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U.S. and China Playing the Currency Kabuki
By Dian L. Chu, Economic Forecasts & Opinions
In his testimony before the U.S. Congress last Thursday, Treasury Secretary Tim Geithner accused China of "very substantial" currency intervention, and the U.S. will use every available tool to urge China to let the yuan rise more quickly, including taking it up in front of the G20 Summit and WTO. President Obama quickly followed up with some more tough rhetoric on Monday, while U.S. lawmakers are weighing new legislation against China.
In June, China pledged to relax its grip on yuan. Since then the currency has risen 1.53%, but economists estimate the yuan is undervalued by 12% to 40%. This makes yuan an effective political diversion of the high U.S. unemployment in an election year.
Yuan & American Jobs
The prevailing argument in Washington for taking a hard line against China is that a yuan appreciation would bring manufacturing jobs back to America, as preached by observers including Paul Krugman and C. Fred Bergsten from the Peterson Institute for International Economics (PIIE).
Nevertheless, I believe this is overly hyped, exaggerated, and mostly politically motivated. Besides, not everyone is as certain about how large a role the RMB's value would play in the U.S. economy.
For example, Bergsten from PIIE said in his testimony to Congress that "every $1 billion of exports supports about 6,000 to 8,000 [mainly high-paying manufacturing] jobs in the U.S. economy."
However, a recent research by Joseph Francois, and Simon J. Evenett indicates quite the opposite. Dr. Francois found that the majority of China's exports to the U.S. are not destined for American consumers, but for firms in the form of components and other unfinished goods.
Since imports from China and elsewhere feed into the overall cost structure of the U.S. economy, roughly 420,000 U.S. jobs could be lost if the RMB is revalued by 10%, based on the calculation by Evenett & Francois.
U.S. Manufacturing Already Lost
The fact is that America has been evolving into an economy that’s more service and high tech oriented and gradually losing its manufacturing base along the way for more than 10 years. A yuan revaluation might improve the trade imbalance and gain some jobs back to the U.S., but it is not going to totally reverse the economic course set in motion over a decade ago.
In addition, China’s lower cost advantage has more to do than just an undervalued yuan. A rising yuan will just take one element out of the equation, and thus will unlikely make as dramatic difference to the US manufacturing sector as people may expect. Even if it does, companies would just seek out other lower-cost countries such as Vietnam, Indonesia or Africa, instead of moving operations back to the U.S.
And there’s the “Wal-Mart Effect” that cheap imports from China actually help the U.S. consumer's pocketbook, increase companies’ profitability, thus encouraging more hiring and jobs.
A Free Pass for Japan?
The yuan issue is also further complicated by Japan’s first unilateral yen intervention in six years-- estimated at more than 2 trillion yen ($23.32 billion). Japanese officials already indicated the government will continue the yen intervention if necessary. And judging from its last intervention in 2004--Y35+ trillion in 15 months—Japan’s got a long way to go.
U.S. lawmakers conspicuously didn’t address this new act of Japan during last week’s congressional hearing. In light of recent heightened tensions between China and Japan, giving Japan a free pass to intervene would only infuriate Beijing. That means zero chance for China to even consider curtailing such activity, if just for the sake of “saving face”.
Forex Management - A Group Sport
On the other hand, addressing it with both China and Japan would open a whole new can of worms, since they are hardly the only countries engaging in exchange rate management
In its 2010 annual outlook report, Asian Development Bank quoted studies suggesting that the currencies of Hong Kong, Malaysia, Taiwan and Singapore--in addition to China--were more than 20% undervalued against the dollar, while the currencies of the Philippines and Thailand were also about 12-15% undervalued. It said that only Indonesia, South Korea and India had currencies that appeared to be slightly overvalued (See Table).
Reacting to Japan’s latest intervention, Columbia, joining Brazil and Peru, became the latest Latin American economy to intervene in the currency market. And there are many more likely candidates.
As the U.S. is on the verge of calling China a “currency manipulator”, and slapping on heavy tariffs, expect a dramatic global rhetoric exchange around the subject of “How about Japan and others?”
International Support?
Since the financial crisis, the pace of accumulation of U.S. dollar by all central banks has increased reflecting a flight to the perceived safety of U.S. treasuries.
As such, any currency movement, even a gradual one, causes a significant change in the value of a country’s reserves. Supporting America’s yuan cause could put other countries' currency under question and reserve value at risk as well.
And don’t forget China’s growing financial and investment clout in many parts of the world. So this planned global yuan campaign by the U.S. (and Europe), will unlikely gain that much international support.
