Tag: China

Fannie & China: 2 Birds, 1 Stone

Chinese President Hu Jintao’s visit to Washington brought renewed focus on China’s currency.  It was likely the largest point of discussion between President Obama and President Hu.  I suspect a less public, but related, issue was China looking for some certainty that America would make good on its obligations; after all, China is our largest lender.

What is often missed is the connection between these two issues:  currency and debt.  When China receives dollars for the many goods it sells us, instead of recycling those dollars into the purchase of US goods, it uses that money mostly to buy US Treasuries and Agencies (Fannie/Freddie securities).  These large Treasury/Agency purchases (foreign holdings of GSE debt are over $1 trillion) have the effect of increasing the demand for dollars and depressing that for yuan, resulting in an appreciation of the dollar relative to the yuan.  This connection exposes the hypocrisy of President Obama’s complaints about China currency manipulation - without massive US budget deficits, China would not be able to manipulate its currency to the extent it does.  If the US wants to end that manipulation, it can do so by simply reducing the outstanding supply of Treasuries and Agency debt.

Another solution, which would also do much to end the “implicit guarantees” of Fannie Mae and Freddie Mac, is to take Fannie and Freddie into a receivership, stop the US taxpayer from having to cover their losses, and shift those losses to junior creditors, which include the Chinese Central Bank.  Were the Chinese to actually suffer credit losses on their GSE debt, they would quickly start to reduce their holdings of such.  They might also cut back on Treasury holdings.  These actions would force the yuan to appreciate relative to the dollar.  And best of all, it would end the bottomless pit that Fannie and Freddie have become.  It is worth remembering that even today, under statute, the Federal government does not back the debt of Fannie and Freddie.  It is about time we also teach the Chinese a lesson about the rule of law, by actually following it ourselves. 

Of course this would increase the borrowing costs for Agencies (and maybe Treasuries), but then if China were to free float its currency, that would also reduce the demand for Treasuries/Agencies with a resulting increase in borrowing costs.  We cannot have it both ways.

Hu’s Visit and U.S.-China Tensions

Chinese President Hu Jintao arrives in Washington today for a summit meeting with President Obama following spats over economic and military issues that have created a chill in bilateral relations. This follows Secretary Gates’s visit just last week to Beijing for discussions with Defense Ministry officials. On the Huffington Post, I have a piece that looks at the current state of U.S.-China relations in the context of these visits:

“The process of repairing [the U.S.-China relationship] appears to be off to a rocky start. A key objective of Secretary Gates was to get China’s military leadership to agree to a wide-ranging dialogue on strategic issues, including nuclear weapons, ballistic missile defenses, space weapons, and cyber warfare. His hosts rebuffed his initiative, agreeing only to a very limited dialogue on such second-tier issues as combating piracy and cooperating on international peacekeeping missions. Chinese officials indicated that Washington would need some policy changes – especially moderate its willingness to sell arms to Taiwan – before a dialogue on larger strategic issues could take place. The most the Defense Ministry would agree to do in the meantime was “study” Gates’ broader proposal.

“The lack of a meaningful military dialogue frustrates a persistent U.S. goal – to get Beijing to be more transparent regarding both the level of its military spending and the extent of its geopolitical ambitions – especially in East Asia and the Western Pacific. Recent reports of China’s possible breakthroughs in nuclear technology and stealth aircraft have intensified Washington’s concerns.”

The complex U.S.-China relationship has always had elements of both partnership and rivalry. The partnership component has tended to figure more prominently, especially in the economic arena where the benefits to both parties are substantial and widely appreciated. But the balance is now shifting toward the competitive end of the spectrum. There are many reasons for this, including the stress that arises whenever the dominant economic and military player in the international system encounters a rapidly rising great power. However, the current tensions between the United States and China also are the product of the sharply different political systems, histories, cultures, and agendas of the two countries.

