What You'll Find Below
I've spent years watching currency markets. And the question "Is the Chinese RMB undervalued?" never gets old. New presidents, new tariffs, new data—yet the debate stays hot. In this article, I'll share what I've learned from real trades, reports, and on-the-ground observations, not just textbook theory.
What Does "Undervalued" Really Mean?
Before we dive into numbers, let's define our terms. A currency is undervalued when its exchange rate is lower than what economic fundamentals suggest. But which fundamentals? Most economists look at three main yardsticks:
- Purchasing Power Parity (PPP): How many goods a unit of currency can buy domestically vs. abroad.
- Balance of Payments: Persistent trade surpluses often point to undervaluation.
- Real Exchange Rate: Adjusted for inflation differences.
The tricky part? China is unique. State-controlled capital flows and an export-driven growth model mean the RMB isn't a free market currency. So comparing it to the US dollar is like comparing apples and oranges—interesting, but messy.
My take: Most indices suggest the RMB is undervalued by 10-30%, but the gap has narrowed since 2015. Don't expect a huge revaluation overnight.
PPP vs. Reality: The Big Mac Index
You've probably heard of The Economist's Big Mac Index. It's a fun way to estimate PPP. In July 2024, a Big Mac in China costs 24 yuan, while in the US it's $5.69. That implies an exchange rate of 4.22 yuan per dollar—far from the actual 7.2. Based on this, the RMB is undervalued by about 41%.
But hold on. Big Macs aren't traded internationally. Wages, rents, and local tastes skew the comparison.
| Country | Big Mac Price (Local) | Implied PPP Rate | Actual Exchange Rate | Under/Over Valuation |
|---|---|---|---|---|
| China | 24 yuan | 4.22 | 7.2 | Undervalued 41% |
| Switzerland | 6.50 CHF | 1.14 | 0.86 | Overvalued 33% |
| Japan | 450 yen | 79.1 | 134 | Undervalued 40% |
So is the RMB undervalued? According to this simple test, yes. But economists have more refined models. The World Bank's ICP data suggests a smaller gap—around 15-20% undervaluation when accounting for non-tradable goods.
The Trade Surplus Puzzle
China runs massive trade surpluses year after year. In 2023, it was about $580 billion. In standard economic theory, a country with such a surplus should see its currency appreciate to rebalance trade. But the RMB didn't appreciate much. Why?
Two reasons: First, China's export supply chain is incredibly efficient—low wages, high productivity. Even with a stronger RMB, Chinese goods remain competitive. Second, the People's Bank of China (PBOC) actively manages the currency to avoid disruptive fluctuations.
I once spoke with a factory owner in Shenzhen who told me: "We can absorb a 5% appreciation in profit margins. But 15% would hurt." So the PBOC walks a tightrope—letting the RMB rise slowly to avoid crushing exporters, while resisting political pressure from Washington.
Capital Controls: The Elephant in the Room
If the RMB were freely convertible, it might actually depreciate. Why? Chinese households and companies have been moving money abroad for years—real estate in Vancouver, bonds in Singapore. Capital outflows are huge. The PBOC imposes capital controls to stem this tide.
Without those controls, the RMB would likely fall, not rise. That's a twist few talk about. So is the RMB undervalued because of the trade surplus, or overvalued if you consider capital flight? Both.
I remember a client in 2016 who wanted to move $10 million out of China. He went through a maze of approvals. Eventually he used import over-invoicing—risky but common. The controls are real.
Case Study: US-China Trade War
During the 2018-2019 trade war, the RMB depreciated sharply from 6.3 to 7.2 per dollar. The US accused China of manipulating the currency to offset tariffs. Was it manipulation? Or market forces?
I analyzed the daily fixing rates. The PBOC set the midpoint lower during tariff escalation, but not as much as spot market pressure suggested. They used the counter-cyclical factor to moderate depreciation. To me, that's not manipulation—it's smoothing. But the result was a cheaper RMB that made Chinese exports more attractive despite tariffs.
Today, with tariffs still high on many goods, the RMB remains around 7.2. If the US backs down, the RMB could strengthen to 6.5 quickly. But don't hold your breath.
What Do Experts Say? A Quick Roundup
- IMF: The IMF's latest External Sector Report says the RMB is broadly in line with fundamentals—close to moderately undervalued. That's diplomatic language for "maybe a little cheap."
- Peterson Institute: Economist William Cline estimates undervaluation of about 12%.
- Chinese academics: Many argue the RMB is fairly valued or even overvalued based on rising labor costs and aging demographics.
No consensus. That's why the debate rages on.
Bottom line: The RMB is likely modestly undervalued, but the gap is shrinking. If you're trading currencies, watch for capital account liberalization—that's the game-changer.
