Bahamas should rethink cozy relationship with the Yuan

First Published: 2016-08-21

The Chinese government is clearly pushing for countries such as the Bahamas to link their currency with the Yuan. The Chinese government’s purpose, its fairly clear, is to attempt to offer their currency as a counter-weight to the U.S. dollar as a global reserve currency and international medium of exchange. In addition, they desire to tie a network of countries closer to their economy and economic system for financial and trading and political purposes.

It is certainly true that the value of the U.S. dollar and changes in it are highly politicized in the sense that the foreign exchange rate of the U.S. dollar vis-a-vie other currencies is dependent upon the monetary and interest rate decisions of the Federal Reserve, the U.S. central bank.

Countries linking their own currency to the international value of the dollar, therefore, have their currency’s value partly dependent on Federal Reserve policy. Historically, many some countries in Latin America who have followed this course have been saved from the experience of severe inflation that has plagued some nations in the Western Hemisphere.

For instance, Panama does not even have its own separate currency, instead, using the U.S. dollar as its domestic medium of exchange. It has not experienced they type of dramatic and destructive fluctuations in its monetary system that too many other Latin American countries have suffered over the decades.

The question, therefore, is: Would the Bahamas have a greater degree of domestic and foreign exchange rate currency stability linking its own Bahamian dollar to the U.S. dollar or to the Chinese Yuan?

The financial and international currency markets around the world have entered uncharted waters since the banking crisis of 2008-2009. Over the last eight years, central banks in the U.S., Europe and Japan have introduced novel forms of monetary and interest rate intervention within their jurisdictions.

Trillions of new dollars, Euros and Yen have been created. Interest rates have been manipulated and pegged at rates so low, historically, by these central banks that when adjusted for price inflation, real and some nominal interest rates are in the negative range. The interest rate steering mechanism that is supposed to bring savings and investment into balance for financial stability and coordination within nations and across international borders has been virtually abolished.

This has fostered a unique degree of monetary, financial and banking uncertainty not seen since the Great Depression of the 1930s. Linking a country’s currency to the U.S. dollar, therefore, does not guarantee the same certainty of relative currency and foreign exchange rate stability that was assured in the past.

However, this does not necessarily imply that linking the Bahamian dollar to the Chinese Yuan offers a more stable and certain alternative. The Chinese government since the financial crisis of 2008-2009 has been equally or even more "activist" in his domestic economic interventions as the major Western central banks.

Indeed, the Chinese economy is far more heavily politicized than most Western economies. I mean by this that the Chinese central bank not only manipulates interest rates to influence the amount of domestic investment is undertaken in China. The central bank and the central government in Beijing also politically determine who gets borrowed sums from Chinese banks and the form and types of specific investments to be financed or kept afloat by refinancing.

This means, as a significant number of expert analysts have suggested, the Chinese economy is highly leveraged, and out of balance with industrial and construction investments that have little relation to any realistic market-based allocation and use of investable resources.

Fearful of social unrest that might challenge the ideological legitimacy of the communist regime and therefore threaten its continuing control of power, the Chinese government authorities and its central bank are geared to interest rate and currency changes that primarily focus on maintenance of domestic political stability. Its foreign exchange rate policy reflects this in terms of export-related enterprise profitability and domestic employment. Everything is dictated by the Communist Party’s domestic political needs.

This makes Chinese currency and foreign exchange rate stability, looking to the future, potentially more uncertain than even the future course of the U.S. dollar. The Chinese financial and currency markets are far more politicized — a captive hand-maiden to the political needs of those in power fearful of social upheaval and demands for Western style democracy.

If the Bahamian government and central bank do not want the Bahamian dollar to freely float with its value set by market-based forces of daily supply and demand on the foreign exchange market vis-a-vie the U.S. dollar, the Euro, the Pound, the Yen, etc., then it would probably be more judicious to link the Bahamian currency to a index of a basket of the leading world currencies rather than to any one currency whose value may be more volatile than an average of several.

This would also reduce the additional uncertainty of excessive pressure or influence by the Chinese government on Bahamian politics and economics. The Chinese are infamous in various parts of the world of offering "aid" or subsidized loans or investment projects; but a number of countries in, say, Africa have found that "strings" end up being tied to the relationship over time. Political and economic strings that may not be in the longer run best interests of the recipient nation receiving that subsidized aid and those investment projects from the Chinese government.

Dr. Richard M. Ebeling is the BB & T Professor of Ethics and Free Enterprise Leadership at The Citadel in Charleston, South Carolina, He was formerly professor of Economics at Northwood University. Was formerly president of The Foundation for Economic Education (FEE), was the Ludwig von Mises Professor of Economics at Hillsdale College in Hillsdale, Michigan, and served as president of academic affairs for The Future of Freedom Foundation (FFF).

Visit Dr. Ebeling’s Archive here…

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