Real Effective Exchange Rate Of RMB And Its Influence Towards Trade Balance

Exchange rate is one of the most important comprehensive indices in a national’s economy. It plays an irreplaceable role in the effective functioning of whole economic activity.In July 21, 2005, a revaluation of the RMB against the US dollar by 2% was made. At the same time, China implemented based on market supply and demand, with reference to a basket of currencies, managing floating exchange rate system. Since then, after more than three years of continuous appreciation of RMB, reaching new heights, so far, RMB appreciated more than 15 percent.Based on real effective exchange rate theory and elasticity theory, this paper constructed an empirical model, using quarterly data from 1995 to 2007. Then we used unit root test, cointegration analysis, Granger Causality Test and other econometric methods to measure the real effective exchange rate of RMB from year 1995 to year 2007. And the empirical research of changes the relationship between the change of exchange rate and trade balance of China. This paper is mainly divided into three parts:1. The calculation of RMB real effective exchange rate. We have selected the United States, Japan, Hong Kong, Taiwan, South Korea, Germany, Singapore, Australia eight trading partners, as major trading partners measuring RMB real effective exchange. Then we based on the real effective exchange rate model to measure RMB real effective exchange rate.2. The relationship between RMB real effective exchange rate and trade balance. We set up a standard static balance of payments model. According to incomplete alternative theory, we established the import and export demand model. Then we applied the unit root test on variables, cointegration test on the import and export demand equation. Then we measured the corresponding import and export elasticity of demand. Based on VAR model, we applied variance decomposition analysis to study the impact of exchange rate upon the trade balance, as well as China’s main reason for trade balance fluctuations.3. Influence of RMB real effective exchange rate on specific commodity trade balance. The overall trade balance is broken down into specific categories of many commodity trade balances, and then we explore the impact of change of RMB real effective exchange rate towards them. We analyized the impacting factors of RMB exchange rate and the internal driving force.Through the analysis we get the following conclusions: 1, the RMB real effective exchange rate from 1995 to 2007 is basically gone through five stages: rapid rise period and rapid decline period, rising period, declining period and the stable period;2, the absolute value of China’s elasticity of import and export demand is 5.9, meet Marshall-Lerner condition. There is only one cointegrated long-term relationship between RMB real effective exchange rate and China’s demand for imports and exports;3, based on the variance decomposition analysis of VAR model, it shows that the RMB real effective exchange rate impact in the short term can only explain the 3%-12% changes in the demand for Chinese exports and 1%-13% changes in the demand for Chinese imports. Therefore, the impact of exchange rates is not the main reason for fluctuations of China trade balance. Mainly China’s import and export subject to fluctuations for its own impact;4, a detailed analysis of exchange rate movements on commodity imports and exports concludes: the change of RMB real effective exchange rate changes have a significant impact on the second category commodity of beverage and tobacco products, the fifth category commodity of animal and plant oil and wax, the sixth category commodity chemicals and related product. The eighth category of machinery and transport equipment, due to its decisive volume in the foreign trade, its change of imports and exports volume will have a direct impact on the overall balance of imports and exports, which put an impact on the RMB real effective exchange rate;5, the change of RMB real effective exchange rate change will have an impact on the structure of import and export.