis and their implications on China and global economy. The author
has also examined Chinas economy model, calling out an reform in financial sector.
The measures adopted by the government in this small crisis have mostly been
monetary policies to increase the liquidity in the financial market. The central bank has been
cutting interest rate and carrying out open market operations. More mandatory measures
such as forcing brokers to buy shares and prohibit stated-owned enterprises selling shares of a
certain list of anchor companies in various industries. Other than that, 260 billion RMB had
been lent to major brokerage firms via China Security Corporation. Although such
compulsory measures can temporarily prevent further plummeting of the stock price, the
author believes that they have actually negated Chinas previous effort in building a
transparent and less-controlled finance industry and will eventually reduce the liquidity in the
market.
By cutting interest rate, the government wanted to encourage both retail investors and
finance institutes to borrow more money from the bank and inject it into the stock market.
On average, the retail investors in China are relatively conservative about investing in equity
compare to properties. In China, stocks account for less than 15% of household financial
assets and in fact, just 5 to 10% of Chinese citizens are actually exposed to the stock market.
Thus, by encouraging more citizens into the market, the government actually bears a risk of
potential social instability. Since Chinas economy is still at a fluctuating stage, persuading
citizens to invest more in equities instead of properties will cause great discontent if people
lose more money due to the unpredictability of the stock market. Thus, blindly encouraging
investors into a potentially unstable market is not advisable without a reform of stock market
actually taking place.

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By limiting the transaction of stocks by large state-owned enterprises, billions of RMB

are excluded from the stock market and the liquidity of the market decreases. Ironically, the
government has also been trying to increase the liquidity by injecting money into the stock
market. Since the first measure has severely jeopardized the effectiveness of the second one,
the author concluded that those exceptional measures are not suitable in medium or long
term.
Although the stock market crash seems very dramatic this time, the effect on the real
economy is actually not as significant. Investors actually did not lose a lot of profits because
even after the plummet, current Shanghai Composite Index is still higher than that at the
same time of last year, when the stock market price started to soar and investors actively
entered the market. Moreover, the Chinese stock has been largely overpriced so the decrease
here may only brings the stock price to the reality level. Unlike the economic crisis brought by
the US in 2008, this stock market crash did not have prominent effect on the rest of the world
because Chinese stock market is relatively confined in mainland China with limited links to
the finance sectors in other countries. However, one important issue to take note is that the
instability that Chinese stock market has demonstrated has made investors realize that they
have indeed overestimated the economic outlook of China. Foreign investors may start to lose
confidence in the sustainable growth and withdraw part of their investment. This is essentially
a vicious cycle where the withdrawal of investment will in return decrease the AD in the
economy and result in a lower GDP or GDP growth rate. Lower growth rate will further
confirm investors belief that the economy is indeed slowing down and continue to withdraw.
Functioning as a opposite effect to accelerator, the long term consequences of this issue are
worrying if left unaddressed.
I agree with the author that in order to be a integral part of the world economy, the
government has to loosen their control over the market and let Chinese finance sector be
exposed to the rest of the world. However, such decisions also bear the risk that the
interdependence of the economic entities in the world will trigger a chain reaction similar to
what happened during the financial crisis in 2008. China has actually played an essential role
in helping the rest of the world to recovery from the post crisis recession because of its relative
independence from the US economy. The integration would thus imply less resistance to the

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fluctuation in the global economy and weaker ability to recover from a world wide financial
crisis.
I also agree that a major reform in Chinese economy is necessary in order to counteract
the slowdown. China should shift away from over-depending on export and towards higherend technologies. Private finance institutions can be introduced into the stock market to
reduce the control of China Security Corporation over the market and increase the
competitiveness. Other than that, in order to prevent future formation of stock market
bubbles, stricter regulations on stock transactions should be applied to prevent illegal boosting
of stock price by certain major shareholders.
In conclusion, a steadily growing economy is the prerequisite for a healthy stock market.
In order to achieve stability in the future, the Chinese government should reconsider the
economic model they are using and deftly adapt to the new situations in the world economy.

