The hottest topic recently, undoubtedly, is the continuous devaluation of the Chinese yuan's exchange rate.

Let's first discuss the first issue: how is the exchange rate formed?

This question is both complex and simple. Generally speaking, the exchange rate is a reflection of labor productivity, but this statement is too difficult to understand.

In fact, you can understand the exchange rate as "being needed." That is, whose currency is needed by others, its exchange rate will be high. Conversely, the exchange rate will not be good.

A country that can produce things that other countries cannot produce, and these things are needed by others, its currency will inevitably be in demand. Everyone wants to exchange their own currency for their currency, and the exchange rate will naturally not be low. Conversely, a country that can only farm and produce some agricultural products that anyone can produce, others naturally have no reason to hold a large amount of your currency, and your currency exchange rate will not be high.

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In reality, the exchange rate is mainly a transaction price. For example, Chinese people need US dollars to buy oil, chips, and iron ore, so they have to exchange RMB at the bank. Just as other countries also need RMB to buy our things, they need to exchange US dollars at the bank for RMB. This transaction back and forth, like the price of eggs, forms a transaction price, which is the exchange rate.

If a country produces something very good that everyone needs, the currency of this country will naturally be more in demand, and the exchange rate will rise.

Conversely, a country with scarce resources and social unrest, where people neither buy their products nor travel there, naturally almost no one needs their currency, such as Afghanistan, the exchange rate naturally cannot be high.

There are also some small countries whose currency is dispensable. They may not even have their own currency and directly use US dollars, such as when I went to Palau before the pandemic, that place directly used US dollars and did not have its own currency.

The currency of China's Hong Kong region is not the US dollar, but it belongs to the US dollar's vouchers. The Hong Kong dollar is printed with "payable on demand," which means that this ticket is actually a voucher for the US dollar and can be exchanged for US dollars at any time.Understanding this will help you understand why the American currency is so strong. On one hand, the world needs to buy American products and also needs dollars to buy products from the Arabs (oil). On the other hand, wealthy people want to keep some for risk aversion.

Despite printing a lot, compared to other currencies, it is still very easy to use, with excellent liquidity. Everyone recognizes it, and it can be spent at any time or exchanged for U.S. Treasury bonds for investment. U.S. Treasury bonds can then be exchanged for dollars to spend everywhere.

Other currencies basically cannot meet these characteristics at the same time. Some cannot flow freely, and some do not have a huge investment market. However, the biggest problem with most currencies is that the rich people of other countries in the world do not recognize them, which means you cannot spend them casually anywhere.

It also helps to understand that since China's reform and opening up, the exchange rate has been rising, because the more and better products we produce, the more the outside world needs our currency, and "things needed" will definitely appreciate.

Of course, this is just an extremely simplified model, and there are many factors that affect the exchange rate. In reality, productivity may develop, leading to an increase in the exchange rate. The currency is also continuously increasing in issuance, and more may not be worth it, which may lead to a decline in the exchange rate. However, overall, the most significant impact on a country's exchange rate is still productivity. Although China's currency has been issued a lot, the improvement in productivity is more obvious, leading to a significant increase in the exchange rate.

So, the next question is, why has the dollar been so strong in the past two years?

This issue has been explained in previous articles, "Why does the U.S. interest rate hike lead to the collapse of many countries? What about ours?" The dollar has been raising interest rates in the past two years to deal with high inflation. After it raises interest rates, if you deposit money in the United States, the interest will be higher than in your own country. Many people want to change their money into dollars and deposit it in the United States.

Where do the dollars go after they arrive in the United States?

Some dollars were originally borrowed from American banks and are now returned. Those funds were originally created out of thin air as "credit" and disappeared after returning to the bank. Some of the dollars are deposited in American banks to earn interest, and some are used to buy U.S. Treasury bonds.

As for what is said online, these dollars returning to the United States to invest in the American economy is almost impossible, and the reasons will be explained later.This also explains why currencies around the world are depreciating against the US dollar, because wealthy individuals from various countries are exchanging their national currencies for US dollars to earn interest in the United States. Everyone is scrambling for US dollars and abandoning their own currencies; it's clear who gains and who loses.

