Discussion of Dekle and Ungor’s

“Chinese Agricultural Productivity and the Long-Run

Behavior of the RMB-USD Exchange Rate”
Chi-Wa Yuen
University of Hong Kong
May 24, 2013

Correspondence: School of Economics and Finance, University of Hong Kong, Pokfulam, Hong Kong.
[Tel: +852-2859-1051; Fax: +852-2548-1152. E-Mail address: cwyuen@hku.hk]
 Discussion of Dekle and Ungor

1 A puzzle?
Why was there no secular appreciation of the RMB-USD real exchange rate (RER) during
the period 1989-2006 despite the much higher rate of output growth in China relative to that
in the US? Does this observation (depicted in Figure 1) constitute a puzzle?
In theory, RER is de…ned as the relative price between tradables and non-tradables—
i.e.,
PT
RER1 :
PN
In practice (as employed in Figure 1), RER is often measured by

CP I ER$=$
RER2 :
CP I
Since the consumer price index is a weighted sum of tradable and non-tradable prices
say, CP I = PT PN1 ; the movement of RER2 can be driven not only by changes in the sup-
ply (or productivity growth) of tradables and non-tradables in the two countries (“starred ”
for foreign and “unstarred” for home), but also by changes in their demand and possibly
by time-variations in the weights of tradables ( and ) ; as well as by changes in the sup-
ply and demand of domestic and foreign money. In this sense, the observation does not
necessarily constitute a puzzle.
Life can be simpli…ed by assuming PT = CP I ER$=$ (approximate version of
1
PPP?), so that RER2 = (RER1 ) and hence one can ignore the e¤ects of nominal exchange
rates and foreign non-tradables (and ). Assuming further intersectoral factor mobility
and international capital mobility, we can follow Balassa and Samuelson and relate RER
movements to relative productivity shifts as follows:

N
[ 2 = (1
RER [ 1 = (1
) RER ) A^T A^T A^N A^N ;
T

where x^ represents the percentage change in variable x; the output share of labor, and A
the productivity parameter. If the non-tradable sector is no less labor-intensive than the
tradable sector ( N T ) ; then change in RER would depend directly on the “di¤erence-
in-di¤erence” in tradables and non-tradables productivity growth within and between the
two countries, independently of international di¤erences in consumer preferences. In other
words, the observation that RER [ 2 0 while A^T A^N > A^T A^N becomes a puzzle only
if these additional assumptions are imposed. And strictly speaking, this logic holds only in
the context of two-country worlds (whereas, in reality, China and the US both have other
trading partners).

2 Resolving the puzzle?

If one is willing to accept it as a “puzzle,” then how can it be resolved? Instead of trying
to resolve it by examining the empirical validity of these additional assumptions [cf. Tyers-
Golley (2008)], Dekle and Ungor resort to the arguments that, like manufactured goods,
agricultural products are tradable and that agricultural productivity is relatively low in

Chi-Wa Yuen 1
 Discussion of Dekle and Ungor

China (so that A^T A^N ' A^T A^N ).

But is this truly a resolution of the puzzle? Brandt, Hsieh, and Zhu (2008) would
probably say “no.” From their growth-accounting exercises, these authors discover somewhat
surprisingly that the distinctly superior growth of farm labor productivity has played a
signi…cant role in the growth of the Chinese economy since 1978. The following is an
excerpt from their Table 17.4 on estimates of average annual labor productivity growth:

1978-2004 1978-1988
agriculture 6:76% 5:52%
non-agriculture 4:65% 2:29%

Unlike Dekle-Ungor, who assume a linear production technology with labor as the only input,
Brandt-Hsieh-Zhu derive their estimates of sectoral labor productivity from a Cobb-Douglas
function with both capital and labor inputs. If we take the latter seriously, then we have
to look elsewhere for the true answer to the puzzle.

3 Calibration exercise
Dekle and Ungor then formulate and calibrate a dynamic Ricardian 2-country, 3-sector
model, and then use it to simulate (among other things) the time paths of the RMB-USD
RER from 1989 to 2010. While their model succeeds in replicating RER depreciation during
the earlier part of the period, it fails to generate RER appreciation beyond, say, 2006 (and
time-invariant RER in between the two periods). Instead of viewing the latter as model
failure, they claim instead that “the actual real RMB-USD exchage rate today is overvalued.”
In fact, I am very much confused by their choice of terminologies here. As suggested
by the title of the paper, the focus should be on the long-run behavior of RER. In the
context of the model, “long run”means steady state or balanced growth path (and there is
indeed an appendix on this). But the simulations (and data) in Figures 4-9 reveal that the
two economies have not yet reached a long-run steady state, so that the graphs are merely
showing the short-run behavior of RER. This is not surprising, given that China is genuinely
a transition economy. But then, how are we supposed to reconcile these short-run results
with the long-run implications of the Balassa-Samuelson hypothesis?

4 Conclusion
A lot of loose ends to tie up. Two more examples below.

The counter-factual restriction of exact intratemporal trade balance (given the assumed
absence of capital and hence capital ‡ows) is troubling, especially when the countries
in question are China and the US.

More sensitivity analysis— with respect to, say, ; ij ; and j (and reference year).
Should not matter in the long run, given that the Balassa-Samuelson result is preference-
free?

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 Discussion of Dekle and Ungor

References
[1] Brandt, Loren, Chang-tai Hsieh, and Xiaodong Zhu, “Growth and Structural Transfor-
mation in China,”in Loren Brandt and Thomas Rawski (eds.), China’s Great Economic
Transformation, Cambridge University Press, 2008.

[2] Tyers, Rod, and Jane Golley, “China’s real exchange rate puzzle,”Journal of Economic
Integration, 2008, 23(3): 547–74.

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