Literature Review on Exchange Rate

Yiyun

Over years, China has competing goals for exchange rates. On the domestic front, it
wants to help exporters with a cheaper currency, but it also wants to maintain a strong
currency to prevent capital outflows that may weaken the countrys economy further. On the
international side, China wants to avoid a trade war with the U.S., which it would have if it
severely weakened the currency. It also wants to boost international use of the yuan for
political purposes, as China asserts itself more strongly around the world. China desires a
stronger currency; however it faces inevitable challenges along the journey of striking a
balance.

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The chart shows that the overall real relative price of worldwide Chinese exports has
risen more than 50% in the past decade, with almost 40% of this increase in the past two
years. This has occurred because of the yuans appreciation against the dollar, the yuans
appreciation against the currencies of its other trading partners (as the dollar has
appreciated), and the higher rate of inflation in China than among its trading partners.
For the most part, China has wanted its currency to steadily rise against trade-weighted
partners, for political reasons and to keep capital from flowing out of China. Since the new
governmental leadership assumed office, the yuan real effective exchange rate has raised by
15%. However, to keep that appreciation gradual, as the dollar rockets upwards, it may have
to devalue a little to be more in line with trading partners currencies, which have lost value
relative to the U.S. dollar over the past decade. As a result, there is an imbalance on exchange
rate of yuan against other worlds major currencies. It shows that Chinas existing exchange
rate system is flawed, leading to a severe imbalance in Chinas Balance of Payments (BOP).
In the last two quarters of last year, an estimated $188 billion of capital left China. As a
result, the countrys foreign exchange reserves declined $150.0 billion during the period.
Moreover, the capital account deficit widened to $91.2 billion in Q4, the biggest shortfall
since 1998. And the situation could be even worse than these numbers indicate. Citibank
thinks capital outflows in the last three quarters of the year averaged $50 billion per month.
In conclusion, a cut in exchange rate will surely help boost the economy, as aggregate
demand increases due to more net exports. However, it would cause heavy capital outflows
that are devastating to the economy. Hence, the Chinese government needs to strike a balance
between having a strong currency or a fast-growing economy, which is crucial in the progress
of Chinas economic restructure.

Summary
China has competing goals for exchange rates. Domestically, it wants a cheaper
currency to help exports, but it also wants a strong currency to prevent capital outflows.
Internationally, it wants to boost international use of the yuan as China asserts itself more
strongly around the world. It faces inevitable challenges along the journey of striking a
balance. There is an imbalance on exchange rate of yuan against other worlds major
currencies. It shows that Chinas exchange rate system is flawed, leading to a severe
imbalance in Chinas Balance of Payments (BOP) and foreign exchange reserves. Therefore,
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it is urgent for the Chinese government to balance between having a strong currency or a fastgrowing economy, which is crucial in the progress of Chinas economic restructure.

MAIN REPORT
PART I: STOCK MARKET CRISIS
The issue is addressed because of the
important part it plays in the entire China
economy. The instability in the stock market
will affect the expectation and financial
decisions of foreign investors, which are
crucial to a country like China who is
experiencing an economy slowdown.

Background
According to official quarter financial report in 2015, Chinas economy has been
growing at a sustainable 7-8% over the past three years.(Figure. 1) External economic
entities suspect that the growth is largely contributed by government expenditure. Unaware
of such possibility, retail investors expecting steady growth invested heavily in the stock
market driven by the herd behaviour. The government has also encouraged the investors to
invest freely without over-concerning about the potential bubble through media3. Banks
followed up by loosening up credit to provide cheaper loans. In June, the total market value of
Chinas publicly traded stocks briefly surpassed $10 trillion, second only to the United States.
While macroeconomics indicators have impact on markets, market itself becomes some
kind of big casino where everybody is winning (when economy is on the rise), creating lots of
inefficent busiseneses that rely on high prices and high consumption levels that are already not
matching real situation in economy. The markets started to turn in late June. Investors are
3

The Peoples Daily

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afraid of share price drop due to the slowdown of the economy and started to sell the shares
to minimize the loss, which results in shares lost more than $3 trillion in a matter of weeks.
The burst of the stock market bubble has thus initiated the crash in July and August.

