Should the US Retaliate against China’s Currency Manipulation?
By Michael Bush and Steve Suranovic
Republican presidential nominee, Mitt Romney, focused much of his attention last week connecting the decade-long skid of the U.S. manufacturing sector with President Obama’s trade policy on China, specifically Obama’s failure to apply the currency manipulator label. The large trade deficit with China, presumably the result of the undervalued yuan, provides voters with a visual manifestation of high unemployment and stagnant incomes. China is an easy target. Trade sanctions against our largest trading partner, the argument goes, would reduce the trade deficit, level the playing field for U.S. producers, and create American jobs. This message plays especially well in manufacturing?heavy cities like Cleveland, OH, where recently reinforcements arrived with a provocative documentary titled “Death by China.” However, labeling China’s monetary policy currency manipulation is not only misleading, but the recommended trade remedies that would follow are likely to hurt, more than help Americans.
For starters, China has not actively lowered its currency value. Like many other U.S. trading partners, China has adhered to a fixed currency regime for over two decades. To maintain that fixed rate, and because of high demand for the yuan during the past decade, China’s central bank has purchased over a trillion dollars of currency reserves that are invested mostly in U.S. treasuries. These actions by China’s central bank are what Romney and others refer to as currency “manipulation”. However, this characterization overlooks three important things: first, a fixed currency regime is not unique to China; second, the yuan has been appreciating against the dollar for almost a decade; and third, currency appreciation does not automatically eliminate trade deficits.
According to the International Monetary Fund (IMF), over 100 countries have some form of a fixed exchange regime. Thus, it is misleading to single out China as a currency manipulator when other U.S. trading partners engage in the same practice. Regardless, China has adopted a crawling peg system, which permits the central bank to periodically adjust the yuan with respect to the dollar. Since 2005, the yuan has appreciated by 23 percent in nominal terms. Taking into account inflation, that number increases to almost 50 percent.
To put a nearly 50 percent appreciation into context, as well as provide a historical touchstone, Congress proposed legislation back in 2005 that would slap a 27.5 percent tariff on all Chinese imports. Why 27.5 percent? At the time, this was estimated to be the amount the yuan was undervalued. Fast-forward to today, the Chinese yuan has appreciated by almost twice that amount and the U.S. still has a trade deficit with China! One might argue that a 50 percent increase in the value of the yuan simply wasn’t enough to do the job. In this case, consider the 1980s when the U.S. faced worrisome trade deficits with Japan. Since the 1980s the yen has appreciated by 220 percent to the dollar and yet this has not prevented a sizeable US trade deficit with Japan in every year since.
This evidence alone should give hesitation to anyone who thinks a simple currency adjustment will eliminate the trade deficit and create U.S. jobs. Trade deficits are influenced by much more than just the currency value; notably low U.S. savings and high consumption levels.
In addition, while changes in currency values would probably have a negligible impact on the trade deficit, sanctions against China would hurt more Americans than they would help. U.S. consumers who buy Chinese clothing, furniture, toys, appliances, electronics and many other products would have to pay more for these items. Holidays would become much more expensive! And, it would likely be the less wealthy who will suffer the greatest reduction in purchasing power. Moreover, the retaliatory tariffs that China would most certainly pursue would harm U.S. companies that export to China, as well as the U.S. affiliates in China that ship goods back to the U.S. So, who will benefit from the tariffs? The U.S. industries and associated workers that compete with Chinese imports will prosper most, but this represents only a small fraction of U.S. stakeholders.
Thus, while politicians claim that America will gain from getting tough on China, the reality is that a subset of influential U.S. producers will benefit at the expense of most American consumers. This should hardly be surprising given the perennial accusations that powerful lobbies have commandeered international trade negotiations. Rather than blaming China for the turbulent economy, Americans would be much better served by looking internally and addressing its savings problem while simultaneously reining in its own spending. Unfortunately, this does not play well on the campaign trail. To be fair, President Obama’s position on China, though not as strident, is not markedly divergent. Regardless of what side of the aisle it originates from, public censure of China is more political maneuvering than sound economic policy.
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Michael Bush is an MA student in the Elliott School of International Affairs at the George Washington University. Steve Suranovic teaches international trade, international finance and microeconomics at the George Washington University. This is cross posted from The International Economic Policy Blog.
