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Prospects Weekly: A more flexible yuan may further reduce large global imbalances; Baltic Dry Index drops 40%

Global Macroeconomics Team's picture
Last weekend, China announced that it will introduce greater flexibility in its currency, which many hope will lead to a further reduction in global imbalances as the renminbi appreciates. However, the impact of a revalued renminbi on the U.S. trade deficit is unclear, to the extent that inelastic demand in the U.S. could lead to short-term deterioration in its deficit with China. The Baltic Dry Index for bulk-shipping rates plunged 40% since May 26, partly reflecting a recent fall-off in shipping demand from China. In contrast, European and Japanese bulk-shipping demand firmed recently, although this may be shortlived given recently announced policy-tightening. Burdened by bad loans and ongoing balance-sheet consolidation, the median domestic-credit growth rates for the world and G-20 decelerated in Q1-2010—although the pace of credit growth firmed in some countries, such as the U.S., China and India.
Rebalancing between trade deficit- and surplus-economies may be supported by a relaxation of China’s managed float. A gradual appreciation of the renminbi could support competitiveness of other developing countries and lead to stronger export growth. However, the impact of a revalued renminbi on the U.S. trade deficit is uncertain. Insofar as U.S. import demand is relatively price inelastic, higher U.S. dollar prices for Chinese imports following an appreciation of the renminbi may cause the U.S. trade deficit to rise in the short-term. Prospects for U.S. exports are also likely to deteriorate due to weakening external demand from Europe and Japan—as fiscal consolidation in these economies takes hold. Since last Friday, May 18, the yuan has appreciated 0.38% to 6.8001/$US (June 24, intra-day). 
The Baltic Dry Index for shipping freight-rates fell 40% since late-May, reflecting a dip in shipping demand from China and a rise in global vessel supply. Chinese imports of iron ore fell 6% (m/m), and imports of coal fell 19% (m/m) to reach the lowest monthly volume in 2010 (although they are still up 16.6% from a year ago). Import demand is moderating given a fall-off in manufacturing activity, and an expected slowdown in steel production due to falling prices and termination of VAT rebates of certain steel-product exports in July. A projected rise in vessel capacity of more than 10% in 2010 (Drewry Shipping Consultants) should contribute to ongoing softness in shipping freight-rates. While dry-bulk shipping demand recently firmed in Europe and Japan with a pick-up in coal imports, shipping activity could slow in these economies, as recently announced policy-tightening gains traction. 
Global domestic banking-sector credit growth decelerated in early-2010—and could moderate further as policy tightening takes hold. High joblessness and excess capacity among borrowers, combined with still-stressed banking sector balance sheets among lenders, has led to the median domestic-credit growth rate for the world to slow from recent highs in Q1-2010 (3m/3m, annualized rates). Among the G-20 countries, exceptions include the U.S., China, and India, where credit growth accelerated as the recovery became more broadly-based. Recent heightened financial market uncertainty may result in further deceleration going forward. 

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