Trade Flows Versus Capital Flows: Are China’s Trade Surpluses Overestimated?

Abstract

ABSTRACTChina has received massive foreign capital inflows after experiencing capital flight earlier in the last decade. The present paper offers estimates of capital inflows into China through the misinvoicing of trade after having outlined a model describing how trade prices could be manipulated by firms. In fact, the widely perceived undervalued Yuan has fueled expectations of a future revaluation of the Chinese currency. In a panel gravity modeling framework, we show that, China’s export and import prices for some commodities are sensitive to the non-deliverable forward exchange rate for the RMB in Hong Kong. In light of the evolution of this rate, which has rather systemically reflected anticipated revaluation of the Chinese currency, it is contended that the persistent Chinese trade imbalances may actually camouflage hidden ‘hot money’ inflows. Our findings provide evidence for export over-invoicing and import under-invoicing.