December 01, 2015
Most economists argue that the Fed’s quantitative easing policy, in which it bought up more than $3 trillion in government bonds and mortgage backed securities, is still helping to keep interest rates down even though the Fed has stopped buying these assets. The argument is that by holding a large stock of bonds the Fed is keeping their price higher than would otherwise be the case. And higher bond price mean lower interest rates.
While economists generally accept this view that the holding of a large stock of assets matters with U.S. interest rates, rather than just the flow of purchases, they don’t seem to apply the same logic to currency prices. This NYT article on the Chinese Renminbi becoming an international currency never mentions the fact that China’s central bank still holds more than $3 trillion in foreign exchange in discussing whether the renminbi is a freely floating currency.
If we believe that economics works the same way with currency values as with interest rates, then we have to believe that the decision by the Chinese central bank to continue to hold large amounts of dollars and other foreign currencies is raising their value relative to the renminbi compared to a situation where the bank held a more normal amount of reserves. This matters, since the implication is that the renminbi is still well below the level it would be at if the exchange rate was set without central bank interventions.
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