Given China's outsized influence on global monetary policy, its latest moves to stave off inflation have been met with skepticism and frustration among U.S. market analysts and government officials. The core concern is that continued Chinese currency devaluation will hinder U.S. economic growth and interfere, in turn, with the two countries' trade relationships.
Over the last month, the Chinese government has raised interest rates, required banks to increase their reserves, and increased the value of the Yuan faster than at anytime since 2005. In response, U.S. Treasury Secretary Timothy Geithner warned an audience at the Brookings Institution that market pressures spurred by large economies with undervalued exchange rates (like China) can trigger inflation and asset bubbles in emerging economies, ultimately "depressing consumption growth and intensifying short-term distortions in favor of exports."
With next month's G20 meeting in South Korea looming, the U.S. appears to be preparing for another attack on China's exchange-rate strategy. We asked five economics experts and China scholars for their takes on Beijing's currency revaluation and its potential impact on economic recovery in the United States.
How will China's currency revaluation affect U.S. economic recovery?
Boykin Curry (Managing Director, Eagle Capital Management): I think the overall impact of any revaluation would be pretty marginal for the US. First of all, it will be inflationary for the U.S. in two ways. Obviously it will raise the dollar prices for imported goods from China, but it will also raise the price we pay for energy, food, and other global commodities as Chinese consumers are able to bid more in dollar terms with the same amount of RMB (renminbi). Basically, we are at an auction and hoping the person bidding against us suddenly gets richer. In addition to lowering our standard of living, the inflationary impact will bring forward the moment when the U.S. Fed has to raise interest rates, which will mute our recovery rather than speed it up.
Robert Scott (Senior International Economist and Director of International Programs, Economic Policy Council): I have estimated that the growth in the deficit with China will displace about half a million U.S. jobs in 2010. But for the trade deficit, we would have seen twice as much job growth this year.
Jacques deLisle (Director, Foreign Policy Research Institute's Asia Program and Professor of Law, University of Pennsylvania): Probably not much. Even if the RMB rose substantially in the near term, which isn't very likely, it's not going to be a magic bullet for U.S. recovery. There's no doubt that China's currency practices are manipulative and that they're unfairly promoting Chinese exports, but all the efforts we've made so far are from a fairly small number of U.S. politicians [who are trying] to make China a scapegoat for our economy. [It's] bad economic policy and it's not a good way to make China policy.
What steps should the Obama administration take ahead of the G20 summit to influence the currency war brewing between the U.S. and China?
J.D. Foster (Norman B. Ture Senior Fellow in the Economics of Fiscal Policy, The Heritage Foundation): Start with the fact that the Yuan is undervalued. The Chinese have promised to make reforms for many, many years and have not done so, so there is a very high and legitimate level of frustration. At the same time, by way of context, we have a low-grade trade war with the Chinese going on right now. In both those areas, the idea is that America not throw gasoline on the fire. But Secretary Geithner's policy is the opposite. He has been ramping up the tensions with regard to currency rates and with regard to trade flows with China, which is dangerous. The rest of the world is bringing significant pressure on the Chinese to reform their exchange rate policy -- it's not just the U.S. -- so it's very important that we work with the rest of the world and that we not back the Chinese into a corner.
Curry: Even if it were in our interest for China to revalue, the administration really wouldn't need to do anything, because the currency is going to rise in real terms anyway. The only way for China to hold the currency down is by printing more RMB to buy dollars, and that causes local inflation, which has the exact same impact as a revaluation .... Rather than using up our limited influence on China to get them to do something that is (a) happening anyway and (b) not in our interest, the administration should be promoting U.S. business interests in China in areas where we are competitive, such as fighting software and entertainment piracy, opening up local markets, and giving U.S. firms a level playing field in bidding for big infrastructure projects.
Jagdish Bhagwati (Professor of Economics and Law, School of International Affairs, Columbia University, and Senior Fellow, Council on Foreign Relations): The U.S. sounds hypocritical trying to blame China for its own self-inflicted wounds from excess spending in the Bush administration. I would say that it is best for the U.S. to leave the issue alone. As for the Chinese revaluation, that will have minimal impact on U.S. deficit as long as we continue excess spending.
Scott: It's not a "currency war," it's a currency dispute, but we should have the threat of war at our disposal. Currently, we don't have the tools to make the threat because Congress has failed to act .... The Treasury should declare that China is a currency manipulator and the [United States Trade Representative] should file complaints at the [World Trade Organization] because China is failing to meet its obligations under the [International Monetary Fund] and WTO charters. The administration needs to work with as many G-20 nations as possible to build a working coalition, but they won't find a consensus.
deLisle: They need to do what they're doing, more or less, which is to try to keep the temperature down on the issue and to try to get enough from China that the Administration is not under severe pressure at home to take more dramatic action. There's not a lot we can do to move China fundamentally on this issue in the near term.
In a speech this month at the Brookings Institution, Geithner said that the market pressures set in motion by large economies with undervalued exchange rates can ultimately lead to inflation and asset bubbles in emerging economies -- "depressing consumption growth and intensifying short-term distortions in favor of exports." Do you agree with this theory? If so, which developing countries should we keep our eye on? Which have asset bubbles that are at risk of bursting if China revalues?
Foster: China is sitting on a mound of TNT to which it is adding on a daily basis. Once exchange rates normalize, there are going to be wrenching changes that will affect the Chinese economy. China will be the first victim .... China's economy depends on exports. Once the exchange rate rises to a more normal level, vast swaths of their economy will be rendered uncompetitive.
Curry: The risk is for America, not emerging markets. Here's why: If the Chinese economy dips, they are going to stop buying Treasuries and spend the money to prop up their own economy instead. Without China and other central banks sopping up U.S. Treasuries, our own interest rates would be far higher than they are now. Imagine where the housing market would be if mortgage rates were 8 percent instead of 4 percent. Calculate the U.S. federal deficit if we are paying interest rates of 4-6 percent instead of 1 percent. We may be hoping for 10 percent unemployment instead of complaining about it. If there is a bust in Asia, don't worry about China; worry about us!
Bhagwati: Geithner does not distinguish between equilibrium and optimal exchange rates, to begin with. Talk about "short-term distortions" is just rhetoric and not grounded in any analysis that I have seen.
Scott: I'm not convinced that China will be unable to control its asset bubble. They could be taking more action to cool their housing market. We can't rely on market forces to correct China's currency manipulation.
deLisle: It should most affect those countries that have been heaviest hit by undervaluation of the RMB, which are countries that would be competitive with China in exports -- the other lower-wage developing countries, particularly in Southeast Asia, and the countries that China has recently started to take markets from (electronics companies, computer companies) that were based in places like Korea or Japan. So they might -- although they're not developing countries -- gain a little bit back.