Effect
According to the wealth effect, autonomous consumption spending tends to move in
same direction as stock prices. When stock prices fall, autonomous consumption spending
falls. Changes in stock prices through the wealth effect cause both equilibrium GDP and price
level to move in same direction, aided by the multiplier effect.4
Price Level

Aggregate Expenditure

AS
AEhigher stock proces
AElower stock proces

P1
ADhigher stock prices

P2

ADlower stock prices

45
Y2
4

Y1

Real GDP

Y2

Y1

Real GDP

Figure.2 demonstrates the effect of lower stock prices on the economy.

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As a rule of thumb, a 100-point rise in Dow Jones China Total Market Index which
means a rise in stock prices in general causes household wealth to rise by about 500 billion
yuan. This rise in household wealth will increase autonomous consumption spending by
between 15b and 25b yuan.5
On the other side of the two-way relationship, Chinas economy also affects stock prices.
When real GDP rises and a typical expansion occurs, there will be higher profits and
stockholder optimism. As a response to the stock market crisis, the government of China has
established several expansionary policies to alleviate the downturn.

Policies
The Chinese governments major tool to interfere the economy is the Central Bank, also
known as Peoples Bank of China (PBOC). PBOC is second only to the Federal Reserve
System of the United States in terms of overall central bank assets. Its operational objectives
include promoting financial stability, maintaining the stability of the internal and external
value of the currency and fostering economic development.
Among all monetary policy tools, open market operations6 are the most important and
flexible tool of the Central Bank. The Central Bank can directly influence the amount of
reserves and the level of interbank call-loan market interest rates through such operations7.
Open market operation instruments include government securities, and negotiable
certificates of deposit (NCDs) issued by the Central Bank. The bank issue or sell those
instruments either on an outright basis or under repurchase agreements to mop up excess
liquidity. Conversely, it can purchase those securities to release funds into the market as loans
to individuals and businesses. Since more money is available for lending, the rates on these
loans became lower, which caused more borrowers to access cheaper capital. This easier
access to capital leads to greater investment and in turn stimulates the overall economy.

Economic research shows that marginal propensity to consume out of wealth is between 0.03 and 0.05.

buying and selling securities by the Central Bank for its own account in the open market

In response to the the stock market crisis, 5 billion yuan of funds was injected into the banking system in
August via open market operations.
7

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Interest rate
S1

Price
S2

ADstock

ir1

ir2

DD

ADstock

Amount of money

Output

Another monetary policy is the direct lowering of interest rate by the central bank to
stimulate investment and increase the expenditure. At a low point in the stock market,
investors may wish to buy in more shares. With lower cost of loans, they will tend to borrow
more from the bank and inject more money into the stock market, acting as a counterweight
to the plunging of the share price.
The Chinese government has encouraged investment by lowering required reserve
ratios (RRR)8 and thereby improve the ability of the banking system to extend credit or loans.
The Central Bank lowered RRR for all banks by 100 basis points to 18.5%, effective from 20
August. This policy is likely to have a significant effect on the economy due to the multiplier
effect. As the available loan increases, investors will invest more and consequently increases
the demand. This will in turn raise the stock market value and the companies will have more
fund to upgrade infrastructure and increase production efficiency. As a result, the final
increase in national income will be far larger than the increase in loan initially. Adjustment of
RRR is coupled with open market operations to lessen the impacts.
However, the damage control policies mentioned above are mostly short term policies.
Fundamentally, the shortcoming of the current system need to be identified and stock market
reform needs to be carried out. For example, replace the existing Daily-fluctuation-limit
mechanism with circuit-breaker mechanism. Daily-fluctuation-limit mechanism only confines
daily movement of securities prices but does not prohibit trading. This does not give the

The portion (expressed as a percent) of depositors' balances banks must have on hand as cash.

