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Hello everybody! Welcome to the session “RMB Exchange Rate and Globalization”. I am Di Dongsheng from the School of International Relations, Renmin University of China.

In the previous lectures, we have discussed the topic that China accumulated an increasing amount of foreign exchange reserves before 2012, which brought a huge amount of funds outstanding for foreign exchange and base currency issue. In today’s session, we’ll talk about seigniorage and the wealth redistribution effect it brings.

[Title: The vicissitudes of seigniorage]

First of all, let me explain what seigniorage is. “Seigniorage” originated from the Latin word “seigneuriage”, whose pronunciation in English is seigniorage. Its original meaning is corroding the edge of gold coins. The initial value of the currency depends on the purity and weight of the metal contained in the gold, silver or other metal currency in each of the coin. However, the nobility soon realized that the thinner they made the edge of the gold coins, the more precious metals could be saved. The saved part was equivalent to the profit of currency issue. In other words, it was a kind of tax levied on the people who trusted and saved the currency.

So people remolded currencies of good quality and weight into the ones with light colors but high face values to obtain seigniorage and thus dividends derived. This resulted in a phenomenon that bad money drives out good. In modern times, the currency’s value doesn’t entirely depend on precious metals, but more on the national credit. Especially since 1971, it doesn’t depend on precious metals at all. Only a small part of base currency issue is coin and banknote. The majority doesn’t even need a piece of paper, but rather record it as the amount that central bank owes certain institution in the electronic account. In this way, currency is created. Therefore, the cost of creation became increasingly lower, or even negligible.

China has accumulated more than 3 trillion foreign exchange reserves in the process of export-oriented industrialization. Meanwhile, it also issued a huge amount of the RMB base currency. We’ll make a summary of the seigniorage. Look at this picture. At the beginning of this century, the ratio of newly added base money to GDP was about 3% each year, but this ratio rose to about 10% in around 2010.

In the new era, this ratio has come down again. China’s comprehensive tax rate is the proportion of the financial resources drawn by the central and local governments to GDP. That’s to say, the ratio of newly added wealth each year is actually low. According to our statistics, it is moderately lower than the world medium level. But if the revenue from seigniorage and land finance are taken into consideration, China’s comprehensive tax rate isn’t low at all.

[Title: Frugality became “outdated”]

We have actually discussed it when talking about foreign exchange and funds outstanding that, for every dollar that flows in through exporting or foreign investment, our central bank will issue an average of 7.5 RMB to buy this 1 dollar to avoid the RMB appreciation. We call this high-powered money or monetary base. The broad money derived from the base currency through commercial banking system becomes about 4 times bigger, which is about 30 yuan M2. Through foreign investment and encouraging exports, China accumulated 4.2 trillion foreign exchange reserves at its peak, equivalent to the broad money M2 in the past 30 years.

Before 2012, China’s broad money issue grew about 21% per year, calculated in the compound rate. In other words, 1 plus 0.21 to the 10th power, is about 6.5 times bigger. What about 20 years? That’s 6.5 squared, which is about 42 times. And 30 years? That’s 6.5 cubed, which is about 275 times.

[Title: In the era of fiat-currencies, don’t be obsessed with saving]

Against such a background, our ancestors told us that you would live a good life if you were diligent and thrifty. But when the currency issue grows more than 20% per year in compound rate, the diligent and thrifty people are actually paying more taxes. The more you deposit, the more tax you pay into the monetary system. So the invisible tax that the China central bank draws from domestic savings actually helps the export sector “deprive” thousands of domestic savers. It has a very powerful wealth redistribution effect. How powerful is it? Let me make a simple calculation. In the 1980s, for a wage earners couple in a family of three, saving a thousand yuan with a year of hard work and frugality wasn’t bad. Regardless of the low savings interest rate, if they stored these banknotes in a moisture-proof box, its purchasing power has been continuously decreasing till today. If these 1,000 yuan accounted for the proportion of M2 in China in the 1980s, which was the proportion of mobile wealth in the entire society, is 1/100 million. 30 years later, this 1,000-yuan accounts for only 1/27.5 billion of the flow of wealth, because the cube of 6.5 is 275, which is equivalent to only 3.64‰. And 99.6% of its relative purchasing power has evaporated. Its proportion of the whole wealth is constantly being diluted.

