Are Currency Revaluations Contractionary in China?

Chinese economy has been in a state of external imbalance and internal imbalance for some years, which certainly has something to do with the undervaluation of renminbi (RMB). But Chinese Government hesitates to revalue RMB because of the worry that RMB revaluations are contractionary thus have negative impact on China’s economic growth and employment. The purpose of this paper is to empirically assess the effects of RMB real exchange rate on China’s output. The econometric work of the paper shows that even after sources of spurious correlation and reverse causation are controlled for, RMB revaluation has led to a decline in Chinas output, suggesting that RMB revaluations do be contractionary. The paper gives some possible explanations to this finding, and points out that the finding does not consequentially imply that China should continue maintaining the undervaluation of RMB.