The Japan Syndrome comes to China
China is now experiencing what Japan went through a generation ago: a marked slowdown in economic growth after demands by the United States that it restrict its exports. In the late 1980s and early 1990s, Japan was criticised by the US as an “unfair trader” by virtue of its soaring manufacturing exports. The US issued stern, and apparently credible, threats to restrict Japanese imports, and succeeded in pushing Japan to overvalue the yen, which helped to bring Japanese growth to a screeching halt.
That may be happening again, with China’s growth slowing markedly under the weight of an overvalued currency urged by the US. Figure 1 shows the yen’s real (inflation-adjusted) exchange rate from 1964 (when the yen became convertible on the current account) until today. A rise in the index signifies real appreciation, meaning that the yen became more expensive relative to other currencies after correcting for relative price-level changes. the yen’s real depreciation since 2012 has merely reversed the preceding growth-killing real appreciation.
China now confronts the risk of the same sequence of events. Its booming exports in the mid-2000s led US officials to threaten trade retaliation unless the Chinese authorities took steps to restrict exports, cause the renminbi to appreciate, and shift to “consumption-led growth.” This is the same message once given to Japan. The US insistence on renminbi appreciation intensified after the onset of the 2008 financial crisis. The results to date can be seen in Figure 3, which maps China’s real exchange rate from the start of renminbi currentaccount convertibility (1996) until today. The currency began appreciating sharply in 2007. As in Japan, the appreciation sparked destabilising capital flows into China on the assumption that the renminbi, like the yen before it, had nowhere to go but up.