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investors enough time to reanalyze the information to make the rational choice. In the
contrary, trading halts measurement9 allows exchange officials to incorporate related
information into their trading-halt decision. This reconsideration will largely prevent drastic
panic selling and in return, reduce the risk of stock market crash. Other than that, stricter
internal rules of financial institutions should be applied to address credit risk concerns. Hence
the Central Bank should continue to monitor banks' management of real estate-associated
credit risk and the enforcement results of targeted macro-prudential measures, and undertake
appropriate policy actions to further ensure financial stability.

PART II: UNEMPLOYMENT

From the figures released by National Bureau of Statistics, Ministry of Human
Resources of China, despite fluctuation in the real GDP growth China has a relatively stable
unemployment rate of 4.1%10 .

!
Figure 1: Taken from National Bureau of Statistics, Ministry of Human Resources of China

circuit-breaker mechanism in the United States

4.1%: This official figure was calculated by only considering workers who redeemed their unemployment
benefits, which does not provide the full picture of the population. Migrant workers that did not register as a
local residence is unable to apply for unemployment benefits and they covered nearly 20% of Chinas entire
working population.
10

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However, the Household Finance survey11 provided a more reliable surveyed

unemployment rate of 8.1%. In comparison, the actual unemployment rate is estimated to be

7~10%.
Unemployment rate is able to indicate the health of the economy. Since China has a
large population base, such high unemployment rate reflects Chinas underlying economic
and social problem. China has been primarily focusing on expanding its manufacturing
industry due to its high return-to-cost ratio. Such industries requires much more hard labors
rather than white collars, thus they do not provide sufficient white collar jobs for the higher
educated graduates.This clearly reflects the structural unemployment China is facing,
resulting from a mismatch between skills possessed by the population, and the requirement of
jobs. The low average household income is partially caused by the large number of
unemployed labors, with graduates in majority, who rely on their family for living.
Since the consumption on non durable goods remains the same, but the household
income decreases, the household consumption on durable goods is reduced. Thus, the market
demand will encounter a downward shift, as shown below:

Consumption (C)

C1
Induced Consumption
(Durable goods)

C2

Autonomous Consumption
(Non-durable goods, basic necessities)
Y
2

Y
1

Income (Y)

When market demand decreases, fewer consumer goods are demanded and produced,
hence the fall in consumption is likely to have an adverse effect on entrepreneurs
11

by Texas A&M University and China Southwestern University of Finance and Economics

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expectations. In addition, the factor of income of the households is lower. Therefore, the rate
of economic growth is much slower. This situation that China has was exaggerated by the
stock market crash in August, which drives the public to overestimate the impact of recession,
and thus motivate people to save more, and cause the mps12 to increase.
China raised a few policies to lower the unemployment rate in China. In the eleventh
and twelfth Five Year Plan, the government decided to emphasizes on investment in
innovation sectors to increase domestic consumption. To provide more job opportunities for
graduates, China encourages foreign investments on high tech and environment protection
industries, by projects such as Sino-Singapore TianJin Eco-city (SSTEC) and Suzhou Industrial Park
(SIP), It does not only provides incentives for enterprises to set up and innovate, but also
aimed to create 45million more jobs to address the employment issue in the next few years.
The above policies are referred as supply side policies13. However, the effects of such
policies take a long time to be visualized. Chinas policies are more focused on solving the
problems in the long run, such as increasing the number of higher sector industries to provide
jobs for those unemployed graduates.

Price Level
AS1

AS2

P1

Y1

Y2 Real GDP

The marginal propensity to save (MPS) is the fraction of an increase in income that is not spent on an increase
in consumption. That is, the marginal propensity to save is the proportion of each additional dollar of
household income that is used for saving. It is the slope of the line plotting saving against income.
12

focus on increasing the aggregate supply or shifting the PPC outwards. This increases the long term
productive capacity and achieves potential growth.
13

