Undervalued Currency

The situation of a currency whose value on the exchange market is lower than is believed to be sustainable.

For example, the Chinese currency the Renminbi is undervalued by approximately 30%. This is a source of friction in the US, with firms claiming they lose out to a cheap Chinese currency which can undercut U.S. goods. How does China keep its currency undervalued? The Chinese Central Bank purchases large quantities of dollar assets, such as U.S. Treasury Bills. This demand for dollars, increases the value of the dollar compared to the Chinese Renminbi, keeping the Chinese currency undervalued. An undervalued currency is important for an export driven economy like that of China because it keeps Chinese goods cheaper than U.S. products enabling it to sell more products in the U.S..