Looming appreciation

The rapid appreciation of the yuan was driven partly by a substantial increase in foreign capital inflows, say experts. "Monetary easing in other countries, like the United States and Japan, has caused capital inflows into China and therefore pushed up the value of the yuan," said Fan Yanhui, Deputy Director of the Financial Research Institute at the University of International Business and Economics. On May 5, the State Administration of Foreign Exchange announced a set of measures to crack down on hot money inflow.

Anticipated difference in interest levels between China and countries where loose monetary policies are depressing bank deposit returns supported a stronger yuan, according to Sun Huayu, a professor of economics at the Guangzhou-based Jinan University. In addition to hot money inflow, a stable Chinese economy and a new leadership promising ongoing economic growth have also contributed to a rising yuan, according to Fan.

With more and more small and medium-sized exporters struggling, further appreciation could lead their businesses to collapse. "I don't know how long I can hold on. If the situation worsens, I will give up on the export business in at most two or three years," Wang Xian, a shoe exporter in Dongguan, south China's Guangdong Province, told China Central Television.

Experts also warn of the danger of plummeting exports. According to Fan, the yuan rising to 6 against the U.S. dollar would be unbearable for many exporters. "If the current situation continues, China faces the possibility of depreciation," said Fan. He also noted that the currency rate is closely linked to the status of the whole economy, and the Chinese economy faces many huge obstacles, including mounting local debt, an unstable housing market and a weakening industrial sector, which do not allow the yuan much space to appreciate.

China's economy unexpectedly stumbled in the first quarter of the year, growing 7.7 percent from a year earlier. Analysts had expected growth to pick up in the first quarter. "After the U.S. and EU economies recover, their currencies will pick up again. By that time, yuan depreciation will return," said Fan.

According to the West Brothers Economic Research Institute, China's currency will gradually appreciate against the U.S. dollar by nearly 10 percent over five years. "I know the yuan will appreciate in the long term. What I hope is that it appreciates in a gradual manner so that profits come and go and we can still survive," Fu said.

Coping measures

Trapped in a predicament of rising costs and yuan appreciation, exporters are trying various means to mitigate risks to their businesses.

In order to minimize currency exchange losses, suppliers are also trying out financial instruments, such as Chinese yuan non-deliverable forward contracts.

By fixing the desired exchange rate, a non-deliverable forward contract allows you to hedge against the risk of exchange rate fluctuations. However, a non-deliverable forward contract is not a popular measure among suppliers. "Using financial instruments requires significant capital," said Chen Cunman, a power equipment salesman in Suzhou, east China's Jiangsu Province. "The most effective method to minimize currency losses is yuan settlement."

Ever since he lost money in several deals settled in U.S. dollars last year, Chen decided to settle in yuan. But yuan settlement is not a cure-all remedy. "Yuan settlement means you transfer the appreciation risk to your clients. You have to make other concessions, for example, like lowering prices," Chen said.

Cheaper foreign currencies have also inspired exporters to use more imported materials and components. "We have increased imports of equipment and material from Japan to mitigate losses," said Li Yan, an exporter based in Dongguan.

But for Zhao Xiao, a professor with the School of Economics and Management at University of Science and Technology Beijing, cheaper foreign currencies present new opportunities for exporters.

"To some extent yuan appreciation will force exporters to accelerate their plans to move up the value chain and produce higher-end goods. It's a chance to purchase advanced technology and equipment at lower prices."

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