From the perspective of social and economic wealth polarization, if you have been working hard and saving money, you’re very unlikely to turn your life around and become rich. You will always be at the bottom of society. Conversely, if you have the opportunity to get a loan, despite of 8% bank loan interest, since the growth rate of our currency issue was stable at around 21.6% before 2012, as long as you do some normal business, the growth rate of your wealth is likely to be higher than the loan interest rate. You’re taking a great free ride.

Therefore in the era of fiat-currencies, don’t be obsessed with saving, but invest with leverage. This is true for individuals and also for the country.

China as a developing country, has accumulated 3 trillion US dollars and US and European government bonds of 4 trillion US dollars’ value, but the pricing currency is neither gold nor our own currency, RMB, but dollars and euros that debtors can print infinitely. This kind of savings are obviously very disadvantageous because the yields on dollar and euro treasuries hardly keep up with the expansion of their central banks’ balance sheets. In other words, the Chinese people’s savings overseas are actually being continuously evaporated.

[The impact of monetary expansion on different assets]

While purchasing power is continuously evaporating, different wealth, commodities and assets appreciate at different speed. For example, the growth rates of fish and pork prices are far behind the growth rate of currency issue. Because China’s related products also grow very fast, and the supply capacity is getting stronger and stronger. The growth of manufactured goods supply capacity is even stronger than that of agricultural products. For example, from the 1990s to the present, the prices of mobile phones and computers keep falling. There is another asset that lacks value-added capabilities, that is, the Chinese stock market. The protection of the rights and interests of its owners and shareholders in China’s capital market is very fragile and very inadequate. It focuses more on financing than on investment, resulting in imperceptible erosion of shareholders’ equity. So China stock market is a negative sum game in general. For so many years, the Shanghai Composite Index is still hovering around 3,000 points. It is very rare for ordinary investors to obtain long-term investment returns from the Chinese stock market.

So which assets and commodity prices can keep up with the growth of currency issue? There is a basic principle – the harder it is to replicate the commodity and asset, the greater its potential for appreciation and preservation is. The most typical example is the school district apartment in a big city as the carrying capacity of a good school district is limited. The value-added rate of an apartment near a good school is considerable, especially before urbanization is completed. It is a reliable value-added variety. What is more reliable than real estate? For example, the vintage Maotai. If you can identify the fake and make sure that you buy the genuine one, given its limited supply growth, its Value Maintenance and Appreciation potential is fairly good. But what’s the better choice? For example, the rare art treasures in the history of the Chinese nation, such as Qi Baishi’s painting of shrimps, Xu Beihong’s painting of horses, the paintings of Tang Yin, Zhu Zhishan, and Bada Shanren. In the past 20 to 30 years, the value-added rate of these niche assets is very impressive, faster than the growth rate of currency issue. Similarly, since the total amount of Bitcoin is limited to more than 20 million pieces, with more and more underground economic transactions, its pricing and settlement are included in digital currencies led by Bitcoin. So Bitcoin’s price skyrocketed far beyond the imagination of most people.

Considering the impact of monetary expansion on different assets, since I graduated from the Ph.D. in 2004 and stayed on to teach, I said it to my students at the end of each semester that be sure to buy an apartment after graduation, work for those companies who pay housing provident fund, and use the fund and get a loan to buy the most expensive house and the largest house within your reach. What are the benefits of a provident fund loan? You can only repay the interest first, leaving the principal aside for some years, which means that you can repay the loan as late as possible, even after 30 years. If you’re rich enough to buy an apartment in cash, you can buy a few more and don’t pay in full. Unfortunately, only very few students followed my advice.

[Title: Who benefits from monetary expansion caused by funds outstanding for foreign exchange]

Let’s discuss who benefited from monetary expansion caused by funds outstanding for foreign exchange?

We can study the global monetary system from the perspective of the international political economy. Our focus is on which classes are deprived, which classes are subsidized by a series of policy and institutional arrangements under the operating mechanism of the entire financial and monetary system. The topic is about the so-called redistributive effect.

