(De)Stabilizing Exchange Rate Strategies in East Asian Monetary and Economic Integration

Abstract

The East Asian monetary integration process is at the crossroads. Given very benign liquidity conditions in the US, the prevailing common US dollar peg has contributed to growing macroeconomic and financial instability in the region. This has sparked demands to embark on an independent monetary integration process in East Asia. The paper shows that, however, neither the Japanese yen nor the Chinese yuan can challenge the US dollar as anchor currency in the region. Large fluctuations of the Japanese yen against the US dollar have undermined the potential of the Japanese yen to become a regional anchor currency. Exchange rate stability of the Chinese yuan against the US dollar has enhanced intra-regional exchange rate stability and growth, stressing the potential of the Chinese yuan to emerge as a regional anchor currency. Yet, it is shown that underdeveloped Chinese capital markets and financial repression originating in US low interest rate policies constitute an insurmountable impediment for the Chinese yuan to gain anchor currency status in East Asia. Empirical estimations provide evidence in favour of positive growth effects of the exchange rate stability against the US dollar in East Asia.

Central Banking and Financial Stability in East Asia

“…With China stepwise becoming the hub of the sophisticated East Asian production system (Thorbecke and Smith 2010), exchange stability against the dollar remains the basis for stable exports to the US as the most important single export-target market (Schnabl 2012). Because the common dollar peg of all East Asian countries (excluding Japan) is the backbone for a high degree of intra-regional exchange-rate stability, also from the perspective of intensive intra-East Asian trade, China's growth remains strongly dependent on exchange rate stability against the dollar (Schnabl and Spantig 2014).…”

Heterogeneity of financial institutions in the process of economic and monetary integration in East Asia

“…In recent decades, interest in monetary and financial integration in East Asia has appreciably increased, especially after the consolidation of European monetary integration and the Asian financial crisis of 1997–1998 (De Grauwe, 2016; Eichengreen, 2012; Park, 2017; Rana et al, 2012; Schnabl & Spantig, 2016). One of the most important reasons for proceeding towards a monetary integration process presented by the literature is the potential increase in trade (Volz, 2009) or, at least, avoiding damages to the intra‐regional trade exchanges (Schnabl & Spantig, 2016).…”