The Yuan Scapegoat (Wall Street Journal, March 18) As if the world economy wasn’t fragile enough, politicians in the U.S. and China seem intent on fighting an old-fashioned currency war. The U.S. is more wrong than China here, and it’s important to understand why, lest the two countries send the world back to the dark age of beggar-thy-neighbor currency protectionism. *** The battle concerns China’s decision to peg its currency, the yuan, to a fixed rate of roughly 6.83 to one U.S. dollar. To hear the American political and business establishment tell it, this single price is the source of all global economic problems. The peg keeps the yuan “undervalued” in this telling, fueling China’s exports and harming the U.S., Europe and everyone else. If the Chinese would only let the yuan “float,” it would soar in value, China’s export advantage would fall, and the much-despised " imbalances" in global trade would end. President Obama has picked up this theme, calling last week for Beijing to adopt “a more market-oriented exchange rate” that “would make an essential contribution to that global rebalancing effort.” Less diplomatically, 130 Members of Congress sent a letter to Treasury this week demanding that unless China lets the yuan rise in value, the U.S. should impose tariffs on Chinese goods. Just what the world needs: a trade war. At the core of this argument is a basic misunderstanding of monetary policy. There is no free market in currencies, as there is in wheat or bananas. Currencies trade in global markets, but their supply is controlled by a cartel of central banks, which have a monopoly on money creation. The Federal Reserve controls the global supply of dollars and thus has far more influence over the greenback’s value than any other single actor. A fixed exchange rate is also not some nefarious economic practice rare in human affairs. From the end of World War II through the early 1970s, most global currency rates were fixed under the Bretton-Woods monetary system created by Lord Keynes and Harry Dexter White. That system fell apart with the U.S.-inspired inflation of the 1970s, and much of the world moved to " floating rates." But numerous countries continue to peg their currencies to the dollar, and with the establishment of the euro most of Europe decided to move to a fixed -rate system. The reason isn’t to get some trade advantage against their neighbors but to gain the economic benefits of stable exchange rates—and in some cases a more stable monetary policy. A stable exchange rate eliminates a major source of uncertainty for investment decisions and trade and capital flows. The catch is that under a fixed-rate system a country yields some or all of its monetary independence. In the case of euro-bloc countries this means yielding to the European Central Bank, and for dollar-bloc countries to the U.S. Federal Reserve. This is what China has done with its yuan peg to the dollar. By maintaining a fixed yuan-dollar rate, China has subcontracted much of its monetary discretion to the Fed in return for the benefits of exchange-rate stability. For more than a decade, this has served the world economy well, leading to an explosion of trade, cheaper goods for Americans that have raised U.S. living standards, and new prosperity for tens of millions of Chinese. For years, the U.S. establishment has nonetheless been pressing China to " revalue" the yuan in the name of reducing the U.S. trade deficit. Never mind that much of this deficit is intra-company trade, with U.S. companies outsourcing production to China to stay globally competitive (and their U.S. workers and shareholders profiting). Beijing bent for a while in the middle of the last decade and adopted a crawling peg that revalued the yuan by about 18%, but that had little impact on the trade deficit. China re-fixed the peg amid the financial panic of 2008, and now the American “revalue” clamor is rising again. China is right to resist these calls, not least because a large revaluation could damage China’s growth. China has learned from the experience of Japan, which bowed to similar U.S. currency pressure in the 1980s and 1990s, revaluing the yen from 360 to the dollar to as high as 80 in 1995. As Stanford economist Ron McKinnon has shown, one result was domestic deflation in Japan and its lost decades of growth. Meanwhile, Japan continued to run a trade surplus, as imports fell with slower internal growth and cross- border prices adjusted. China has helped to lead the global economy out of this recession, and the world needs that to continue. One proposed alternative is for China to once again move to a crawling peg, with a modest revaluation. But that would only invite more pressure on the yuan, as global “hot money” and currency speculators anticipate a further yuan rise. This is especially true with the Fed keeping dollar interest rates at zero, which also encourages more hot money into China in anticipation of a rising yuan. __________________________________________________ the authur stated that there is “no free market in currency”. I wonder how accurate is that.
“China has helped to lead the global economy out of this recession…” I’m not sure what they really mean by this. I suppose it is true that China was one of the first countries to rebound from the crisis, so if “lead the global economy” simply means they were first, then that’s fine. But has China actually pulled the rest of the global economy along with it? Perhaps for commodity exporting countries like Brazil, Canada, and Australia, but I don’t see that China’s growth has been instrumental for the US recovery, such as it is. They are still buying treasuries, I suppose, so they help bankroll the stimulus, but I suspect they are lukewarm on that. As far as revaluing the currency. I think the main competitive advantage of China is their enormous supply of cheap labor. I suspect that the Yuan could revalue 20% or so and it would only affect the terms of trade around the margins, and actually, probably the main benefit would be in the commodity exporting countries. The concern for China for the Yuan is that the marginal reduction in exports is likely to leave enough people unemployed that it could be a social problem. So, yes, the value of the Yuan is a relevant issue, but I think it is also a big political point to deflect blame too.
