The non-prob­lem of Chi­nese cur­rency

Financial Mirror (Cyprus) - - FRONT PAGE -

Amer­ica’s two po­lit­i­cal par­ties rarely agree, but one thing that unites them is their anger about “cur­rency ma­nip­u­la­tion,” es­pe­cially by China. Per­haps spurred by the re­cent ap­pre­ci­a­tion of the dollar and the first signs that it is erod­ing net ex­ports, con­gres­sional Democrats and Repub­li­cans are once again con­sid­er­ing leg­is­la­tion to counter what they view as un­fair cur­rency un­der­val­u­a­tion. The pro­posed mea­sures in­clude coun­ter­vail­ing du­ties against im­ports from of­fend­ing coun­tries, even though this would con­flict with in­ter­na­tional trade rules.

This is the wrong ap­proach. Even if one ac­cepts that it is pos­si­ble to iden­tify cur­rency ma­nip­u­la­tion, China no longer qual­i­fies. Un­der re­cent con­di­tions, if China al­lowed the ren­minbi to float freely, with­out in­ter­ven­tion, it would be more likely to de­pre­ci­ate than rise against the dollar, mak­ing it harder for US pro­duc­ers to com­pete in in­ter­na­tional mar­kets.

But there is a more fun­da­men­tal point: From an eco­nomic view­point, cur­rency ma­nip­u­la­tion or un­fair un­der­val­u­a­tion are ex­ceed­ingly hard to pin down con­cep­tu­ally. The ren­minbi’s slight de­pre­ci­a­tion against the dollar in 2014 is not ev­i­dence of it; many other cur­ren­cies, most no­tably the yen and the euro, de­pre­ci­ated by far more last year. As a re­sult, the over­all value of the ren­minbi was ac­tu­ally up slightly on an av­er­age ba­sis.

The sine qua non of ma­nip­u­la­tion is cur­rency-mar­ket in­ter­ven­tion: sell­ing the do­mes­tic cur­rency and buy­ing for­eign cur­ren­cies to keep the for­eign-ex­change value lower than it would oth­er­wise be. To be sure, the Peo­ple’s Bank of China (PBOC) did a lot of this over the last ten years. Cap­i­tal in­flows con­trib­uted to a large bal­ance-of­pay­ments sur­plus, and the au­thor­i­ties bought US dol­lars, thereby re­sist­ing up­ward pres­sure on the ren­minbi. The re­sult was as an all-time record level of for­eign ex­change re­serves, reach­ing $3.99 trln by July 2014.

But the sit­u­a­tion has re­cently changed. In 2014, China’s cap­i­tal flows reversed di­rec­tion, show­ing sub­stan­tial net cap­i­tal out­flows. As a re­sult, the over­all bal­ance of pay­ments turned neg­a­tive in the sec­ond half of the year, and the PBOC ac­tu­ally in­ter­vened to dampen the ren­minbi’s de­pre­ci­a­tion. For­eign-ex­change re­serves fell to $3.84 trln by Jan­uary 2015.

There is no rea­son to think that this re­cent trend will re­verse in the near fu­ture. The down­ward pres­sure on the ren­minbi rel­a­tive to the dollar re­flects the US econ­omy’s rel­a­tively strong re­cov­ery, which has prompted the Fed­eral Re­serve to end a long pe­riod of mon­e­tary eas­ing, and China’s eco­nomic slow­down, which has prompted the PBOC to start a new pe­riod of mon­e­tary stim­u­lus.

Sim­i­lar eco­nomic fun­da­men­tals are also at work in other coun­tries. Con­gres­sional pro­pos­als to in­clude cur­rency pro­vi­sions in the Trans-Pa­cific Part­ner­ship, the megare­gional free-trade agree­ment cur­rently in the fi­nal stage of ne­go­ti­a­tions, pre­sum­ably tar­get Ja­pan (as China is not in­cluded in the TPP). Congress may also want to tar­get the eu­ro­zone in com­ing ne­go­ti­a­tions on the Transat­lantic Part­ner­ship.

