Pegging the Yuan

In the last video, we saw a
reality where the currency

between, or the exchange rate
between, the Yuan and the

dollar started off at 10 to 1.

And at that exchange rate,
China was shipping more

goods-- in terms of whether you
measure it in dollars or

Yuan --was shipping more to
the U.S. than the U.S. was

shipping to China.

And because of that, we saw an
imbalance in the currencies.

The Yuan became more expensive,
or the dollar

became cheaper, until eventually
Chinese goods got

expensive enough that there was
less demand in the U.S.

and U.S. goods got cheap enough,
that there was more

demand in China, that the trade

actually came into balance.

Now, that's OK if everyone
wanted to have balanced trade,

but what if the Chinese
government didn't want that.

They said, hey, we needed to
develop, the United States is

already developed, we want to
have an industrial base, we

want to have a market to
sell our goods to.

We want to export more to
the United States than

we import from them.

We want export-led growth.

So they don't like the dynamic
that they saw, they did not

like the currency, they
did not like the

Yuan getting expensive.

So let's say the Chinese
government-- let me scroll up

a little bit --so the Chinese
government wants to keep

currency exchange pegged at-- I
ran out of space over there

--at CNY 10 per dollar.

And they want that because they
want this situation to

keep on going forever, that
China keeps shipping more to

the U.S. than the U.S. ships to
China, or maybe they wanted

to go even more, that China
keeps shipping more and more

to the U.S. than the U.S. ships
to China so that China

could build its industrial
base.

And, I guess the more sinister
view is also so that the

United States' industrial
base gets depleted.

That they keep manufacturing
things cheaper and cheaper and

cheaper, and then United States

manufacturers can't compete.

And we'll talk about this in
more videos, it's not it's not

clear that it's 100%
one-sided.

There's actually some benefits
that the United States also

gets from this, and we'll
discuss that more.

It's a little bit
more involved.

So how could they do this?

Let's just say that the Chinese
government wants this

reality, and they want
this reality frozen.

They do not want the reality
where the trade balances.

How could they intervene in
currency markets so that this

doesn't change?

Because, as we said, if more
Chinese goods are being

bought, there's more demand
for Yuan, the Yuan should

appreciate, the dollar
should go down.

But how do you get both?

How do you have your cake
and eat it too?

How do you get more goods being
shipped to the United

States than back to China
without the Yuan appreciating?

And the way you do that,
there's the Chinese

government, or maybe in
particular we could talk about

the Chinese Central Bank.

The Chinese Central Bank, which
is a part of the Chinese

government can say, hey, to
keep our Yuan devalued, we

will print money.

So let me draw the Chinese
Central Bank.

Let me do this in a new color.

And what they do, they can
actually just print money.

So we had this scenario that I
had outlined in the last two

videos where we had
this imbalance.

There was demand for
CNY 1,000, but only

supply of CNY 500.

So what they can do is
just equalize this.

They could just print CNY 500
and then try to convert that

into dollars.

So what just happened?

Now all of a sudden, we have
$100 that are trying to be

converted into roughly CNY 1,000
or if that exchange rate

were to be constant.

So there's demand
for CNY 1,000.

Before the Chinese Central Bank
got involved, there was

only a CNY 500 supply.

But now the Chinese Central
Bank says, OK, there's a

demand for CNY 1,000, there's
only CNY 500 supply, we're

going to produce another
CNY 500.

We literally can just print it,
and then they will convert

what they printed
into dollars.

So just like that, you
now have a balance

of supply and demand.

You have CNY 1,000, 500 here and
500 here that want to be

converted into dollars, and then
you have $100 that want

to be converted into,
I guess, CNY 1,000.

So if they were to do this, the
currency wouldn't change.

The exchange rate
would change.

The supply and demand of the two
currencies would be equal.

Now, and that would work and
frankly that's what they have

been doing for some time now.

But there's one kind
of catch here.

The whole time that they're
doing this, what is happening?

Well, they keep shipping more to
the United States then the

United States is shipping
to China.

These guys keep having to print
Yuan and buy dollars

with those Yuan in
order to keep the

Chinese currency cheap.

So these people are going to
keep accumulating dollars.

They just keep printing Yuan
and then they just keep

accumulating dollars.

Let me draw that over here, so
the Chinese Central Bank just

starts accumulating many,
many dollars.

They can they can print Yuan
as much as they want, those

Yuan, they trade them into
dollars and then these guys

start accumulating more and
more dollars over here.

And the more that they want this
trade imbalance to occur,

the longer they want it to
occur, the more dollars that

they will have to accumulate.

So they have to just keep
on doing it, they can't

even stop doing it.

They have to keep doing it in
order to keep the trade

balance the way it is.

And in the next video, I'll talk
about what they actually

have to do with these dollars
because they actually won't

just keep it in cash, what they
actually have to do with

these dollars, and then what
effect that actually might

have on the United
States economy.

Then we could talk about how
this might unwind itself, but

we'll find out it's actually
very difficult for this

scenario to unwind once
it gets started.