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Thus, we believe that China should also aim at urban development in second and third
line cities, which are capable of providing large number of jobs in the future. Many second
and third line cities are having a net outflow of residents annually, as people expect to obtain
a higher achievement in first tier cities. For instance, in 2014, the numbers of new migrants
were more than 455,000 in Beijing, and 512,000 in Shanghai.Despite the large number of
vacant jobs in second and third tier cities, people are still more willing to move into first tier
cities and fight for the limited higher paid jobs, as the resources are more concentrated and
accessible.
The government should try to transform second tier cities into cities with different areas
of specialization. This will improve labour mobility, and will have a positive effect on labour
productivity as well as supply side performance. Also, cities will form a more efficient and
functional industry chain so that the problems like congestion, poor air quality, or insufficient
public services will eventually be solved.
Overall, to have more effective policies in regulating the unemployment rate, the
government should focus on urban development and delocalizing the concentrated industries
in megacities. By doing so, second tier cities will be able to attract labors with specific skills
and have their job vacancies filled up, hence solving the problem of unemployment
eventually.

PART III: EXCHANGE RATE

Another expansionary policy used by Chinas government is the adjustment of
exchange rate14. On 11 August, 2015, the People's Bank of China (PBOC) changed the
calculation method of yuan's daily trading band, and executed a one-time devaluation of
yuan by 1.9% against the U.S. dollar, which was the biggest one-day move since the yuan
officially de-pegged from the U.S. dollar in 2005. A daily midpoint for yuan was set, around
which the currency is allowed to trade within 2% change.
14

The exchange rate is the price of one countrys currency in terms of another countrys currency; the ratio at which two
currencies are traded for each other.

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Devaluation is a demand management policy used to promote growth and fulfil various
macroeconomic objectives. Described by the marshell-lenar condition, currency depreciation
leads to increase of the net exports, thus increasing AD. Devaluation of yuan is an
expansionary monetary policy which aims to alleviate the economic stagnation in China by
affecting balance of payments15. Exports contribute to an increase in autonomous
expenditures and cause the planned aggregate expenditure function to shift upward. Imports
affect the value of the multiplier. After imports are included, the aggregate expenditure
function rotates and equilibrium income decreases.16

Aggregate Expenditure

Aggregate Expenditure

AEhigher export

AElower import

AElower export

45
National Income

AEhigher import

45
National Income

After the Central Bank of China began the program of expansionary monetary policy
in response to the stock market plumge, the intrest rate decresed significantly. Chinas
financial and capital assets became less attractive as a result of their lower real rates of return.
Foreign companies reduced their positions in domestic bonds, real estate, stocks and other
assets. The financial account (or balance on capital account) will deteriorate as a result of
foreigners holding fewer domestic assets. Domestic investors will be more likely to invest
overseas in the pursuit of higher rates of return. According to official data released on
Monday, China's currency hoard declined by $93.9 billion in August. The reduction in
domestic investment by foreigners and the country's citizens decrease the demand for yuan
and increase the demand for the currency of foreign countries. The exchange rate of the

15

The balance of payments is the record of a countrys transactions in goods, services, and assets with the rest of the world;
also the record of a countrys sources (supply) and uses (demand) of foreign exchange.
16

Assuming Import (M) is a function of Income (Y).

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yuan thus tend to decline. As a consequence of yuans depreciation, onshore yuan trading
volume almost doubled in the 15 trading days following 11 August, compared to the previous
20 trading sessions and the year to date average.

With no government intervention, the financial account and the current account must
sum to zero. As the financial account declines, the current account will be expected to
improve by an equal amount. In other words, the balance of trade should improve. The
country's export will have become relatively cheaper and imports will be more expensive.

Other consequences include the deepening of factory-gate deflation, which is likely to

spillover to export prices across the world.

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A weaker yuan also means it's more expensive now for Chinese consumers to buy
overseas products. As a main luxury purchasing power, China would affect some countries
economy greatly if Chinese tourists cut back on their overseas spending.

