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    China Business
     Dec 13, 2006
Paulson in China: Tread softly, forget the big stick
By Jing-dong Yuan

As US Treasury Secretary Henry Paulson began his visit to China on Tuesday, he brought with him what has been dubbed a "dream team" of half a dozen cabinet secretaries including those of Commerce, Energy, Labor, Health and Human Services, the US Trade Representative and, most significantly, Federal Reserve chairman Ben Bernanke.

The mission? To address what Washington views as the perennial

irritants in Sino-US economic relations - trade imbalance, undervaluation of the Chinese currency, lack of intellectual-
property protection and, what is perhaps the most important, US companies' access to China's market.

Since becoming treasury secretary last July, Paulson has become the principal US interlocutor by initiating high-level economic dialogue with Chinese leaders. During his September visit to China, Paulson not only managed to meet both President Hu Jintao and Premier Wen Jiabao, he generated a lot of expectations that as a recognized "China hand" - as chairman and chief executive officer of the investment bank Goldman Sachs, Paulson visited China more than 70 times - that he could deliver on charting a new course for US-China economic relations without resorting to trade wars between the two countries.

While the Chinese currency has undergone modest appreciation since the summer, it is still considered significantly undervalued. That, together with government subsidies, underpins sustained Chinese exports globally, but especially to the United States, registering a high of US$23 billion in September.

US lawmakers such as Senators Charles Schumer and Lindsay Graham have proposed a 27.5% across-the-board tariff on all Chinese imports until China revalues the yuan. While Schumer praised Paulson's efforts to engage the Chinese to address US concerns, he could reintroduce the bill should Paulson's mission fail to achieve any meaningful result.

However, the most serious complaint these days is about the alleged denial of market access to China for US businesses. As US manufacturing sectors continue to lose jobs, there is growing pressure on the administration of President George W Bush and Congress to exert pressure on China to open its market more so that US companies have a fairer chance of competition, in compliance with its obligations to the World Trade Organization.

Paulson's China visit takes place at a time of increasing trade frictions between the two countries. With Democrats soon to control Congress after last month's mid-term elections, the administration could feel intense pressure to push for changes in what are generally regarded as China's mercantilist trade practices. Given the high stakes and expectations, Paulson will need to deliver on substantive progress in obtaining major concessions from Beijing. This seems to be a mission impossible.

There are both political and economic reasons for China to resist calls for its currency revaluation, slowing down its exports, or opening its markets to foreign competition. Politically, Chinese leaders face mounting challenges to maintain sustained economic growth rates, to create employment opportunities to absorb 15 million people moving into the labor market annually. Given the nature and structure of China's economy, continued growth depends on sustained exports.

China's reforms over the past nearly three decades have also engineered significant changes in how public goods are provided. Increasing portions of health care, education, housing and other social-wealth spending are borne by individuals, resulting in high saving rates and hence lowered overall consumption. This in turn leads to significant portions of gross domestic product being export-driven, driving up China's trade surpluses and US trade deficits with China.

Often ignored in the assessment of China's export momentum are the dynamics of globalization where multinational corporations and retail chains make their investment and purchasing decisions based on profit margins, which continue to favor China as a major hub of global manufacturing.

However, at the same time, the growing economic and strategic ties between the two countries make any quick fixes difficult to achieve. There will be strong resistance to the kind of economic reforms that Washington is calling for.

First, Beijing does not see America's economic woes as all of China's making, reasoning that Washington should also think about the structure of US economy, its spending patterns and lack of adequate savings. Second, China could not afford to bend under US demands because of the potential risks to economic growth and social stability. Third, Chinese leaders point out that they have already introduced noticeable reform measures, including the steady appreciation of the yuan since summer.

Finally, Beijing argues that China has become one of the fastest-growing markets for US-made goods and services in recent years. The current trade imbalances, however exaggerated they are from the US side, can also be attributable to Washington's restrictive policies when it comes to US exports of high-tech commodities to China.

There are also broader strategic interests that could be negatively affected by the pending trade frictions. China has played a critical role in the six-party talks to defuse and eventually look for a solution to the North Korea nuclear crisis. The second phase of Round 5 of the talks is set for next Monday, and this resumption after more than a year's suspension is due in no small measure to Beijing's painstaking diplomacy.

The Bush administration can ill afford losing such a critical partner at a crucial moment when it not only needs to make progress on North Korea, but also to head off another potential crisis related to Iran's nuclear developments. As a permanent member on the United Nations Security Council, China's endorsement, or at least its absence of opposition, would be critical in ensuring that any Security Council resolutions could be adopted.

Paulson certainly needs to convey the message and US frustration to Chinese leaders but also to convince them that it is to China's own interests that it should adopt bolder reform measures to open its economy further, including allowing greater access to its markets by foreign companies, currency valuation, and better protection of intellectual property.

But the key to securing Beijing's cooperation on these reforms will require patience and diplomatic skills that are informed by a realistic assessment of the political and economic feasibility, rather than driven by political expedients. The best that the Paulson mission could achieve is perhaps some modest progress but with a consensus with his Chinese counterparts on a specific roadmap that will serve as the guide for US-China economic relations and strengthen overall bilateral ties in the years ahead. Therein lies the challenge.

Jing-dong Yuan is associate professor of international policy studies at the Monterey Institute of International Studies.

(Copyright 2006 Asia Times Online Ltd. All rights reserved. Please contact us about sales, syndication and republishing.)

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