But it has been years since the Bank of Ja­pan or the Euro­pean Cen­tral Bank in­ter­vened in the for­eign-ex­change mar­ket. In­deed, at an un­her­alded G-7 min­is­ters’ meet­ing two years ago, they agreed to a US Trea­sury pro­posal to re­frain from uni­lat­eral for­eign-ex­change in­ter­ven­tion. Those who charge Ja­pan or the eu­ro­zone with pur­su­ing cur­rency wars have in mind the re­newed mon­e­tary stim­u­lus im­plied by their cen­tral banks’ re­cent quan­ti­ta­tive eas­ing pro­grammes. But, as the US gov­ern­ment knows well, coun­tries with fal­ter­ing economies can­not be asked to re­frain from low­er­ing in­ter­est rates just be­cause the likely ef­fects in­clude cur­rency de­pre­ci­a­tion.

In­deed, it was the US that had to ex­plain to the world that mon­e­tary stim­u­lus is not cur­rency ma­nip­u­la­tion when it un­der­took quan­ti­ta­tive eas­ing in 2010. At the time, Brazil­ian Fi­nance Min­is­ter Guido Man­tega

Trade

and

In­vest­ment coined the phrase “cur­rency wars” and ac­cused the US of be­ing the main ag­gres­sor. In fact, the US has not in­ter­vened in a ma­jor way in the cur­rency mar­ket to sell dol­lars since the co­or­di­nated in­ter­ven­tions as­so­ci­ated with the Plaza Ac­cord in 1985.

Other cri­te­ria be­sides cur­rency-mar­ket in­ter­ven­tion are used to as­cer­tain whether a cur­rency is de­lib­er­ately un­der­val­ued or, in the words of the In­ter­na­tional Mon­e­tary Fund’s Ar­ti­cles of Agree­ment, “ma­nip­u­lated” for “un­fair com­pet­i­tive ad­van­tage.” One cri­te­rion is an in­ap­pro­pri­ately large trade or cur­rent-ac­count sur­plus. An­other is an in­ap­pro­pri­ately low real (in­fla­tion-ad­justed) for­eign-ex­change value. But many coun­tries have large trade sur­pluses or weak cur­ren­cies. Usu­ally it is dif­fi­cult to say whether they are ap­pro­pri­ate.

Ten years ago, the ren­minbi did seem to meet all of the cri­te­ria for un­der­val­u­a­tion. But this is no longer the case. The ren­minbi’s real value rose from 2006 to 2013. The most re­cent pur­chas­ing power statis­tics show the cur­rency to be in a range that is nor­mal for a coun­try with per capita real in­come of around $10,000.

By con­trast, the cri­te­rion on which the US Congress fo­cuses – the bi­lat­eral trade bal­ance – is ir­rel­e­vant to econ­o­mists (and to the IMF rules). It is true that China’s bi­lat­eral trade sur­plus with the US is as big as ever. But China also runs bi­lat­eral deficits with Saudi Ara­bia, Australia, and other ex­porters of oil and min­er­als, and with South Korea, from which it im­ports com­po­nents that go into its man­u­fac­tured ex­ports. In­deed, i mported in­puts ac­count for roughly 95% of the value of a “Chi­nese” smart­phone ex­ported to the US; only 5% is Chi­nese value added. The point is that bi­lat­eral trade bal­ances have lit­tle mean­ing.

Congress re­quires by law that the US Trea­sury re­port to it twice a year which coun­tries are guilty of cur­rency ma­nip­u­la­tion, with the bi­lat­eral trade bal­ance spec­i­fied as one of the cri­te­ria. But Congress should be care­ful what it wishes for. It would be ironic if China agreed to US de­mands to float the ren­minbi and the re­sult was a de­pre­ci­a­tion that boosted its ex­porters’ in­ter­na­tional com­pet­i­tive­ness.

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