[Title:Who’ s the beneficiary of monetary expansion]

China’s export regions and export sectors are obviously the beneficiaries. The reason why so many base currencies were issued before 2013 was to buy foreign exchange, so that the exchange rate of China’s RMB against the US dollar could be properly undervalued and kept stable. From the regional perspective, since the manufacturing exporters are mainly located on the southeast coast, this export-oriented development model has been continuously depriving the residents of the inland areas in all dimensions and subsidizing the manufacturing industry along the southeast coast. At the same time, young people from the inland areas flocked to the southeast coast to work. They paid a huge social price, leaving their homes, their wives and children. However, they sent the money earned back to hometown and deposited in the bank. The entire monetary system, through a massive expansion of the monetary base, continued to dilute the subsidy for purchasing power, and subsidized back to the manufacturing and exporters along the southeast coast. Due to the influx of young people, the real estate prices in coastal regions became significantly higher than those inland and in the north. Therefore, local governments and ordinary residents along the coast can rent or sell their land at high prices just like landlords. In this sense, a 30-year redistribution process between the southeast coast and the inland formed for the sake of development. Today industrialization has been preliminarily completed. It is very necessary that the central government draw a part of the tax resources from the southeast coast to feed back the central, western, and northern regions through various transfer payment, infrastructure investment, and some other methods.

There’re many entrepreneurs who became rich in an early time. After they attended so-called economists’ lectures in MBA or entrepreneurial president classes, they began to condemn the People’s Bank of China for printing money, deeming that the wealth they created with endeavors was diluted by the money printed by the government, and stolen by the government. But from the root of the matter, this thought is superficial, selfish and ungrateful, and very harmful to their own wealth growth.

To a large extent, the base currency issued before 2013 in China was for the purpose of stabilizing the exchange rate of the local currency and China had to buy foreign exchange to accumulate foreign exchange funds.

In other words, after the central bank collected seigniorage from Chinese savers, it passed it on to the central banks of the United States, Europe and Japan in exchange for the development of China’s export manufacturing industry. If Chinese entrepreneur group understand the interests, especially the manufacturing entrepreneurs in the southeast coast, they should realize that the so-called overissue and the huge amount of foreign reserve are just for the sake of supporting their businesses. Without a series of public goods provided by the Chinese government, including infrastructure construction, access to markets, high-quality, cheap and huge labor force, and stable foreign exchange rate environment, most of these entrepreneurs will not behave better than their counterparts in other developing countries in the fierce competition of manufacturing industry. They’re not as capable as they believe.

Since 2017, the central bank has increasingly withdrawn from its daily intervention in the exchange rate. China’s foreign exchange reserves have stabilized at US$3 trillion and wouldn’t increase. The fluctuation of exchange rate of the RMB against the US dollar has increased, and it is normal to fluctuate by 1% within one day. In 2020, China’s export boom has caused the RMB to appreciate by nearly 10% against the US dollar. Many export companies lamented that they were not making money at all although business was very busy. Why? All the money earned in business is eroded by changes in exchange rates. In fact, this is the reality. Without the government’s long-term nanny care, most of China’s manufacturing enterprises that lack core technology can’t earn so much money. The success of these manufacturing entrepreneur groups should be largely attributed to the support of the Chinese government, including 3 trillion foreign exchange reserves, and the corresponding overissue of the base currency, as well as the government’s tax incentives, export tax rebates, subsidies like land, environment and employee benefits. The success of some real estate developers and investors is certainly inseparable from the blessing of government policies and licenses.

But it is a pity that in this group that became rich in the first batch, very few people can honestly and rationally admit that they benefited from the dividends of this era and the support of the party and the state. Most of their financial success are entirely credited to their own hard work and talent. Instead, they regard the Chinese government as a negative factor for their further wealth amassing. It is under this misunderstanding that they took a short position in RMB exchange rate in around 2015. As a result, many people incurred huge losses. Many people left through investment immigration also with this mentality. In fact, it is not difficult to see the essence and the truth. Just look at so many elites who immigrated to the wealthy economy system. How many of them can set up business there? Most of these people I know either return to China despondently several years later, or stay there and live a plain life there, relying on the cash flow generated by their domestic business. Some people’s business slowly declined, and they became an ordinary upper-middle class.

I quote a saying that these entrepreneurs often like to teach the professional managers they hire – the platform makes you success, not the other way around.

