The Crux of the Currency Dispute
China may not be the currency manipulator the United States makes it out to be
(By YU ZUYAO，Beijing Review)
YU ZUYAO
The worst financial disaster since World War II has certainly taken its toll globally, but even with recovery in full swing the catastrophe has not been totally alleviated as economic worries still abound. Claims that the recession has gone or the world has entered a "post-crisis era" are premature. But while many countries around the world reflect on what has been and should be done to facilitate recovery, the United States seems bent on hindering those efforts by instigating a trade and currency war with China, accusing China of being a "currency manipulator." This move is obviously unfair and irrational.
Who's the manipulator?
CAR RUSH: Buick sedans produced by Shanghai General Motors move down an assembly line. Car manufacturers have shifted into high gear to fill the insatiable Chinese market (ZHAO YUN)
Even though China has become a major trading power and has changed the world economic pattern to a certain extent, it is still incapable of taking currency manipulation, considering the country's limited economic strength—its GDP is only one third of the United States'—and overall ability for such an action.
China accounts for 10 percent of the international trade volume, but most of its exported products have low added value. Its currency—the yuan—is not an international currency and cannot perform the function of a medium of exchange. Some label China as the "world factory," but the country should really be regarded as an "employee of the world." America's accusation that China is a "currency manipulator" is analogous to saying the employee manipulates the boss' money. As a matter of fact, the Chinese Government neither has the objective conditions to "manipulate" currencies, nor does it have any intention of doing so.
Every year, the U.S. Government issues a list of what it refers to as "currency manipulators" according to its own standards. The list has in effect placed U.S. domestic law over international laws and regulations. Speaking of "currency manipulation," no other country is in a greater position than the United States.
First of all, the U.S. Government has carried out a deficit financing pattern, which burdens the country with huge debts. The United States needs a large-scale and stable bond market with low interest rates to make up for the deficit and maintain government operations—since the interest rate of U.S. government bonds and its dollar exchange rate are closely related.
If the U.S. dollar is to maintain its status as a dominant currency in the world, it should perform the function of a world currency. The additional issuance of the dollar is exported to other countries through trade deficits. The United States is the world's biggest trader, but, more importantly, it holds the biggest trade deficit, making it the debtor of many countries. The simplest way to make up for the huge deficits is to start printing more greenbacks, but the U.S. Government dares not, as it might trigger a collapse of the U.S. economy due to the over issuance. Therefore, the U.S. Government must rely on other securities and economic leverage, like interest rates and exchange rates, to stabilize its currency.
The United States is the biggest capital exporting country, featured by dollar loans and investments, thus interest is an important source of revenue for its government. In order to guarantee the value of its exported capital, it must smartly leverage interest and currency rates.
Why stabilize the yuan?
China adopted a stable and step-by-step strategy in reforming its exchange rate system and has made remarkable achievements. Years of practice prove exchange rate reform should be achieved in a stable way, which not only helps realize the sustainable development of the Chinese economy, but also benefits the world economy at large. In the meantime, the stable yuan exchange rate system prevents sharp fluctuations and economic disorder from happening in the market.
In the past three decades, the exchange rate reforms among different countries can be divided into two categories. The first opens the capital market completely with no strings attached. It allows a free exchange of currency under both the capital account and the current account, eliminating government control over the exchange rate, and allowing the rate to be pegged to the U.S. dollar and to fluctuate in line with market demand. It allows free circulation and transaction of foreign currencies, removing the state-owned commercial banks' privilege in dealing foreign currencies, opening the financial industry to private and foreign capital, and privatizing commercial banks.
The other kind of approach is to take gradual steps to appreciate or depreciate the currency based on the domestic economic development and marketization progress. The government should first create necessary conditions to reform the exchange rate, strengthen economic power, and open the capital market in an orderly manner. The government will gradually loosen control over foreign exchange rates.