Yen & The Plaza Accord
Despite renewed yuan criticism, those speculating that China would yield to increasing political pressure from the U.S. will be greatly disappointed. As outlined in my previous post, a rapid rising yuan would post major risks to China’s export, employment and national wealth.
And thanks to the Plaza Accord of 1985, China gets to observe and learn from the Japanese yen. Yen appreciated against the dollar and Germany's deutsche mark complying with the Accord, which eventually left Japan facing a dramatic asset bubble burst. China is not about to walk down that same fateful path.
Currency Kabuki Continues
As discussed here, China has no incentive to cave in and deviate from the current yuan course—gradual and modest ascend over time--which has been working for them since the global financial crisis. And truth be told, in today's global structure, the U.S. needs a healthy, growing Chinese market for its own wellbeing (and vice versa for China).
If China's wants to take it slow on yuan to maintain growth, it is not necessary such a bad thing for America either. Meanwhile, the U.S. would probably do better to look for self-prosperity by focusing on many other more serious economic and financial issues, instead of pinning hopes on a rising yuan.
While it is nice to see President Obama and Mr. Geitner talking tough right before the mid-term election, the topic of yuan is going to be a long and drawn out international debate. So, we could expect to see the currency kabuki between the U.S. and China continue playing ..... with a new supporting role by Japan.
Dian L. Chu, Sep. 20, 2010
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Yeah, lets drive the unemployment rate to 50% which will force the hourly wage down to $3.50 an hour and watch all those "middle class" Americans sign up for government funding to be retrained to assemble sanitary pads. That is a great plan.
Another sure bet. If we cannot force the Yuan up how about we force the US dollar down? Hmm, let's see. All those foreign folk buying USTs that pay negative nominal interest after inflation will now loose another 10 to 15% on the currency drop. Foreign folks will be banging the doors down to loose money that fast. You cannot beat this level of financial innovation.
1. Does US have the resources needed to produce its own goods today at comparable prices? - NO
2. Are US labor costs comparable with third world costs? NO
3. How is US planning to handle inflation of atleast 10% per year due to increased costs of essential goods and maybe more for other goods?
4. Without US demand, chinese manufacturing will crash - bringing down Europe to its knees. Europe will be forced to procure from other cheaper alternatives or to get its act together and manufacture on its own which will increase costs there also.
5. Chinese trade retaliation and other activities are not even considered here which would also harm US exports. There are lots of scenarios here including margin losses for most of Fortune 500 and huge capital losses. How will you react to AAPL falling 50%.
5.a- equity losses and higher bond yields will cause heavy losses to all investors.
5.b- Stronger yuan will make raw material/commodities imports cheaper for China and likewise costlier for USA if demand remains constant.
Changing the existing equilibrium will inevitably increase costs and bring in an inflationary world order which will force Fed to increase interest rates resulting in much higher deficits due to dramatic increase in interest expenses. This will result in more QE's and printing causing an hyperinflationary kaboom.
Sad Ending ahead... alternative endings are welcome.
But not everyone can be a rocket scientist. It doesn't make sense to me that the US can't manufacture a good percentage of its own goods. Germany is a First World nation and they certainly do. Japan is a First World nation and they do. What are they doing where they're able to maintain their manufacturing base that we're not doing? Why is it ordained that we can't build ships (beyond military ships), televisions or generators (to name a few, random things)?
Perhaps raising the yuan's value wouldn't be a salve for all our manufacturing base wounds, but we can't go on sustaining these huge trade deficits. One way to eliminate them is to raise the price of imported goods and that can either happen through letting the yuan appreciate or through tariffs. It's one or the other; choose your poison. We simply cannot continue on the road we're on.
Germany, Japan...etc cannot build much without all the components produced in China. It would take years to reproduce all the suppliers who are now in China. Costs on some products with large numbers of electronic components could easily be 2-3x assuming a non-Chinese based supplier could be found.
So Anarchist, which way would you like it ? Continuing deflation and Wallmartization of America, outsourcing the last remaining manufacturing jobs in America, and to hell with your neighbors.
Or outlaw Walmart in America, let them move to China. And go back to what made this country great. Made in America (aside from the fat and lazy auto industry) meant quality.
What you bought would last and last. No more, everything from China is crap- no exceptions. No need to design in planned obsolescence when the materials and workmanship are already shoddy. They are so embarrassed by their crap that "made in China" often cannot be found on the product- only on the original shipping packages.