The shift to a relationship in which rivalry may top cooperation poses serious challenges for leaders in both countries. Strategic and economic rivalry can easily escalate into viewing the competitor as an adversary, and even an outright enemy. Given the importance of the bilateral relationship, not only for the United States and China, but for the health of the international economic system and the future of global peace, it is imperative that both sides seek to manage and contain their disagreements. The Hu-Obama summit offers an opportunity to advance that process, and one hopes that the two leaders do not waste the opportunity.

Appreciating China’s Currency

China’s President Hu Jintau arrives in Washington today for a state visit, turning the spotlight once again on U.S.-China trade and China’s allegedly undervalued currency, the yuan. Not one to let such an opportunity go to waste, Sen. Charles Schumer (D-N.Y.) is introducing legislation that would threaten to impose duties on imports from China if the yuan does not appreciate quickly.

Count me skeptical that a more expensive yuan relative to the U.S. dollar would make much of a dent in our bilateral trade deficit with China, or that it would have any positive effect on U.S. economic growth and employment. But even if those assumptions were true, the big story is how much the yuan as already appreciated against the dollar.

It has been a mantra of Sen. Schumer and other critics of U.S.-China trade that the yuan is undervalued by 15 to 40 percent. They were saying that before the 2005 appreciation, and they’re saying that now, as though nothing has changed.

Yet a lot has changed. In nominal terms, the yuan appreciated by more than 20 percent between 2005 and 2008. That’s when China relaxed its hard peg with the dollar and allowed its currency to gradually appreciate. After holding the peg steady again during the recent financial turmoil, China has again allowed it to rise another 3 percent since last June.

The nominal rate is just part of the story, however. Price levels in the United States and China determine the real exchange rate–the actual amount of goods that can be bought with each currency. A big story in China recently is its rising inflation rate, which makes Chinese goods relatively more expensive at any given exchange rate. In this way, a relatively higher inflation rate in China compared to the United States acts in the same was as a nominal increase in the exchange rate of the yuan.

When you combine the effect of rising prices in China with the higher nominal value of the yuan, you get a double boost to the real exchange rate. According to a chart on the front page of this morning’s Wall Street Journal, the real value of the yuan has appreciated by 50 percent since the beginning of 2005. In early 2005, 100 Chinese yuan could be exchanged for about $12; today it can be exchanged for $18 (in real, inflation adjusted dollars).

Rather than complain, Sen. Schumer and his allies should congratulate themselves on achieving their goal of a much stronger yuan and a much weaker dollar, even if we are still waiting for the tonic effect they predicted it would have on jobs and growth.

Look Hu’s in Town to Talk Trade and Security

Chinese President Hu Jintao is in Washington this week for discussions with President Obama. On the agenda are various economic and security issues that are raising dander on both sides of the Pacific.

Frictions in the U.S.-China relationship are nothing new, but they have intensified in the past 18 months. One explanation for the rising tensions is that certain media pundits and policymakers now view the relationship through a prism that has been altered by the fact of a rapidly rising China. That China emerged from the financial meltdown and subsequent global recession wealthier and on a virtually unchanged high-growth trajectory, while the U.S. faces slow growth, high unemployment, and a large debt (much of it owned by the Chinese), is breeding anxiety and changing perceptions of the relationship in both countries.

Once-respected demarcations between geopolitical and economic aspects of the relationship have been blurred, and economic frictions are now more likely to be cast in the context of our geopolitical differences. Lots of ink has been spilled over the proposition that China has thrived at U.S. expense for too long, and that China’s growing assertiveness signals an urgent need for aggressive U.S. policy changes.

Although it may be fashionable to think of China as the country to which the U.S. manufacturing sector was offshored in exchange for tainted products and a mountain of mortgage debt, the fact is that the bilateral relationship has produced enormous benefits for people in both countries. Despite those benefits, Americans are more likely to be familiar with the sources of friction. Although some U.S. complaints about Chinese trade and economic policies are legitimate and probably worth deploying the resources to resolve (including through dispute settlement in the World Trade Organization), other complaints are bogus because there is no violation of an agreement or because the U.S. is guilty of the same infractions.