Nowadays, the yield on US Treasury bonds has reached 4%. This number may not seem significant, but if an ordinary person deposits their 100,000 savings, they would only earn 4,000 in a year, which cannot truly improve their life.

However, for wealthy individuals with large amounts of capital, this interest rate is quite alarming. They usually have to take the risk of losing their principal when buying financial products with such high interest rates. But depositing in US banks or buying US Treasury bonds is risk-free.

There is a crucial issue here. Generally speaking, the interest rates in developing countries are much higher than those in developed countries because there are risks involved in developing countries. Now that the interest rates in the most developed country are higher than those in developing countries, isn't it inevitable for a large amount of money to flow into the United States?

If we talk specifically, for example, if I am engaged in foreign trade and have earned 1 million US dollars, I would exchange 500,000 of it into RMB to pay the workers' wages, and the remaining 500,000 would be converted into RMB for investment, consumption, or simply deposited in the bank.

Now that the US dollar has increased interest rates, I would transfer this 500,000 to a US bank to earn interest. In other words, this money still belongs to this Chinese boss and has not been taken over by the US government. But if I take this money and become a US citizen, this money indeed becomes a US asset.

However, on the Chinese side, the withdrawal of a large amount of currency may lead to a decline in the stock market and the real estate market. In fact, everyone has already seen that the stock and real estate markets in our country have not been very good in the past two years.

What can countries other than the United States do to curb this trend?

It's very simple, just increase interest rates. If its interest rate is 4%, and yours is 8%, wealthy people will naturally not leave. Of course, it's not necessarily the case. The essence of interest is the cost of capital over time, as well as the discounting of risk. The "risk" discounting is not easy to understand, but if you think about usury, you'll know. The interest rate is so high because people who borrow at high interest rates generally don't have much to offer, and they are wary of not repaying the money. Even if the interest rate in countries like Afghanistan and Syria is high, not many people would dare to invest there because the risk is too high, offsetting the interest.

But here arises a big problem.Everyone should know that modern enterprises operate with debt. The salary your boss pays you is basically not the company's own capital, but a loan from the bank. Even the purchase of goods and machinery may be financed by loans.

When the bank raises interest rates, your company may incur an additional expense for no reason, which may lead to the company's inability to continue operating. Therefore, every time there is a large-scale interest rate hike, a number of companies go bankrupt. This is also the reason why most countries avoid raising interest rates if possible.

In China, there is an even more troublesome issue. Both real estate companies and ordinary people who buy houses need a large amount of loans. If the country raises interest rates to prevent capital flight, real estate companies may go bankrupt faster, and there may be many unfinished projects everywhere. Ordinary people may also choose not to buy houses because the loan interest rates are too high, further affecting the real estate market. Therefore, not only can't the country raise interest rates, it may even have to lower them, which also leads to further capital outflow and a further decline in the exchange rate.

This is also the origin of the saying that has been circulating in the industry:

Whether to protect the housing market or the exchange rate.

If you want to protect the exchange rate, you have to raise interest rates, and the housing market will be in trouble.

If you want to protect the housing prices, you have to lower interest rates, which may lead to further capital outflow and a further decline in the exchange rate.

So when the US raises interest rates, many countries face a dilemma:

If you don't follow suit, your country's foreign exchange is constantly flowing out, and the money earned by the people through years of exports is gone for no reason, and the exchange rate will continue to fall.

If you follow suit, the pressure on your domestic enterprises will soar, and a number of them will die every time interest rates are raised, which may also lead to a collapse in the real estate market.Speaking of this, I'm sure everyone has a doubt in their hearts. Won't the Americans kill their own companies by raising interest rates themselves?

Of course they will! The rise in monetary costs brought about by interest rate hikes is an indiscriminate massacre, and the first to be affected are the Americans themselves. That's why the matter of the US raising interest rates is also causing a lot of alarm in the US. As soon as the interest rate was raised last night, the US stock market immediately became a sea of blood. Of course, it's highly likely that we have also made arrangements on our side.