Due to significant drop of currencies of many other countries against the US dollar, the
international market trend propels China to adjust the middle rate quotation mechanism of
the yuan exchange rate. The modification on exchange rate system not only makes the
exchange rate between yuan and dollar closer to the real value, but also narrows the gap
between yuan and other worlds major currencies. Hence China is not stirring up a currency
war, but promoting the global monetary market to a more rational stage.
However, the dramatic depreciation of yuan contradicts with Chinese governments will
of having a stronger yuan. A decreased exchange rate of yuan would enlarge the amount of
capital outflow as yuan becomes more valueless. More people would trade yuan for USD to
hold value, which would cause a large amount of capitals flowing out of China, hence
reducing Chinas foreign exchange reserves and further worsening its economy.
Given the fact that the U.S. dollar was already strong, this move caused an added
disadvantage to U.S. exports headed for China. This could potentially bring up a currency
war, considering many countries have already accused China of malicious currency
manipulation.

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China desires to internalize yuan to become a more common medium of exchange. For
this to happen, the yuan should move more in line with Asian currencies than be tied to the
U.S. dollar. The tie to the dollar has meant the yuan is overvalued in relation to its regional
trading partners. (This has been mentioned in the previous paragraph.) Some depreciation is
thus logical but this should have been done in a gradual and more flexible exchange rate
adjustment process over the past year rather than bundled into an unexpected adjustment
over a few days.
Alternatively, Chinese policymakers can try to stabilize their exchange rate through
actions other than direct intervention so that Chinas economy would be more marketoriented, and the government wouldnt be blamed for playing unfair so harshly. Imposing
more capital controls could potentially prevent more funds from leaving the country.
On the other hand, the government could open up financial markets to more regional
and international participants so that it can attract more investment and capital inflows into
the country. However, resilience of the Chinas economy would also be tested in how it
conducts itself within an increasingly dense network of trade obligations.

CONCLUSION
From the above analysis, it is evident that China is encountering macroeconomic
problems due to its unstable economic growth in the past decades. Stock market,
unemployment, and exchange rates are all essential elements in an economy. The collapse of
any of the three would severely affect the others, and have a significant effect on the whole
economy. Hence, we need to analyze them from a macroeconomic perspective, link all
problems together to find out the best solutions. China has already carried out various policies
to reduce the negative impacts brought by the problems to maintain a more stable economic
growth, which are shown to have sizable effects. However, the current measures are not
perfect and there exist areas which can be further improved. Thus, we proposed our measures
that are more focused and detailed. We hope that these suggested measures could enhance
the effectivenesss of the existing government policies, or potentially overcome more
challenges so as to secure a sustainable economy in the future.

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REFERENCES
Burdekin, R. (2008). China's monetary challenges past experiences and future prospects. New
York: Cambridge University Press.
Ba, Shusong, Qun Wang, 2009, The impact of the real effective exchange rate of RMB on
Chinas economy, Financial Issues Research, No.6, 2009.
Bordo, Michael D., 2003, Exchange Rate Regime Choice in Historic Perspective, NBER
Working Paper, NO.9654.
Chen, Langnan, Yun Chen, 2009, RMB exchange rate, asset prices and short term
international capital flows, Economic Management,No.1, 2009
Chinn, Menzie D. and Shang-jin Wei. 2009. A Faith-Based Initiative: Does a Flexible
Exchange Rate Regime Really Facilitate Current Account Adjustment. HKIMR Working Paper
N0. 12, Hong Kong Monetary Authority, Hong Kong.
Currency peace. (2015, February 21). Retrieved July 6, 2015.
China weakens yuan amid economic and reform boost. (n.d.). Retrieved August 9, 2015.
Kiyotaki, Nobuhiro, and John Moore, 2001, Liquidity, Business Cycles and Monetary
Policy, Mimeo. London School of Economics.
Pissarides, Christopher A. 1992. Loss of Skill During Unemployment and the Persistence of
Employment Shocks. Quarterly Journal of Economics 107:13711391.
Wang, Ashley W., 2003, Institutional Equity Flows, Liquidity Risk and Asset Pricing,
Mimeo. University of California, Los Angeles.

INDIVIDUAL REFLECTION
Anyu
In the course of doing this project I have benefitted a lot.I have received tremendous
intellectual stimulus during the research phase of this project, not only from books and online
sources, but also from comments and discussions with thegroup.
In the course of doing this project we collaborated quite well as agroup. This project
has made us more familiar with each other and more bonded in our personal lives. I have also
come to value the discipline needed for teamwork: planning things ahead of time, making
effort to convey and explain ideas, and being committed to the project.