Much of the tension reflects indignation among media and politicians over China’s aversion to saying “How high?” when the U.S. government says “Jump!” That China is not a U.S. supplicant may rub some opinion leaders the wrong way, but that is not a persuasive argument for a more provocative posture.  China is a sovereign nation.  Its government, like the U.S. government, pursues policies that it believes to be in its own interests (although those policies—with respect to both governments—often fall short of their people’s best interests).  Realists understand that objectives of the U.S. and Chinese governments will not always be the same, thus U.S. and Chinese policies will not always be congruous.  Accentuating and cultivating the areas of agreement, while resolving or minimizing the differences, is the essence of diplomacy and statecraft.  These tactics must continue to underpin a U.S. policy of engagement with China.

Although some policy tweaks would be beneficial, a more aggressive U.S. policy tack is unnecessary and unwanted. Even in a shifting geopolitical environment, U.S. policy toward China should continue to reflect the fact that globalization means interdependence, and interdependence demands cooperation, not conflagration.

(For a full exposition of this perspective, please see this paper.)

Mega-Consumers against Consumerism

Adjacent articles in the latest New Yorker deplore “consumerism” among the American revolutionaries and the modern Chinese. You wonder how a magazine so concerned about manifestations of consumer desire would support itself. Surely it struggles along on a shoestring, preaching the message of austerity and simplicity to sincere but poor readers. In fact, however, these laments about consumerism in societies vastly poorer than our own are sandwiched between lush full-page advertisements for Chanel watches, Samsung home entertainment centers, single malt Scotch, Grey Goose vodka, Cristal champagne, David Yurman jewelry, German automobiles, and Norwegian Cruise Lines. The articles themselves appear on pages lined with small, elegant ads for Jay-Z’s book-ebook-app, tours of Wales, monogram rings, Aeron chairs, European berets, cashmere caps, and a remarkable number of expensive psychiatric facilities, perhaps specializing in the treatment of cognitive dissonance.

If Only the USTR Were This Enthusiastic about Liberalizing Trade

There was really never any doubt that the United States would prevail in the dispute brought by China to the World Trade Organization over President Obama’s decision last year to levy duties on tire imports from China. The WTO verdict, revealed yesterday, simply affirms that the administration acted in accordance with U.S. WTO commitments—and leaves to others, such as myself, to conclude that the duties were a highly political act perpetrated with utter contempt for the significant economic and diplomatic costs of those actions.

Thus, “prevailing” in the WTO case should not be considered a source of universal joy for all Americans or even most Americans, as one might infer from the reaction of U.S. Trade Representative Ron Kirk, who jubilantly proclaimed, “This is a major victory for the United States and particularly for American workers and businesses.” Really, Ambassador Kirk? Tell that to the American workers and businesses involved in importing, trucking, wholesaling, retailing, and installing those Chinese-made tires. Tell it to the American workers and businesses who also happen to be U.S. tire consumers and are now lighter in their wallets or dangerously riding on worn treads as a result of the duties. Feel free to ask the workers and businesses in the U.S. poultry and auto parts industries—against whom the Chinese imposed antidumping duties immediately after the tire tariffs took effect—how they feel about having “prevailed.”

In fairness to Ambassador Kirk, in addition to working to open markets abroad, the USTR’s office is tasked with prosecuting challenges of our trade partners’ allegedly non-compliant policies and actions, as well as defending challenges to allegedly non-compliant U.S. policies and actions at the WTO. In that regard, warding off a challenge from China of the U.S. Section 421 law constitutes, arguably, a victory for the USTR’s office. But to be clear, Section 421 is a blatantly protectionist law that serves, at best, a sliver of the U.S. population slightly broader than the U.S. Congress.

As part of its WTO accession agreement in 2001, China agreed to allow the United States and other WTO members to treat it differently—indeed, discriminatorily—on several matters for a number of years after it joined the WTO. The China-Specific Safeguard mechanism (known legally as Section 421 of the Trade Act of 1974 and under which the tire tariffs were implemented in September 2009) authorizes the United States to impose duties if there is a surge in imports from China that is causing or threatening market disruption in the United States. Market disruption exists “whenever imports of an article like of directly competitive with an article produced by a domestic industry are increasing rapidly, either absolutely or relatively, so as to be a significant cause of material injury, or threat of material injury, to the domestic industry.” In other words, if U.S. industry is suffering the effects of normal competition—that is, if it must compete against more capable or more efficient foreign competitors—then the firms or workers in the U.S. industry can petition the U.S. government to raise those competitors’ prices through the imposition of trade restraints.