Now, the US interest rate hikes have been very aggressive, but they are far from the most aggressive. In the 1980s, in order to solve the problem of high inflation, the then Chairman of the Federal Reserve, Paul Volcker, raised the interest rate to 19.1% at one go, similar to the wartime interest rate of Russia now, and American companies fell in batches like late autumn grasshoppers. Volcker himself was also threatened several times, and some people said they wanted to kill him to make him raise the interest rate again.

Of course, Paul Volcker's decisiveness has become an eternal legend, and he is considered to have saved the United States. Later, the "Heisei genius" who burst the Japanese real estate bubble, Mitsuo Mieno, also quickly raised the interest rate, and then the Japanese real estate bubble burst. Many people say why he was so impulsive? Because he was learning from Paul Volcker.

From this, we can also see that a sharp increase in interest rates can lead to a real estate collapse. However, the United States has a technological revolution, while Japan does not, so the same means have led to Japan's depression until now, while the United States continues to soar with the help of the computer and internet revolution.

But now, if the Federal Reserve wants to raise interest rates, it will generally let the news out in advance to let everyone be mentally prepared. For example, you are now entangled in borrowing a large sum of money. Now that you know the Federal Reserve will raise interest rates, you may not borrow it, which may avoid your bankruptcy in the future.

Since entering the interest rate hike cycle, American companies have also been cut like wheat, and those who have not died have also faced many difficulties in business. You should have heard that not long ago, the United States was still talking about "the lowest unemployment rate in history", and now it is not mentioned much, because after the company went bankrupt, the number of unemployed people increased, and the unemployment rate is not worth mentioning.

Not only that, the US stock market is also supported by US loans. Now that interest rates are rising and the balance sheet is shrinking, loans have become scarce and expensive, and the interest rates on government bonds and the like are very high. Investors are no longer investing in US stocks, but have gone to invest in US bonds, which has resulted in the US stock market falling like a dog.

Then the next question comes, is currency devaluation a good thing for us?In a nutshell, it's not a good thing, but it's not as bad as it seems.

Firstly, after the devaluation of the currency, the cost of imported goods increases. Our country mainly imports energy, soybeans, steel, raw materials, chips, and the like. Soybeans are used for oil extraction and feeding pigs. If the price of soybeans rises, it may lead to an increase in the price of meat. In addition, there is the issue of the pig cycle. Have you all noticed the rise in pork prices?

When the cost of energy and raw materials goes up, it will inevitably raise the prices of daily necessities. This is also why the National Development and Reform Commission issued a price increase notice some time ago. Some friends may not have noticed, I will post it for everyone.

Similarly, the cost of our country's manufacturing industry will also rise. If you are a boss of an export processing company, the ordering price of your company rises, but the export price cannot be raised, and the profit will definitely be less. Actually, earning less is not a big deal, as long as the profit is positive, then there is no need to go bankrupt. The most important thing in the interest rate hike cycle is not to go bankrupt.

If the cost is too high, it may lay off employees or reduce wages. Generally speaking, internet companies prefer to lay off employees and keep the top talents. In the manufacturing industry, everyone's contribution is not much different, and they are generally inclined to reduce wages. Miss Dong has already reduced the wages of employees.

However, there is a benefit. Since the RMB has depreciated, our products are cheaper, right? Then exports should be good, right?

But everyone should not forget that the US dollar interest rate hike has led to a reduction in the money of the whole world, and people all over the world are short of money, and the desire to spend money is reduced. It's like the mall has reduced prices, but you are short of money recently, and there is no desire to consume. I found a picture of our country's import and export for everyone, and you can see at a glance that it has been rising since this year, but the overall is not as good as last year. It can be understood that the depreciation of the RMB is beneficial to exports, but the overall purchasing power of the world is deteriorating. Of course, it is also related to the recovery of production after the resumption of work abroad.