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Apart from the experience of teamwork, I have also developed skills in searching for
information, understanding research done by others, synthesizing my own opinions, and
arranging various ideas into succinct sentences. These skills would be helpful in aiding my
future study.
When we first run into our project, we recognized that there are things the group knows
and much more things that we need to know, even if they are not yet apparent. As much as
we can plan the entire project, exactly where are we on the learning curve only comes into
focus when we reach that phase or encounter the problem. Hence we did not hesitate to
research broadly to find out more possibilities and to put ideas into words by writing short
paragraphs about different macroeconomic phenomenons and its mechanism. After
considering various possibilities, the ultimate outcome is about knowing what we stand for,
being prudent about what to take on. As a result, the features of the essay would be more
succinct and logical. Keeping signal from the noise is really important, and that why we chose
the three areas - unemployment, decreased exchange rate, and stock market plunge - as our
areas of focus, even if it means there may be less space for applying simple concepts directly
from the notes. We believe the the kernel of this project is to gain knowledge, knowledge
regarding Chinas economic development in particular for ourgroup, followed by applying
the new concepts and formulating our thinking. Hence we tried our best to make the essay
well-structured, covering multiple policies that we could possibly explore, and to illustrate in
our own words why it works this way. The team is motivated, passionate to learn further. As a
consequence we had to reduce the amount of words from 7000+ to around 2000 (in a
struggle).
Overall, this project provided a great opportunity for me to learn, and the experience is
truly valuable.

Yiyun
In this project, we started with a very ambitious goal that is to cover as much aspects in
Chinas economy as possible. We decided to focus on three main areas: Chinas stock market,
unemployment rate, and exchange rate. I was in charge of research on Chinas exchange rate,
especially the case of depreciation of the yuan in August 2015. Yueze was in charge of
unemployment rate, while Anyu and Qiyao studied Chinas stock market together. We spent a
whole day writing our first draft, covering problems and challenges, existing solutions, possible

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improvements, etc. We read a lot of papers and it wasnt hard to get the information we
wanted.
However, it became so hard when we tried to integrate all the findings and organize
them into one complete report. Each of us only focused on our own part originally. The total
word account was way more than the word limit, and many economic concepts were
repeated. Moreover, it was very hard to link all three areas together to explain Chinas
economy on the whole. Therefore, we met again to read through the others parts so that we
understand the other two issues as well. We equally assigned economic concepts and theories
that need to be explained to different members according to the content being mentioned, to
make sure that there was no repeating. We finally managed to link everything and reach a
conclusion after many discussions.
During presentation, we used a skit to interpret the concept of exchange rate. Our
intention to do the skit was to explain how exchange rate works in a much simpler and
creative way.
One learning point from this project was that I understand Chinas economy much
more now than before. As a Chinese, even though I am staying in Singapore, the up and
down of Chinas economy is still going to affect my family and me hugely. Meanwhile, I
developed strong interest in studying economics as a major in university. Another learning
point was how our group managed to work with each other. All of us were willing to put in
efforts, and were responsible for our own parts. However, teamwork was more than individual
contributions. It was a struggle to let go some parts and to revamp again and again so that we
were able to present an integrated piece in the end. The skills learnt from teamwork were
truly valuable.

Qiyao
Focusing on China, we have been able to get a deeper understanding in this fast
developing economy and gain insights about the reasons for the success as well as limitations
of this economic structure.
I am very excited to realize that I can use the theories that we have learnt in class to
explain the macroeconomic phenomena and decisions which previously seemed very
unfathomable to me. I began to understand both the rationales and limitations of the relevant
demand or supply side policies. However I have also realized from this research project that
real life situations are often much more complicated than those in theories, where Ceteris
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Paribus is assumed. Thus, macroeconomic policies are never implemented individually. They
are always coupled with each other to compensate potential disadvantages. At the end of the
day, the effectiveness of certain measures will still not be very predictable simply because the
tremendous amount of uncertainty in the real world.

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