This week David Dollar has a very informative post: On exchange rates, think multilaterally. It is an analysis of the RMB exchange rates and their change over time. Using one of those useful trade-weighted indexes that the World Bank likes so much, David goes over the history of RMB exchange rates from the 90s to now, drawing conclusions on the policies of the Chinese government and their consequences at each stage.

After some retrospective paragraphs that I absolutely recommend to read to anyone who wants to understand past Chinese currency policy, he goes on to speak of the future:

There is a lot of potential for misunderstanding in this area. China feels that it has had a rapid effective appreciation and now wants to see what the real effects are before going further.The U.S. is probably looking at a substantial devaluation of the dollar against other major currencies, as the immediate financial crisis wanes and the U.S. needs to rein in its consumption and save more. If that happens, it is not in China’s interest to follow the dollar down. It will take good coordination between China and the U.S. to resolve their large imbalances in a smooth manner.

And I have the same objection that I always make to the World Bank Chinese publications: they stick to strictly economic terms, and avoid Chinese politics as much as possible. OK, I can understand being part of the WB he is not as free as this anonymous blog,  and he prefers to not stick his nose into sensitive matters. The trouble is, looking at the economy without the politics around it leaves you completely blind to see the immediate future.

I am not even close to having the experience of David Dollar or the number crunching capabilities of the World Bank, but I have eyes to see that something very big is missing in his picture. Multilateralism? Misunderstanding? Before any misunderstanding can actually happen, there has to be a will to understand. And this is far from sure at this point.

I just copy here part of the comment I wrote on his blog to show what I mean:

Still, as you imply yourself in the post, economists are always better at explaining things in retrospect. I am not sure at all that Chinese authorities will do the right thing in 2009.

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We need to keep in mind that Chinese politics always give priority to internal issues over external image or foreign affairs in general. Examples of this abound in recent times, such as their attitude towards protesters during the Olympics, or their cancellation of latest EU Summit because of DL, etc.

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If it comes to a point where unemployment gets even slightly out of control I have no doubt that Beijing will do what it takes to avoid internal problems. Including playing with the RMB, engaging in trade wars, and all the while siding with the “people” against the “Western menace”.

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We should keep an eye on Unemployment and Currency.