China’s Fixed Exchange Rate; What It Means for Snowboarding

My very first article for TransWorld, which became Market Watch, was on foreign exchange. I guess in some sense we’ve come full circle. But it’s never much fun ending up where you started, so I want to ask your help in keeping Market Watch valuable to you and occasionally controversial.

It use to be, when the pace of change and general dynamism of snowboarding was greater, that my problem was picking among a bunch of topics I felt should be addressed. Now, for better or worse, the industry is a little less dynamic than it use to be. What are the issues that Market Watch should be focusing on now? Is there a continuing need for the column? Leading edge topics seem fewer and farther between. Got any ideas? Want me to just shut up and go away? I don’t want to write Market Watch just because I’m in the habit of doing it. Email me at jeff@jeffharbaugh.com. Thanks.
 
Meanwhile, back on China and its exchange rate. Maybe a month ago, somebody emailed me about an article I’d written in SkateBiz on production in China. They said, “Hey, what about the fact that the Chinese currency (the Yuan) maintains a fixed exchange rate of 8.28 Yuan to the dollars?”
 
They have a point and I really wish I could find that email to thank them by name.   I also wish I’d thought of it first.
 
Fixed Exchange Rate
 
Most major currencies (the Japanese Yen, Eurodollar, British Pound to name a few) float against the dollar. That is, the amount of foreign currency you can buy for one U.S. Dollar changes daily based on productivity, interest rates, economic growth, etc. Not so with the Yuan. By buying and selling currencies on the open market, the Chinese government maintains a stable exchange rate against the U.S. Dollar. So what?
 
Estimates are that the Yuan is as much as 40% undervalued against the Dollar. So What?
 
Let’s imagine for a minute that the Chinese suddenly allowed their currency to float and that over some period of time, it revalued by 40%. That is, your crisp greenback would, at the end of that period, buy 40% less from China for the same number of dollars than it had before. Another way to look at it is that the Chinese could buy 40% more U.S. goods for the same number of Yuan. Would that be a good thing or a bad thing for the snowboard industry? Would you be surprised to learn that the answer is, “It depends?”
 
The Chinese like this arrangement. It has been critical to the growth of their economy. Their exports to the U.S. doubled between 1997 and 2002 from $67 to $125 billion. During the same time period, U. S. exports to China have grown only from $13 to $19 billion. It means that Chinese capital tends to stay in China, rather than be used to purchases various foreign products, and that additional investment flows to China.
 
The general consensus, however, seems to be that floating exchange rates promote the efficient allocation of capital. Over the long term, it makes things better for everybody.
 
But in the words of the economist John Maynard Keynes, “In the long run, we are all dead.” He has a point, and he should know ‘cause he’s dead. Most currencies are managed to some extent by open market operations, tariffs and/or quotas. The U.S., the world’s greatest proponent of free trade, is no exception, so let’s not be throwing too many stones here. Well, let’s face it; it’s not always the role of a national government to make things better for the whole world. And imagine the outcry from consumers when everything they had bought from China was suddenly 40%, or even 20%, more expensive. Politicians aren’t necessarily great at dealing with stuff like that.
 
At a time when more and more snowboard product (hard and soft goods) is coming from China, who would be the winners and losers in a revaluation of the Chinese currency? Let’s look at a couple of specific examples.
 
Winners and Losers
 
I don’t think there’s a company in the industry that doesn’t get some product or product component from China. But to me there are a couple of companies that make for an interesting comparison.
 
K2 spent a whole lot of money and put forth a lot of effort to move their snowboard production to China. I didn’t necessarily like seeing it happen, but I thought it was probably the correct business decision given that they already had an established facility there. If the Yuan was suddenly revalued by 40% (which I don’t see happening as I’ll discuss below) what would be the impact on K2’s Chinese production? Assuming they kept the same price structure, their price in the U. S. would have to go up by 40%. Actually, I guess a little more than that, since the duty would go up based on the higher import price.
 
I don’t know what they’d do- move their production back to Vashon Island maybe? Kind of doubt it. To use the international technical financial term, they’d be shafted.
 
In obvious juxtaposition (god, I love that word) to K2 is Seattle based snowboard manufacturer Mervin Manufacturing. Mervin has used every technique of technology, waste reduction, process engineering and a generally positive attitude to keep making snowboards in the U.S. “Made in the USA” has been the major focus of their advertising. Now, even they are looking at bringing in a price point, Chinese made board. They don’t much like it, but they feel like it’s a necessary competitive move.
 
A 40 percent revaluation of China’s currency maybe wouldn’t solve all their problems, but it would sure make them more competitive, at least against Chinese made snowboards. I mean, if they are making ends meet now, what could they do if other companys’ products suddenly cost them 40% more? Assuming a substantial part of that cost increase was passed on to retailers and, ultimately, to consumers, Mervin’s products would look pretty attractive.
 
Yes, I know that China isn’t the only cheap place to buy product. Yes, I know that just because your costs go up doesn’t mean, especially these days, that you can raise your prices by the full amount of the cost increase and expect consumers to swallow it. But it’s pretty clear that the undervalued Chinese currency had a lot to do with K2 moving production to China and Mervin moving to get some boards from there.
 
And the interesting thing is that everybody has always focused on low Chinese labor costs as the driver of production moving to China. What I’m saying is that it ain’t. I recently read about another company (not in the snowboard business) that said, “Hey, we can beat their labor cost advantage with technology, but we don’t have a chance against that artificially undervalued currency.” My guess is that the guys at Mervin might echo their sentiments.
 
Kind of puts a new spin on things doesn’t it?
 
Don’t Hold Your Breathe
 
Waiting for the Chinese to revalue their currency to make competition “fairer,” that is. In the first place, they’re kind of happy with the way things are. In the second place a lot of American companies love buying cheap stuff from China. A lot of consumers (including all of us I imagine) like buying cheap Chinese stuff. The issue of the value of China’s Yuan is actually getting quite a bit of press these days. The consensus is that there might be some gradual revaluation, but nothing quick and dramatic.
 
One of the reasons is that the Chinese, as they like to remind our government, is the second largest buyer of United States Treasury debt securities. With our record deficit approaching $500 billion this fiscal year, we’d kind of like them to keep buying them, so we should back off, thank you very much. To buy them, they need all the dollars they get from selling us stuff cheap and not buying much in return, which requires a week Chinese currency. So snowboards are made in China.
 
Kind of a complicated, mercantilist, financial house of cards isn’t it. Didn’t work for the Dutch or the English or, come to think of it, for the Romans. Guess I’d better move on before it starts to sound like I’m taking a political position.
 
Floating exchange rates really do help level the competitive playing field, more or less. But in snowboarding don’t hold your breath.