China announced on August 11 that it was devaluing its currency.
What does it mean to “devalue” a currency? How is a currency’s value determined anyway?
Here’s one definition of devaluation from Investopedia:
A deliberate downward adjustment to the value of a country’s currency, relative to another currency, group of currencies or standard. Devaluation is a monetary policy tool of countries that have a fixed exchange rate or semi-fixed exchange rate. It is often confused with depreciation, and is in contrast to revaluation.
Read more: http://www.investopedia.com/terms/d/devaluation.asp#ixzz3ic2zFdwz
Follow us: @Investopedia on Twitter
The Chinese yuan or renminbi is “pegged” to the U.S. dollar. Here’s an article from the Wall Street Journal discussing the devaluation and how the yuan is pegged to the U.S. dollar: China moves to devalue yuan . Devaluing a currency makes imports from other countries more expensive to the Chinese consumer. Thus the devaluation of the yuan will have an effect on exports from the United States to China. The U.S. economy would probably be affected by the devaluation of the yuan. This article from The Washington Post discusses ramifications of the yuan devaluation on the U.S. economy: What China’s surprise currency devaluation means for its economy and the world.
So, how is a currency “valued” anyway? A currency’s “worth” or “value” is determined by exchange rates. The Forex exchange is used to buy and sell currencies. Here’s a short YouTube video on a currency’s value determination: How is the price of a currency determined.
If you like to play with graphs, maybe the Big Mac Index from The Economist would be of interest. The Economist developed this tool to determine the price of a McDonald’s Big Mac hamburger in any two countries at the same time period.
Author’s Addendum (9/13/2015): CNBC offers two (2) short videos The China-US Currency Situation: CNBC Explains and The China-US Currency Situation: CNBC Explains (Part II). They are both on the same web page. Salman Khan of the Khan Academy explains what China’s currency situation means for U.S. consumption and how it affects the entire U.S. and global economies.