Speaking of this, some friends may ask: blogger, listening to you say, it seems not very serious, why is the country so concerned about this matter?In fact, a 10% appreciation or depreciation is not a big issue. The real problem now is that such large fluctuations make it impossible for everyone to conduct business.

Let me tell you a true story, which was shared by one of my readers. He said that his client is very cunning. The orders have always been stable, but this year they suddenly stopped placing orders, saying they are waiting for the RMB to depreciate by another 10% so they can pay less. 10% may not seem much, but most companies' profits are also around 10%. Because of the RMB depreciation, they can earn double the profit, which makes them extremely happy, right?

I was puzzled, if the client doesn't stock up, what will they sell? They said they already have inventory. It takes 10 days for ships from China to Southeast Asia, 50 days to South America, and 60 days to Africa. So most customers prepare several months of goods in advance, which is just in time now.

But we can't just stop production here, after all, there are so many workers and machines that can't be stopped, let alone dismissed at any time. But without orders, the products produced are just a loss, so we have to give customers a discount in advance to let them place orders. Sometimes we even have to produce at a loss just to keep running.

This is why there has always been an emphasis on "exchange rate stability," because if the exchange rate is unstable, both parties can't do business, so the country must try its best to stabilize the exchange rate.

If there is any big trouble, it is the US dollar debt.

During this period, everyone should have heard about many domestic companies defaulting on US dollar debts, such as the real estate company from a certain lake a few days ago, which is now facing the risk of default. Then, I searched and saw this news, "Greenland will seek an extension for 9 US dollar debts, repaying 5% of the principal first."

Why is this so troublesome? For example, if you borrowed 1 billion US dollars in debt last year, you could have settled it by paying 6.5 billion RMB. Now, with the exchange rate falling, you may have to pay 7.2 billion, suddenly having to pay an extra 10% for no reason, not to mention the interest. For many companies, their annual profit is also around 10%, and they have to use it all to repay this extra part. Some can't pay it, and may simply go bankrupt directly. So, during this period, everyone should pay attention, many US dollar debts can't be repaid and are on the verge of bankruptcy.

If a small company goes bankrupt, it's fine, but for those giants, they owe a lot of money to suppliers. If they die, their suppliers may also die in batches, and then a large number of people will be unemployed, and there may even be unfinished buildings.This is also why every time the US dollar raises interest rates, the whole world is in turmoil.

So, are we out of options? The bad news is that in the current situation, there are indeed few means available, not only for China but also for the whole world, and we can only let the US make a fuss, after all, the US dollar is the world's currency. The good news is that raising interest rates is a double-edged sword. It is a cut for developing countries, and it is also a scrape for the US. They also feel pain, so by the first half of next year, the interest rate increase will end, and the interest rate cut will start, and the money will come back, and we can continue to play music and dance.

As for the "internationalization of the renminbi" mentioned by many people, I have no doubt that the renminbi will have a promising future in the future, but at this stage, our share is too low, less than 3%. It takes time to accumulate credit, to penetrate into everyone's minds bit by bit, and to let everyone gradually accept the credit of the renminbi.

This is a path that must be taken, and no step can be omitted.

Let's summarize a few more sentences at the end: as long as there is an interest rate difference, that is, depositing money in the US is higher than the interest in China, there will be a continuous outflow of momentum, and the renminbi exchange rate may continue to decline. This is not a malicious short-selling by anyone, but driven by interests. The continuous outflow of foreign exchange will lead to the continuous devaluation of the renminbi, and there will be continuous imported inflation, but our country is an industrial country, with abundant industrial products, and there will be inflation, but it should not be too serious. In addition, under the continuous outflow of foreign exchange, the stock market and real estate market will generally not be very good, and those enterprises that owe a large amount of US dollar debt will be very painful.

The devaluation of the renminbi is good for exports, but it will not be too good, because the people in foreign countries have also become poor, and they are reluctant to spend money.

Finally, the matter of the US raising interest rates will not continue for a long time, and it is likely to end next year. In the short term, it can only be influenced by the US, and in the long term, everything is determined by advanced productive forces. As long as we continue to improve, we can slowly get rid of this trouble.