China’s current account surplus is once again rising with the revival of the global economy. As unemployment in the West remains stubbornly high, however, there has been persistent pressure from both the US and Europe on China to appreciate its currency. China appreciated its currency by more than 20 per cent against the dollar between mid-2005 and mid-2008, before suspending the appreciation. Since 2005, the yuan has appreciated about 15 per cent in trade-weighted terms, and is now back to where it was in 2000.
The exchange rate issue may lead to a confrontation during the next couple of weeks. On April 15, the US Treasury will publish its semi-annual report on the exchange rate policies of its trading partners. There is considerable political pressure, particularly from the US Congress, to brand China as a currency manipulator. This would facilitate the imposition of import duties and/or filing a complaint of unfair trading practices against China before the WTO. WTO rules generally prohibit subsidies to exports. (While charging China with subsidising its exports through its exchange rate policy, the US and Europe conveniently overlook their own direct subsidies to agriculture, which is affecting exports from Africa and is a major block in the way of a successful outcome of the Doha Round.) The treaty also has a clause barring members from frustrating the objectives of the treaty “by exchange action”. The question whether Chinese policy contravenes the provision has no clear answer. For one thing, this particular provision goes back to the era of fixed exchange rates: To what extent is it valid in the current environment? Again, if China maintains parity with the dollar — i.e. an unchanged exchange rate — how can the US charge it with subsidising exports?
In the US, economists like Nobel Laureate Paul Krugman have argued that, global economic growth would be about 1.5 percentage points higher if China stopped restraining the yuan and running trade surpluses (Economic Times, March 20), and advocate pressuring China on the issue through trade sanctions. Others like Stephen Roach, chairman of Morgan Stanley Asia, stoutly oppose such pressures, arguing that the best way of reducing the US deficit is by raising the savings rate. They see the issue of global imbalances as arising more from the differing savings investment equations in various countries, and not the exchange rate alone; the US has deficits with other countries as well: China accounts for only a third of the total.
Overall, it is debatable whether an appreciation of the Chinese currency would do much to reduce the US trade imbalance. On reason is that US manufacturing has hollowed out over the last few decades, with many industries closing down, unable to face competition from imports. Therefore, unless there is a basic change in US consumption habits, a yuan appreciation may only lead to substitution of imports from China with imports from other countries — or, even, continued imports from China, but at higher prices.
As a global economic power (the world’s largest exporter and the second-largest economy), China would be extremely reluctant to be seen to be giving in to western pressures on the issue of the exchange rate, whatever the economic logic. China’s exchange rate policies are also hurting many Asian countries whose currencies have appreciated against the yuan. Perhaps a more multilateral approach towards China’s exchange rate policy may stand a better chance of success than bilateral pressure. (India had a bilateral trade deficit in excess of $20 billion in the financial year 2008-09, and it is growing rapidly.) A cooperative solution, rather than the one of confrontation, is obviously in everyone’s interests, especially as the global economy is just coming out of recession. After all, it should not be forgotten that Chinese exports keep global inflation lower than what it otherwise would have been, and the US needs Chinese surpluses to finance its fiscal deficit without a sharp rise in interest rates.
There is also a broader issue involved. Are surplus countries to be blamed for the woes of the deficit countries? (On an even broader plane, are the poor poor, because the rich are rich?) One recent article by Martin Wolf (Financial Times, March 17) suggested: China is expected to have a current account surplus of $300 billion in the current year, and Germany $200 billion. In a way, this argument is on a par with the way some western economists blamed Asian savings habits for the financial crisis of 2007-08. The pseudo logic was that Asian surpluses kept dollar interest rates low, thereby tempting US home owners to borrow more, and US investors to invest in more risky assets, in order to increase yields: this, they claim, was the real cause of the crisis. The “logic” is on a par with that of a bank management blaming depositors for its bad debts: after all, had the depositors not placed money with the bank, how could it have created those bad debts?