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Wednesday, December 30, 2009
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Two recent reports from China point to one of the major challenges facing the Obama administration in formulating trade policy.
First the Chinese National Bureau of Statistics revised Chinese growth projections for 2010 to 9.6 percent. Then Chinese Premier Wen Jiabao strongly rejected pressures to allow its currency to be guided by market forces, purporting that demands to allow the renminbi to appreciate "were an effort to contain the country's development."
While China's determination to promote development is its internal matter, policies that spill over its borders are the concern of all. Policies that foster almost 10 percent growth in the midst of world economies that are gasping for air expose a fundamental systemic problem that must be addressed.
The commitment to free trade that has dominated U.S. policy since World War II has produced enormous benefits to a growing global population. It has helped to increase production, lower prices and bring millions of people out of poverty. However a substantial question remains as to whether trade is really free if the currencies that set prices are not.
The complex issues of free international trade have one simple truth at their core. The value of products traded across borders is determined by the currency in which the trade takes place. Purported "free" trade without freely traded currencies is a charade.
Currency values affect the end price of products the same way as tariffs over which much wrangling takes place at the World Trade Organization. A product manufactured in China for 680 renminbi would be imported into the United States for $100 at the current exchange rate of 6.8 renminbi to $1. If the exchange rate were 5/$1, the product would sell for $136.
Ironically, the Chinese today are joining the chorus blaming the excesses of the U.S. consumer and a liberal U.S. financial market for the current financial crisis. This perception blatantly overlooks a crucial factor.
The U.S. consumer was responding to the value equation in the internal U.S. market. Chinese control of the renminbi kept their goods cheap in comparison to U.S. goods. Currency distortions also made investment in Chinese manufacturing profitable and investment in U.S. manufacturing costly.
Economists the world over emphasize that rebalancing aggregate global demand to raise consumption in the surplus economies is basic to the long-term sustainability of the international economy. In this context pricing, resulting from currency exchange rates, is a major influence on consumer behavior.
Two other implications, however, have equally serious consequences. First, as the dollar declines against other currencies but remains tied to the Renminbi, the Renminbi is effectively accompanying the dollar in devaluingagainst those currencies.
This makes Chinese goods even cheaper in other countries, especially other developing countries. Second, China's ballooning trade surplus produces commodity buying in the West that spurs the same commodity bubbles that ignited the recent financial imbalances.
In the developing countries this imbalance has been devastating.
Chinese exports to these countries have risen dramatically since the dollar began to weaken. China's policy may help create jobs in China but it is a "beggar thy neighbor" policy in regard to the poorer countries, decimating local industry. The well-known fury of anti-globalization activists is attributable far more to job loss from undervalued Chinese goods than to any policies of other developed countries.
While we have little power to induce the Chinese to revalue their currency there are other alternatives to redress the current estimates of an approximate 25 percent undervaluation of the renminbi. Commensurate tariffs on Chinese goods is the logical instrument. Such overriding tariffs should be accepted as fair global policy when faced with controlled currencies that have fallen dramatically out of alignment.
We should also be attentive to more profound implications of Chinese policy. Chinese strategic literature emphasizes that other instruments, not military ones, will be determinative for China's role in the world.
The reality of today's exchange rate policies is that China is gradually draining the industrial strength of the West just as surely as if they were bombing its factories. As they well know, currency manipulation is a stealth instrument of economic competition.
Economists are almost unanimous in their assessment that a balanced global economy requires a shift in consumption to the currency surplus countries. The easiest and least painful way to do this is for all major actors in global trade to play by the same rules in regard to currencies. If the Chinese are unwilling or unable to do this on their own, it is time to consider policies that do it for them.
L. Ronald Scheman, author of "Greater America" (New York University Press, 2003) is former United States executive director of the Inter-American Development Bank.
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