Consider the exchange rate model under flexible prices. The money supply is initially M¯ 1 and until time T1 it is assumed that this money supply will be maintained into the indefinite future...

Why should China keep its exchange rate pegged to US dollar?
Introduction:
The productivity growth of China is very high relative to other countries. China is continued to accumulate large surplus of USD exchange reserve and its trade surplus has been rising. The result has been a strong American pressure on China to appreciate further. The US current account deficit has risen due to high borrowing by US in dollars from the other countries. It contributed to raising economic imbalances in the world. In 1991, the US current account touched zero and in 2006, its deficit reached to 7% of GDP. The large part of this financial transfer comes from the countries with large trade surpluses such as Japan and China. China is keeping large trade surpluses in dollars that led to increase commercial presser for Asian countries to appreciate their currency. China is a large exporter of finished goods however, the profit margin in the Chinese’s products are not high because, the inputs or raw materials for the products are imported. China is the major exporter that surge into the saving deficient in the US economy. Japan, Germany and several East Asian countries have bilateral trade surpluses with China. The large numbers of Americans use Chinese manufactured products but the American manufactures are facing competition from the China’s manufacturers. Therefore, rising in China’s bashing focused that renminbi should be appreciated to reduce the competitiveness of Chinese industry. In 2005, it led the US government to impose a 27.5% tariff on all imports from China.
The US treasury is required to assess that whether countries with high trade surpluses such as China are manipulating exchange rates to gain an unfair advantage from international trade. In 2006, it has not decided that China is a currency manipulator but their decision would change if future renminbi did not appreciate...