In this process, there is also an obvious beneficiary group. They’re foreign-funded enterprises, especially capital from Japan, South Korea, Singapore, Taiwan, and Hong Kong. The operation of these foreign-funded enterprises has not created too many benefits. However, since the 1990s, they have acquired land from various provinces and cities in mainland China at discounted and even nominal prices, including industrial and office land, which is now very valuable. The process of price increase is related to the continuous expansion of funds outstanding for foreign exchange and seigniorage mentioned in this lecture. In fact, they had played such a game that export earnings from manufacturing spilled over to asset prices through currency expansion 20 to 30 years earlier than mainland China. Therefore, some of them had the idea of this profit strategy of urban enclosures in mainland China, in the name of investing in manufacturing, service industry and real estate. It is precisely because of this principle, that since 2011 when I lecture entrepreneurs in China, I also teach them how to use investment in manufacturing and service industries in Vietnam and other emerging potential winners of the next round of industrialization, to obtain substantial asset appreciation dividends though land trades.

[Title:Significant Changes of Consumption Power in China’s underclass]

In the new era – after the 18th National Congress of the Communist Party of China – we have seen that since 2013, the growth rate of China’s currency issue has dropped significantly, and China’s foreign exchange reserves have been steadily declining, from 4.2 trillion to 3 trillion today. The growth rate of our broad money and base money expansion has greatly decreased, which means that the government’s collection of broad seigniorage from the public has greatly dropped. Let’s calculate the proportion of seigniorage brought about by the expansion of the base currency to GDP, which is significantly lower than 2010 and earlier times. Moreover, the seigniorage income obtained is no longer sent to the United States and Europe, but to expand the monetary base through the purchase of Chinese government bonds. It means that our central and local governments is more likely to offer tax relief to the people. Therefore, in the recent two years, we have seen a series of strong tax cuts, such as a 2 trillion-yuan tax cut for small and medium-sized enterprises. Such a tax cut is completely unimaginable in previous continuous expansion of base currency because of funds outstanding for foreign exchange. The majority of the people have also obtained certain benefits, such as clear waters and lush mountains, targeted and comprehensive poverty alleviation, and a larger health care and social security coverage. All of the above need money. Since 2013, the bottom group also have a sense of gain, which explains why companies like Pinduoduo are so popular. The group that originally lay at the bottom of the Chinese society pyramid in the process of wealth distribution, the vast majority of China’s population, now has gained some spending power. From this major change, we can see that after the 18th National Congress, our country adheres to people-centered philosophy, rather than capital-centered or economic growth-centered.

[Title: Rob the rich to help the poor – the truth of American dream]

Finally, let’s discuss another topic. How much seigniorage has the United States collected from the world and how is this money distributed among its citizens. If you calculate the base currency issue of the U.S. dollar, and the annual increment of the Federal Reserve’s balance sheet accounts for the proportion of U.S. GDP. You will find that this proportion is small in general, about 3% on average. There is another way to estimate – the U.S. annual trade deficit minus the net gain on foreign investment. Please note that this federal revenue can generate multiples of GDP through fiscal multipliers. In other words, if the U.S. dollar wasn’t the global reserve currency, the U.S. GDP today would drop by large percentage, at least 20 to 30% I think. Because the U.S. dollar is the global currency, this sum of money is collected from around the world, not from its own residents.

[Title:Fed expands balance sheet, depriving global savers]

It’s interesting to see the expansion rate of the U.S. base currency in the 13 years after the 2008 financial crisis. To put it more simply, how much money have they printed? Before the 2008 financial crisis, the Fed’s monetary base was only $900 billion, and it quickly expanded to about $2 trillion since the crisis began. After several rounds of quantitative easing, a phased peak of $4.5 trillion came in 2014. Until early 2017, President Trump appointed a lawyer without economics education background, Mr. Powell, to serve as the chairman of the Federal Reserve. Mr. Powell was at odds with Trump, so he shrank the balance sheet drastically, for the whole year 2017. As a result, the US financial market began to went wrong. In the summer of 2019, the corporate bond and junk bond markets in the United States began to turn bumpy, so Powell had to start expand the balance sheet again on a large scale from October 2019. Please note that in February 2020, before the turmoil of U.S. macroeconomics, its balance sheet had already re-expanded to $4.2 trillion. Then came the outbreak of the COVID-19 pandemic in the U.S. and Europe, and the entire economy began to shut down. Therefore, QE infinity policy came out. By the end of 2020, it had expanded to 7.5 trillion US dollars.

