Anxiety Builds Over Yuan

Anxiety Builds Over Yuan
Workers in a China factory

LOS ANGELES — Footwear execs reacted with concern last week after the Chinese government said it would allow its currency, the yuan, to float.

“The assumption, based on their statements, is that they would do a managed float similar to what they were doing prior to 2007,” said Nate Herman, VP of international trade for the American Apparel and Footwear Association. “That would mean it would be a slow, gradual change, but that is really an assumption. Their statement was too vague to figure out. All it has done is create uncertainty.”

While many in the industry had been anticipating an adjustment, most agreed that it comes at a particularly challenging time, as costs for everything from raw materials to transportation to labor are sharply on the rise.

“For the shoe business, this couldn’t have come at a worse time,” said Jim Issler, president and CEO of H.H. Brown. “The labor shortage has sent all of us in the industry scurrying to procure production. It’s a double whammy. In the end, it’s going to mean higher prices for shoes.”

Just how much will the currency rise? That’s hard to say. A statement from the People’s Bank of China was artfully nonspecific when announcing how and when the change would occur.

“In view of the recent economic situation and financial market developments at home and abroad, and the balance of payments situation in China, the People’s Bank of China has decided to proceed further with reform of the [yuan] exchange rate regime,” said the statement. “The global economy is gradually recovering. The recovery and upturn of the Chinese economy has become more solid with the enhanced economic stability. It is desirable to proceed further with reform of the [yuan] exchange rate regime and increase the [yuan] exchange rate flexibility.”

China first began a managed float of its currency in 2005 in response to international pressure. Instead of pegging the value of the yuan to the dollar, China’s central bank at that time set about determining the exchange rate based on a basket of currencies. When the current economic crises hit, government officials reverted to earlier policies. Now, officials once again feel the timing is right for a revaluation, though many have speculated that the decision was made as an appeasement prior to this weekend’s G20 summit in Toronto, where leaders from 20 key economies will meet.

Footwear execs were hesitant to even guess as to how much the currency would appreciate, but when pressed, most speculated a low to mid-single-digit increase.

“I think we’re looking at 6 percent to 8 percent this year,” said Chinese Laundry CEO Bob Goldman. “The reality is that it’s so undervalued that [the Chinese government] has to do something. The financial people think it could be as undervalued at 35 percent to 40 percent.”

“In the middle part of the last decade, we saw 16, 17, 18 percent increases in the currency,” said Matt Priest, president of the Footwear Distributors & Retailers of America. “In two or three years, it could be 20 percent.”

Jerry Turner, CEO of American Sporting Goods Corp., said that while the news certainly isn’t good for shoe manufacturers, it’s still minor compared with the other cost challenges that companies face.

“The reality is that a 2 or 3 percent increase in the currency isn’t as large as the 20 percent increase in the cost of labor that has taken place over the last three months, plus the increase in raw material costs,” he said. “So, yes, it means something, but it’s just one more thing that is increasing costs.”

Turner also stressed that a rise in the value of the currency does not necessarily translate into an equal increase in costs, since raw materials, labor and transportation all factor into the cost structure and may or may not be paid in U.S. dollars.

But that has not prevented major footwear companies from already feeling the sting of the change in policy.

Susquehanna Financial Group issued a report last week saying the currency appreciation would likely affect operating budgets throughout the industry. “The [yuan] appreciation is generally a negative for the footwear sector,” the report said. “Overall, we would expect a stronger [yuan] to negatively impact product costs for our branded universe, as factories adjust selling prices to appropriately reflect a stronger [currency].”

Similarly, Wall Street Strategies Inc. stated in an investment report that the revaluation comes as retailers are already struggling to regain business lost from the recession.

“The [yuan] dynamic now joins the growing list of things retailers did not want to hear at this point in the year,” said the report. “Consumers may be back in the malls and outlets with money derived from personal asset write-downs and mortgage refinances, and there are signs of demand for products at higher price points, but the majority of John Q public is still very price sensitive.”

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