"Manipulator is Congress, not China"

♠ Posted by Emmanuel in , at 6/20/2007 01:12:00 AM
The Bloomberg columnist Caroline Baum has come out swinging in favor of a gradual resolution to trade tensions between the US and China by branding the US Congress the currency manipulator in question, not China. Apparently, the Chinese were rather pleased with this column as they put it front and center on the China Daily website. In her column, Baum repeatedly cites someone from the Cato Institute, that bastion of libertarian virtue. I usually agree with Baum when she comments on domestic (US) economics, but I have several nits to pick here. My opinion on the matter is trickier to explain, though I will try to get my counterpoints to Baum across:
China may not qualify as a currency manipulator, according to the terms set out in Section 304 of the Omnibus Trade and Competitiveness Act of 1988. Not to worry: The U.S. Congress is happy to fill those shoes...

On the same day that Treasury was punting on name calling -- preferring, instead, a Strategic Economic Dialogue between the two countries -- four U.S. senators picked up the ball, introducing legislation that would make it easier for American companies to seek redress under anti-dumping laws.

``For too long our currency policy has left American workers and businesses unprotected from foreign governments seeking an unfair financial advantage,'' said Senate Finance Committee Chairman Max Baucus, Democrat of Montana, one of the bill's sponsors.

In case the good senator hasn't noticed in his 32 years in Congress, the U.S. has no currency policy. And as for getting China to adopt a more flexible exchange rate, anything Congress does will probably be counterproductive. Sovereign nations don't like to be seen caving in to pressure from other countries.

``What country has changed as much as China in the last 30 years in terms of opening its markets?'' said Dan Griswold, director of the Cato Institute's Center for Trade Policy Studies in Washington. ``And how much has the U.S. benefited? The whole debate is based on a false notion of mercantilism. You can't realize real gains through currency manipulation.''

In the Asian financial crisis in 1997, ``some currencies practically dropped 40 percent overnight,'' Griswold said. ``It didn't create prosperity.'' [This is a ridiculous comparison. Capital flight, not currency manipulation, caused these countres' currencies to devalue. Besides, prior to the crisis, these currencies were perceived as overvalued, not undervalued.]

Two of the other sponsors of the Currency Exchange Rate Oversight bill, Republican Lindsey Graham of South Carolina and Democrat Chuck Schumer of New York, are back for their second China go-round. Last year, the duo sponsored legislation that would have slapped tariffs of 27.5 percent on Chinese imports. They withdrew the bill when it became clear that it wasn't compliant with World Trade Organization rules.

``Our previous legislation got China's attention,'' Schumer boasted at a June 13 press conference. ``The purpose of this legislation is to require them to change.''

Schumer's ``elegant solution'' to the China conundrum involves identifying ``fundamentally misaligned currencies'' for ``priority action'' in 180 and 360 days if the misaligned country fails to adopt ``appropriate policies'' to realign itself. The final step would require the Treasury and Federal Reserve Board to consult with other central banks and consider ``remedial intervention in currency markets.'' [Yes it is unwieldy, but the threat of action will more likely affect things than any sort of intervention undertaken in the currency markets.]

As a practical matter, how would that work? Schumer's elegant solution seems to have some inelegant operational difficulties. For example, how exactly would the Fed sell dollars and buy yuan, a currency that isn't freely traded in the open market? ["Non-deliverable forwards."]

Graham's protectionist motivations derive from the fact that South Carolina competes, so to speak, with China in textile and apparel manufacturing. At the top echelons of that competition is billionaire Roger Milliken, head of a multinational textile empire based in Spartanburg and a major Graham supporter. It wouldn't be a huge leap to assume a connection between Milliken's contributions and Graham's trade positions.

Critics of China's currency-management policy claim the yuan is undervalued by as much as 40 percent, giving the country's exports a competitive advantage. [It is the most undervalued currency to the tune of -56% in a list compiled by the Economist using a simple purchasing power parity measure called the Big Mac Index.]

You never hear much about the disadvantages, about China paying artificially inflated prices for the capital goods and intermediate materials it imports. It overpays for vast amounts of raw materials, everything from oil to copper to steel. [Did you ever consider that the reason why the prices of these goods are artificially inflated is because the yuan is kept artificially weak?]

At the same time, do American consumers want to pay 40 percent more for underwear and other low-end apparel from China? (China's lost market share would be other emerging countries' gain, but it would still mean higher import prices for Americans.) [Maybe keeping their jobs is more important to certain key constituencies than being able to buy Jockeys on the cheap.]

China still has a long way to go to reform its domestic financial system and move from a managed to a flexible exchange rate. Because it lacks developed capital markets and a monetary policy of its own, China has to resort to various administrative measures to manage its booming economy. [Like accumulate $1.2 trillion in reserves instead of spending it on social safety nets like health care, education, and pensions.]

The People's Bank of China raised its one-year benchmark rate by 100 basis points in the last two years, hardly an onerous increase in an economy that continues to barrel ahead at 11 percent. It increased reserve requirements five times this year.

In addition, China cut tax breaks for exporters, imposed limits on real-estate investment and land use, implemented environmental controls and tripled the stock transfer tax.

Change doesn't happen overnight, especially in a country impoverished by decades of state control of the economy. Congress seems to have run out of time. [It's called the election cycle.]

Schumer said there's broad bipartisan support for the currency bill in the House and the Senate, and he expects it to pass with a veto-proof majority. [Don't bet against it.]

``A large number of people in both parties got the China issue wrong,'' Griswold said. ``To intentionally weaken the dollar to gain some illusory trade advantage is a fool's errand.'' [That may be so, but the momentum is against you.]

Now there's a challenge Congress won't be able to resist.