It is also important to appreciate what Section 421 is not. Contrary to the rhetoric of too many politicians, trade lawyers, and union bosses, 421 is not an “unfair trade” statute. Unlike the antidumping and countervailing duty laws, a Section 421 case does not include allegations of prices at less than fair value or prices that benefit from countervailable government subsidies. The evidentiary threshold is much lower. All that is alleged-and all that has to be established-in a 421 petition is that imports from China are increasing in such a manner as to be a cause of market disruption (or threat thereof) to the domestic industry.

Section 421 is not intended to remedy any wrongdoing on the part of Chinese exporters, but is intended rather to give U.S. producers the opportunity to holler “time out!” as they catch their breath, assess prospects, and attempt to adjust to a new level of competition. Of course there are huge costs to this kind of intervention in the marketplace, thus the president is granted discretion, under the law, to deny relief if he determines that the costs to the broader economy clearly exceed any benefits to the petitioning industry. While such discretion provides some comfort that the law’s relaxed evidentiary standards won’t be routinely abused by domestic interests seeking to stifle competition, there are no guarantees that the president’s discretion will be based exclusively on considerations of the national economic interest. If there were, it would be nearly impossible to conjure a scenario in which the concentrated, temporary benefits to a specific industry receiving protection were not overwhelmed by the costs of that protection on the broader economy. Political considerations always influence decisions that lead to protection.

Yesterday’s WTO decision was arguably a victory for the rule of law in international trade—but also a reminder that politicians write the rules of trade, including some that are so antithetical to its purpose. I would be willing to cut Ambassador Kirk more slack for his jubilation if he were to find religion on the WTO and abide the rulings–such as on zeroing, gambling, and cotton subsidies–that his (and his predecessors’) office has lost.

Media Miss Real News in Latest Trade Report

This morning’s report from the U.S. Department of Commerce that the pesky trade deficit shrank unexpectedly in October is being hailed in the media as “good news” for the economy, while the real news behind the numbers remains buried.

According to the latest monthly trade report, exports of U.S. goods rose in October compared to September, while imports declined slightly. Rising exports are good news in anybody’s book, but according to the conventional Keynesian and mercantilist logic, falling imports must also be good for the economy because that means consumers are spending more on domestically produced goods, right? Wrong.

In the real world, that assumption is almost always false, as I did my best to document a few weeks back in an op-ed titled, “Are rising imports a boon or bane to the economy?”

The real news in the report is the spectacular rise of U.S. exports to China. Year to date, U.S. exports to China are up 34 percent compared to the same period in 2009. That compares to a 21 percent increase in U.S. exports to the rest of the world excluding China. China is now the no. 3 market for U.S. exports, behind only our NAFTA partners Canada and Mexico, and by far the fastest growing major market.

The politically inflammatory bilateral trade deficit with China is also up 20 percent so far this year, but our trade deficit with the rest of the world excluding China is up 38 percent.

Yet Sens. Chuck Schumer, D-N.Y., and Lindsey Graham, R-S.C., are still talking about pushing a bill during the lame-duck session that would authorized the same Commerce Department to assess duties on imports from China because of its undervalued currency. A cheaper Chinese currency relative to the U.S. dollar supposedly inhibits U.S. exports to China while tempting American consumers to buy even more of those useful consumer goods assembled in China. [For the record, U.S. imports from China so far this year have grown, too, but at a rate slightly below imports from the rest of the world.]

To anyone taking an objective look at the numbers, this morning’s trade report shows that whatever the wisdom of China’s currency policy, it has not been a real obstacle to robust U.S. export growth, nor has it fueled an extraordinary growth in our bilateral trade balance with China. Members of Congress should drop their obsession with China trade and move on to more urgent matters.