Clearly, China has taken the latter approach. After China allowed its currency to float within a controlled range in 2005, the exchange rate formation mechanism has been undergoing a gradual change accompanied by appreciation of the yuan against the U.S. dollar. Since 2005, the value of Chinese yuan has risen 21 percent.
At present, the value of the yuan is faced with two major challenges. In the international market, it undergoes pressures of appreciation due to U.S. allegations. But domestically, the yuan is at risk of depreciating. The reasons are as follows.
First, China currently forbids a free exchange of foreign currencies in the country. Both the foreign exchange income of exporting companies and the foreign investment in foreign currencies must be sold to the government. The government will pay for those foreign currencies with the yuan. To date, the government has accumulated over $2.4 trillion worth of foreign currencies, which means it has issued an additional 15 trillion yuan accordingly.
Second, under the moderately loose monetary policy in recent years, skyrocketing loans—as much as 9.6 trillion yuan ($1.4 trillion) poured into the domestic market last year—have been unprecedented and placed enormous pressure on the market.
Third, tremendous bank deposits have formed a potentially huge purchasing power, but convincing people and companies to spend this money presents a challenge, despite excess productivity.
Theoretically, the yuan appreciation could help relieve domestic inflation pressures. But it is nearly impossible to appreciate the yuan in the international market, while keeping the yuan stable in the domestic market. Once a wave of vicious inflation sweeps the domestic market, the yuan will be dumped, which would in turn cut the yuan's value.
How unfair the trade?
INCREASED SHIPPING: A cargo vessel full of goods stops at Yantian Port of Shenzhen in Guangdong Province. Ships entering and leaving the port have increased as the world economy recovers (CHEN YEHUA)
The United States claims that China has been in a favorable position in their bilateral trade. In 2009, U.S. statistics showed China's trade surplus with it was $226.8 billion. (China Custom figure was $140 billion.) But not all the surplus has flowed into Chinese pockets.
Processing trade goods are China's major exported products. Among all those goods exported to America in 2009, about 73 percent were produced by foreign-owned and joint-venture companies in China. Also, among high value-added and hi-tech products exported by China, foreign companies took up more than 90 percent. The Chinese surplus generated by those companies should not be included.
More than 20 percent of "Made-in-China" products exported to the United States are from American companies invested in China. But the U.S. Government puts the trade surplus generated by those companies on China.
The U.S. calculation also includes those products labeled "Made-in-China" that are actually re-exported by other countries or regions.
Therefore, China is not responsible for causing the huge trade deficit with the United States. The long-term China-U.S. trade imbalance is actually a consequence of the discriminating trade policy adopted by the United States against China.
After adopting the reform and opening-up policy in 1978, China has always welcome U.S. products and investments. Against the backdrop of the global financial crisis, China organized a number of purchasing delegations to America in a bid to boost U.S. exports to China.
In a striking contrast, the U.S. Government strictly forbids exports of hi-tech products to China, and only allows exports of industrial goods and agricultural products. This is the true reason for the U.S. trade deficit with China.
The crux of China-U.S. trade relations is not "imbalance," but "unfairness." Among the annual average $400-billion trade volume between the two countries, China provides cheap, quality daily necessities for U.S. citizens at the cost of heavily polluting its environment and diminishing its natural resource reserves. And look what they have given in return—greenbacks whose actual value is much less than the market value, since the U.S. Government can always print more dollars to pay off its debts when necessary. After China exchanges goods for U.S. dollars, it lends the dollars back to help the United States cover up its huge fiscal deficit, which is expected to be $1.5 trillion in 2010. This allows the United States to avert bankruptcy, guarantee its public welfare expenditures, and save itself from undergoing a second round of financial turmoil.
To bring balance to China-U.S. trade, the U.S. Government must drop its current discriminatory trade policies against China, and get back on the right track of equal, fair, and mutually beneficial trade.
The author is a senior economist at the Chinese Academy of Social Sciences