I think Americans should pack up all the shit imported from China and demand a refund. That refund would easily exceed the U.S. debt held by China.
We are not "evolving" into a service economy like it is some God-ordained destination. We are losing our manufacturing base because of political decisions by political prostitutes.
No great country can last without a secure manufacturing base. Have you noticed China is growing and employing its citizens ? And the U.S. is shrinking and losing its job base. I guess to you it must be coincidence.
Are suggesting we could get some of our home grown, U.S. born criminal bankers to invent more shit paper to sell to the rest of the world. Oh, wait, they tried that and it seems that caveat emptor is not a popular product with others. No repeat customers.
China is the Trojan Horse, brought in and nourished by American Industry. The U.S. is being played for a chump and the Chinese know very well what the end game is.
If China stops pegging it's currency to the dollar, US interest rates are going to jump like crazy. Japan is cooked due to demographic problems and will not be able to buy US bonds in the same quantity. Another kick in the nuts to interest rates.
Not sustainable,
Correct.
High tech innovation is a money loser. Manufacturing the devices the innovators dream up makes all of the money.
If we want to keep the edge in science and technological development we need to get a manufacturing base back. Supporting an innovation structure just for innovation's sake will not last long... inevitably the high tech innovators will end up being near the manufacturing plants.
Only the mass middle class employment provided by manufacturing can long support the expense of innovation.
The game continues. This is a ploy to get China to float their currency so it can be manipulated up. When it goes up then the Chinese will be forced to invest more outside their country to maintain their wealth since their export market will become weaker which should hold wages down inside China. This will help the economies in other countries as they build factories ect.., maybe they could buy some more treasuries and dollars to keep the dollar from falling against the yuan( if its floated). Deja Vu (Japan)
What a CROCK, this is just Political Theater.............
The Chinese are already outsourcing jobs to countries w/ lower wages than THEIRS!!
If the powers that be want inflation, might as well start with wage inflation.
Put a 10.47% tariff on Chinese shit tomorrow, then you're at the low end of undervalued estimates. See how it shakes out from there. It's retarded for a SOVEREIGN nation to bitch about another currency being undervalued. Just put a tariff on it then. Boom, problem solved.
So they stop buying American goods like Boeing Jets and US Bonds. Mysteriously certain products, electrical components, chemicals, rare earths ..etc are in very short supply and 4x the price. American Industrial output plummets by 30%.
Sounds like a plan to me.....
I never said it was a good plan. Just that if Congress was going to complain about currency manipulation, they can solve that problem with a stroke of a pen. And hey, China would be unable to feed its people and we'd get the collapse we're all waiting on anyway.
Let's face it, putting aside products with computer chips, most of what China ships to the US is junk no lazy assed American would ever want to manufacture. A rising RMB exchange rate will stoke inflation which will stoke unrest.
Careful what you wish for Timmy.
Let me clarify, high quality junk...
The vast number of Western/Japanese factories in China are not all shipping junk. Even if a number leave to get lower labor costs, a lot of the knowledge how to assemble cars, trucks, ships, high tech electronics and the component supply chain required to build them is left behind. The US lost these component suppliers decades ago. Japan is losing them a vicious clip as many are moved to China or closed down. There is no way Vietnam or other cheap labor locations will be able to duplicate these component suppliers. Vietnam will be stuck making toys and shirts. Most people have no clue how many suppliers are required to build every piece in a car or LCD TV. They also have no clue that the Chinese government does the negotiations and procurement of the raw materials that Chinese industry uses. In 20 years they will be able to project power in a way the US and the West will be impotent to block access to raw materials.
What you should have said is that if China stops pegging it's currency to the dollar, US interest rates are going to jump like crazy. Japan is cooked due to demographic problems and will not be able to buy US bonds in the same quantity. Another kick in the nuts to interest rates.
China ships junk? Tell that to Steve Jobs and all the Mapple Brainwashed.
ROFL!
The currency issue is a perfect diversion for the East/West coast Senators as they act like they care about the rising unemployment in the US. The FED must accomdate to stimulate job growth. But the job growth occurs overseas in China/India and the US economy drifts lower. So the FED must accomdate more and create more jobs overseas. The elite/powerful rich who run Washington/Wall Street are partners with the elite powerful rich in China/India. So its a win, win situation for the rich but its a suck, suck tough life the the US citizens. The rich in congress love higher unemployment since they can demand form stimulus and FED accomdation which makes them more money. But they come on TV and tell the people to look only at the currency issue