McKinsey Global Institute analyzes the US dollar and yuan

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The US current account deficit was a record $857 billion in 2006

A 45% depreciation of the dollar against the yuan would not result in balanced U.S. bilateral trade with China. The cost advantage of most Chinese exports is simply too great to be eliminated by currency movements alone. Moreover, many of the goods that the U.S. imports from China are not manufactured domestically. Nor are they available in sufficient quantities—at least at the moment—from other low-cost markets.

Looking across countries and export categories, our research finds that over the next few years, the U.S. has ample opportunity to boost service and manufacturing exports, by as much as $450 billion by 2012. The U.S. could also over time reduce oil imports by increasing energy efficiency and developing alternative fuel sources. But the analysis shows that these measures would at best reduce the U.S. current deficit only very modestly, leaving it at 6.3% of gross domestic product in 2012.

To reduce substantially or eliminate the U.S. deficit would require a 25% to 30% dollar depreciation from the level that prevailed in January, 2007. The U.S. trade balance with its NAFTA partners—Canada and Mexico—would face a major adjustment. With no further currency interventions, the current deficit of $109 billion would swing to a surplus of $100 billion or more.

Should China and other Asian countries continue to peg their currencies to the dollar, the greenback would need to fall by nearly 40% against the rest of the world’s currencies to close the current account deficit. Should Asian countries allow their currencies to strengthen, however, the required dollar depreciation against the rest of the world would be much less dramatic: an estimated 25%.

I have reported in the past on the yuan and that it will likely appreciate at a rate of 5-12% per year

I have predicted that China’s overall economy will pass the USA before 2020 on an exchange rate basis

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