Graphic: shutterstock.com
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This is a dangerous game to play- rattling economic sabers st China. Though coming from Romney and his past relationships with China they probably view Romney’s statements as else tion year antics. Personally I view China as the number one geo-political threat to the US in the next 15 years. They will probably have the largest economy and will not take second place or play second fiddle to the US. The US, due to Rep publican policies refusing go invest in infrastructure, education, etc. is currently in design decline. China and other countries are developing their people.
It’s a red herring. Sure, we can pressure, but retaliation is more dangerous and unwarranted. Overall, the currency issue is certainly not helping, but the real problems are extremely low wages and a favorable batch of policies that make it more profitable to manufacture there than here.
StockBoy is right, China could be a geo-political threat to the US in the next decade or two.
1- China is now building/buying their own aircraft carriers and beefing up it’s own military. This *could* be a threat but defending themselves is justified so I don’t fault them for a build up, just question what they’re going to do with it.
2- China owns much of the US debt, how much pressure can we really put on them?
3- The US is, and has been for some time, falling behind in math and science. The 90′s and early 00′s exported much of our high-tech manufacturing to Asia and mostly to China.
Add all these together and one has to ask, would we be able to build and maintain our own military when so much of it is built by China?
Trade deficits aren’t made out of dollar papers or computer records.
Trade deficits are made out of the quantity of man hours and quality of product.
I was just in china for a month.
I spent an hour talking to a 16 years old boy — and his teachers actively stop him from playing sports “because there is not test for it”. They study LITERALLY all day long — the kids are pressured like you wouldn’t believe. This is common. He is in the top 5% of his class, but his parents push him to be #1. He hates it.
On about 5 days of the month I NEEDED to wear a mask — air pollution is out of control in the city.
Is this what we want? I doubt it.
The only game that we have left is innovation, seems ironic that there is a war against teacher salaries. Of all things to focus on? If I were president, I would 3X+ my education investments.
Why?
China has more migrant workers in factories than the united states has PEOPLE.
Let me say that again.
China has more migrant workers in factories than the united states has PEOPLE.
I wouldn’t worry too much about China’s military. We outspend them nearly 9 to 1 in that dept. They are trying to put together a single carrier battle group. We have 11, soon to be 12. Also, what they have, doesn’t stack up against ours, not in technology, not in combat experience. So many people talk about military spending and I honestly get the feeling they don’t understand how much we spend, and how little other countries spend. We could gut our military spending to $400Bn a year and still be the last nation on earth any 4 others would ever want to get in a shooting war with.
As far as trying to beat China by lobbing tariffs at them, that is a losers proposition, unless US manufacturing has a plan to actually get competitive long term, and just needs a few years of breathing room. Sadly, that is not the case. American manufacturing just wants to not have to deal with China, and that’s as far as they’ve thought it out I’m afraid. Asking all the Americans who won’t get factor jobs as a result to pay more for just about everything isn’t the solution. We might as well just increase taxes on the bottom 70% of the nation and hand the money over to those who lost manufacturing jobs.
Okay, a few problems in the items brought up in the comments:
1) China has an aircraft carrier. Um…yeah, but to date they don’t have any planes that can actually land on it. That kind of curtails its use a bit…
2) China has a sizable amount of the U.S. debt. Um…sort of…except that U.S. Treasury Bonds are denominated in dollars. How much leverage could we have? Enormous, gigantic, super-huge, ridiculously spectacular leverage. They have the ‘excess’ money in savings in U.S. dollars. Do you have any idea what they could do with them? Buy goods denominated in dollars–that’s it. The main reason that they have treasury certificates is because they currently don’t wish to spend the money. We do not need them to lend us money, did not ask them to, and would have no problems if they stopped doing so. That is the benefit of having a fiat currency pegged to nothing.
3) China has a lower labor cost due to its willingness to sacrifice many things that we, as Americans, hold dear. They include: a) health b) breathable air c) unpolluted ground d) law and order–followed by cronies as well as the common person e) freedom of speech and assembly (as well as worship). The list could go on.
4) When referring to how much we spend on military (and it is still a lot, don’t get me wrong), it is disingenuous to be comparing our military and that of China. They do not pay their soldiers the same amount that we pay ours. That makes a huge difference. Comparisons of military forces need to take into account the cost to ones GDP, as opposed to the dollar value.