I estimate that according to the future political and economic trends of the U.S., by 2025, the Fed’s balance sheet may expand to about 15 trillion US dollars, double the amount of the current. What does it mean? It means that from 2009, the Fed’s balance sheet expanded about 16 times in 16 years, with an annual growth rate of about 18%. Such a continuously expanding Fed balance sheet means that if any government has been conscientiously accumulating dollars and U.S. debt, it will be a poor country eternally. It can’t be rich. Its principle is the same as that of Chinese working-class families, who always feel that they can make a fortune as long as they obey ancestors’ words, being diligent and thrifty. But in fact, when the ancestors told them to be diligent and thrifty, currency system was based on the standard of precious metals, gold, silver, copper, and tin. The fortune they saved is solid metal, won’t easily depreciate. But after 1971, in the era of the sovereign credit, it is meaningless for you to deposit any more. By expanding so much of its balance sheet, the Fed is depriving savers all over the world, not only those in China, Japan, the Middle East, but also its own middle class.

[Title:Who does the Fed’s seigniorage subsidize?]

From a political point of view, who is being subsidized after so much seigniorage is levied? Of course, it’s the poor in the United States. They’re at the bottom of the society and have little savings. Many poor people in the United States live on federal and local government welfare subsidies. With the impact of the COVID-19 pandemic, the poor have received lots of cash. But if you calculate the scale of the cash, it only accounts for a small part of the incremental national debt. It’s well publicized, but actually it only takes up a very small proportion. The poor aren’t able to save it in their accounts, because it’ll be spent soon. The beneficiaries remain to be US capital owners. Because in the post-crisis era, the labor wages in the United States have not risen. Except for a few cities, the housing prices in the United States hardly went up. On the contrary, the U.S stock market soared, especially the stocks in high-tech, and internet industries. The outbreak of the COVID-19 pandemic caused tragic unemployment and social pain. After the depression, the U.S. stock market rebounded dramatically under the stimulus of QE infinity. In May 2020, the Nasdaq index “recaptured the territory” lost at the beginning of the year, and then repeatedly hit new highs all the way.

From the perspective of international political economy, this is very ironic. After this crisis, the poor have no jobs and can only survive on food stamps and temporary government cash payments. The middle class is also facing difficulties such as unemployment, mortgage and car loan pressures, and so on. However, the richest American capital class haven’t suffered great stock loss, but a surge in price according to super quantitative easing policy. This is the powerful redistributive effect of monetary policy.

No matter how big a crisis the United States encounters, it can share the loss with the whole world using this seigniorage effect of dollar hegemony.

Trillions of newly-added dollars and euros will flow to commodities and assets in the global periphery, triggering global inflation and asset prices surging. All kinds of commodities prices are going up, and the welfare of residents in developing countries is indeed seriously damaged.

In this sense, to achieve the great rejuvenation of our Chinese nation, in addition of the first step of industrialization, we must promote the internationalization of the RMB and compete with the United States for global seigniorage, rather than pay other countries. Because only when your currency becomes international can you truly and effectively protect the wealth that you created with hard work. That’s why I have always been advocating that China should firmly promote the internationalization of our RMB, and replace a large proportion of the high-interest local government debt with low-interest national debt, so as to enlarge and deepen our national debt pool and make it a risk-free pool of assets that could rival and compete with U.S. Treasuries, attracting savers around the world to put their reserves into our pool of Treasuries.

[Key Takeaways]

1. Before 2012, China subsidized its domestic manufacturing industry with land finance and RMB seigniorage to help compete internationally, resulting in huge differences in the rate of return of different assets, and also resulting in gaps between regions and different income levels. A significant domestic redistributive effect occurred.

2. The QE infinity implemented by U.S. has hurt America’s underclass and global peripheral countries, but it has greatly benefited its richest.

3. China needs to obtain a certain amount of global seigniorage through RMB globalization, protect its wealth, and break the invisible armor of the United States.

Finally, let’s summarize the key points.

Before 2012, China subsidized its domestic manufacturing industry with land finance and RMB seigniorage to help them compete internationally, resulting in huge differences in the rate of return of different assets, also resulting in gaps between regions and various income levels. A significant domestic redistributive effect occurred.

The QE infinity policy implemented by U.S. has hurt America’s underclass and global peripheral countries, but it has greatly benefited its richest. China needs to obtain a certain amount of global seigniorage through RMB globalization, protect its wealth, and break the invisible armor of the United States.

Well, that’s it for this lecture. You’re welcome to leave a message below and join the discussion, or share this talk with your friends. See you next time.