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Weijian Shan is the executive chair of PAG, an Asia-focused private equity firm
China’s currency, the renminbi, is undervalued. Everyday evidence abounds: residents of Hong Kong, whose currency is tightly pegged to the US dollar, flock across the border to Shenzhen for weekends of shopping, where prices are half those in Hong Kong.
The Economist’s Big Mac index shows that a McDonald’s Big Mac costs $6.01 in the US, yet only Rmb25.5 (about $3.60) in China, implying the renminbi is roughly 41 per cent undervalued. This light-hearted burger benchmark closely tracks the IMF’s more formal purchasing power parity estimate, which indicates that the renminbi is about 50 per cent undervalued against the dollar.
In 2024, China’s nominal GDP in dollar terms was $19tn, or about 65 per cent of US GDP at $29tn. However, IMF data suggests in PPP terms, China’s GDP was $38tn, 31 per cent larger than America’s. Seen in this light, a gradual appreciation of at least 50 per cent over the next five years, which will narrow the current undervaluation to below 25 per cent, would be both feasible and beneficial to China. A steady appreciation would boost domestic consumption and improve trade relations.
In a floating exchange rate regime, currency values in theory should adjust to restore balance-of-payments equilibrium. Unless offset by a capital account imbalance, a current account deficit triggers depreciation — cheaper exports, costlier imports — until the gap narrows. A surplus prompts appreciation, reversing the flow. Yet China has run a surplus for 32 consecutive years, far exceeding its capital account deficits and amassing $3.3tn in foreign exchange reserves.
No central bank can defy market forces, but it can powerfully shape expectations and guide the market towards fundamentals. History offers precedents. In 1993, the unofficial market rate hit Rmb11 per dollar (against an official rate of Rmb5.8). On January 1 1994, China unified the dual system at Rmb8.7 per dollar, a significant revaluation. In the three decades since, the renminbi has never traded lower than that rate.
Likewise, during the 1997-98 Asian financial crisis, while most regional currencies plunged, China pledged not to devalue and kept the renminbi stable, earning widespread credibility. It repeated this resolve during the 2008-09 Great Financial Crisis. When Beijing demonstrates clear commitment, markets follow — and a stronger currency becomes self-reinforcing.
Despite steady 5 per cent annual GDP growth since 2023, China urgently needs to curb its export dependence and pivot towards domestic consumption to ensure sustainable expansion. A stronger renminbi would help lift consumption’s share of growth from its current level of around 53 per cent back to 2023 levels of 86 per cent by making imports cheaper and increasing household purchasing power.
Sceptics invoke Japan’s “lost decades”, blaming the sharp yen appreciation forced by the 1985 Plaza Accord. That parallel does not hold. China’s situation is the opposite. After falling property and equity prices in recent years, household wealth is impaired and consumer confidence remains fragile. Consequently, households have hoarded an enormous amount of cash: their bank deposits hit $23tn in 2024, exceeding GDP by more than 20 per cent. A gradual renminbi revaluation would help repair household balance sheets and lift confidence to spend. China also enjoys far more monetary and fiscal policy space than Japan did: real interest rates remain high amid zero inflation, and the reserve requirement ratio — the proportion of deposits banks must park at the central bank — hovers above 6 per cent (versus zero in the US and 1 per cent in the EU and Japan).
Conditions are ripe for the renminbi to significantly appreciate, but it needs to strengthen gradually to minimise the impact on the export sector. If it rises 50 per cent in five years, it will accelerate the pivot to high-quality, consumption-driven development and will help draw in more foreign investment. It will also ease the concerns of China’s trading partners regarding trade imbalances.
There are indications this is starting to happen. The People’s Bank of China operates a managed floating exchange rate system that allows the renminbi to fluctuate within a plus or minus 2 per cent range around a “midpoint”. Lately, it has set the midpoint on an appreciation trend, which signals to the market that the central bank believes appreciation is warranted. However, this shift so far is timid; the bank could adopt a bolder policy to guide market expectations for a much stronger renminbi.