Although keeping the CNY low does benefit China’s economy and especially exporters within the country, I believe China realizes the need to revalue in order to avoid serious overheating that they can’t control with monetary policy alone. Furthermore, in order to maintain the peg, china is accumulating vast amounts of US debt and US dollar foreign reserves, which the Chinese have already expressed concerns about. At this point, China just can’t yet go back to adopting the crawling peg they abandoned because of the crisis, since they too are still recovering from the economic upheavel we just went through. But I do reckon they would come around to resuming it, if left to do so on their own terms. The worst thing the US could do at the moment is put too much pressure on the Chinese to revalue. China will not “lose-face” by giving into such coercion. Furthermore, using something as harsh as trade tariffs that could have far more serious repercussions to global economic welfare and political stability is simply reckless and unnecessary.
I do agree that China will no revalue unless it “gets something” for it. What that something is will either be some kind of external concession or some internal need (though I can’t figure out what that internal need would be, other than cheaper commodity imports).
Here’s a related article from Stratfor (excellent website): Obama’s Export Strategy U.S. PRESIDENT BARACK OBAMA ANNOUNCED DETAILS of his National Export Initiative on Thursday during a speech to the U.S. Export-Import Bank in Washington, D.C. Obama’s stated goal is to double U.S. exports by 2015 and create two million jobs in the process. He will create an Export Promotion Cabinet with representation from the departments of Commerce, Treasury, State and Agriculture, as well as from other trade-related government bodies. He will also reform the President’s Export Council, an advisory group, putting the chief executives of Boeing and Xerox in charge. The reasoning behind the strategy is simple. The United States is recovering from a recession that has left the nation with a high unemployment rate, ailing manufacturers and a public that is nervous about spending and enthusiastic about saving. Yet American companies produce an endless variety of high-tech and high value goods — including computer software, advanced machinery and Hollywood flicks — which others might want or need. In the past, most U.S. companies focused almost solely on the robust domestic market for their goods. American companies that did seek out foreign markets were at a disadvantage when competing with foreign businesses whose governments took an active interest in promoting their cause. But if the U.S. government could use some of its political influence with other states to clear the path for exports into those markets, then U.S. businesses could have a much larger pool of consumers. Hence Obama’s desire for executive-level coordination with American companies that want to find markets abroad. In particular, the Obama administration is thinking of moving forward with preferential trade agreements with Pacific Ocean Basin states, and is also eyeing the large populations of developing economies — like India, Brazil, Indonesia and China — that could use top-notch American goods. Regardless of the feasibility of Obama’s claim to double exports in five years, even marginal gains into these markets could add considerably to overall American exports. Yet a push by the Americans to open up foreign markets is no easy matter. In fact, if sincerely pursued, it could — ironically — reverse one of the primary conditions contributing to global stability over the past 60 years. The world was a fairly mercantile place before World War II. Empires established colonies not merely to get access to raw materials, but to gain captive markets. When commercial interests clashed, skirmishes were common, and often erupted into full-blown war. Imperial Japan is a good example. The U.S. attempt to block Japan from appropriating the Dutch East Indies oil production and domineering over China was the proximate cause for Japan’s attack on Pearl Harbor. Of course economic interactions can still ignite conflict, but they have not done so on a global scale since WWII. Why? “In the past, most U.S. companies focused almost solely on the robust domestic market for their goods.” One of the leading reasons the world has been so stable is because the traditional merchant powers have had a deep market to sell into: the United States. Part of the peace accords and reconstruction of Japan included granting it full access to the U.S. market as well as full American protection of Japanese trade lines. Part of the peace accords and reconstruction of Germany included a similar arrangement. These arrangements proved so successful in containing Japanese and German imperial ambitions, revitalizing and enriching their economies, and giving them a powerful incentive to be part of the U.S. alliance structure that the pattern was repeated throughout Western Europe, in Taiwan and Korea, and to a lesser degree in Indonesia and elsewhere. By granting these states privileged access to the American market — and not necessarily demanding American access to their markets in return — the United States created conditions extremely favorable for its allies’ economic development and prosperity. “All” it asked for in return was the right to determine military strategy, ultimately creating a global alliance network that served American interests. The United States traded some market share to turn adversaries into allies, both reducing the number of foes and intimidating the remainder by the sheer size of the U.S. alliance structure. As a result, some of the world’s most aggressive mercantile powers became placid. They no longer had to go to war for access to resources or markets. This entire arrangement, however, rested on the basis that the United States generally did not use the full force of its state power in pursuit of its singular economic ends. The United States was content to buy others’ goods and run trade deficits to command the loyalty of its allies in security matters. The question with the Obama administration’s export strategy is whether it marks a change from this mode. To increase exports, one has to increase penetration into foreign economies, and a number of countries’ economies and social systems only work the way they do because they have taken shape with minimal outside pressure — i.e., minimal competition from the United States. This is not to say that many countries do not already perceive the U.S. presence as overbearing, but rather that the United States simply has not spent much energy in competing for foreign market share over the past half century. If it suddenly exerts itself in opening up the doors of trade around the world — and doubling U.S. exports would mean finding buyers for an additional $1.5 trillion dollars worth of goods — it will disrupt a lot of places. We are not saying that the Obama administration’s export strategy is good, bad, wise, unwise, feasible, unfeasible or anything else. It simply raises the question of whether it is a coincidence that when the dominant global power did not use state power to seek foreign markets, the degree of competition and ultimately violence among players on the international stage was markedly lower than in previous periods. If not a coincidence, then the full weight of the American nation behind a strategy of maximizing exports could have massive unintended consequences.
^^Don’t mean to hijack your thread lzen.