The value of the Chinese yuan has been a
sore spot in United States-China relations in
recent years. The US, faced with a US$256.3
billion trade deficit with China for 2007, a
threefold increase since 2000 ($83.8 billion), has
called on Beijing to revalue its currency based on
the presumption that it is set artificially low
against the dollar - maybe by as much as 40% [1].
Washington has demanded that the Chinese
government take bold and concrete steps in raising
the yuan's value; Congress has even threatened
sanctions on China if it did not comply. China,
however, has so far weathered the pressure for any
dramatic appreciation of the yuan, citing domestic
concerns and arguing that adjustments in the
exchange rate will not significantly alter its
trade surplus with the United States, nor would it
cure America's economic ills.
Beijing has
made slow but gradual upward appreciation of
the
yuan
while spending hundred of billions in dollars
buying the United States' growing debt. In January
this year, China spent $492.6 billion to purchase
US government treasury bonds, making it the
second-largest buyer of US debt, after Japan. With
inflation in China reaching a record 8.7% in
February 2008, the yuan's appreciation will likely
continue in part to fight domestic inflation,
while the ripple effect of the sub-prime mortgage
crisis in the United States continues to
reverberate throughout the US economy.
Coupled with a presidential election
campaign, debate over China's currency policy will
undoubtedly heat up in the US in the coming
months. Perhaps a look at what the Chinese are
writing and reading will offer some insight into
what Beijing is thinking.
Fanning the flames of
currency wars Currency Wars (Huobi
Zhanzheng), a book written by a Chinese native
who lived in the United States and worked on Wall
Street, has become a runaway bestseller in China
in the past nine months [2]. The book caused a
sensation of interests and heated discussions in
Chinese cyber space and other media on Western
intentions behind its demand that China quickly
appreciate the value of its currency. Song
Hongbing, the book's author, draws from a wide
range of literature in English and argues that the
modern history of international finance is
primarily a process of how a very small number of
powerful families in the West have established
their control over governments and international
institutions.
According to Song, there is
no such thing as a free market when it comes to
global finance and financial institutions. From
the Rothschild family at the time of the
Napoleonic Wars to the rise of JP Morgan, the
Rockefellers and other prominent US financial
powerhouses, Song sees all the modern wars,
depressions and men-made disasters having a
linkage to the manipulation of a handful of
Western private bankers.
The Great
Depression of the 1930s, the oil crises of the
1970s, and the fall of the Soviet Union were all
apparently masterminded by the small group of
Western bankers and financiers. The book's
significance and its number one spot in China
today is due to the author's argument that after
Japan was brought to its knees by the forced
appreciation of the yen, and after the Asian
financial crisis of 1997-98 that shattered the
other Asian "miracle economies", the American and
European financial oligarchs are now turning their
attention to China - and the form of the real
Western subversion of the Chinese economy would
come in the form of "currency wars".
As
the book's preface makes very clear, the West has
so far been unable to stop the rise of China but
there is clear and present danger ahead. The
analogy here is that China is like a huge economic
development aircraft carrier, which can take on
all challenges coming from every direction.
However, just as the People's Liberation
Army Navy (PLAN) has in recent years built up a
small but formidable submarine force that can tail
and challenge the larger US aircraft carrier
battle groups, China's "economic carrier" is
vulnerable to financial sub-attacks that are
launched by the powerful Western financial
institutions. The book warns that China must do
everything possible to prepare for and defend
against a coming currency war waged and led by the
US and other Western countries' financial tycoons.
The
$1.6 trillion question The popular
perception of fear is also based in part on
China's success in becoming a global financial
power. Over the past three decades, the Chinese
leadership has pursued a modernization program
largely built on traditional economic development
models: heavy industrialization, labor- and
capital-intensive manufacturing industries,
export-led growth, low labor cost and high
environmental damages.
As part of China's
development paradigm, Beijing is following a basic
premise laid out by old school mercantilism on the
accumulation of wealth: export as much as possible
while discouraging imports where feasible, and the
larger the trade surplus, the richer and stronger
the state. This dogma has kept China's currency
value low for most of the past 30 years.
Rather than let the yuan's exchange rate
be decided by the market, the government set a
fixed exchange rate by pegging the yuan to the US
dollar. As long as GDP continues to grow by close
to double digits every year, and exports expand
further with a low currency value against the
dollar, both central and local authorities can
claim success.
As China's overall trade
surplus in foreign trade led to the accumulation
of more foreign reserves over the years, Beijing
encountered a major problem: few people in Beijing
knew how to run a more balanced trade sheet or how
to effectively use the funds.
When it
comes to the call for increasing the value of the
yuan, Beijing is very concerned about its
potential impact on China's export
competitiveness, and its impact on China's
employment rate. To ease US complaints, China
would often go on a shopping spree for US goods
before large bilateral meetings such as a summit,
buying billions of US goods at a time, magnifying
that Beijing was indeed serious in reducing its
trade imbalance with Washington. Another vehicle
for China to deal with its accumulating dollars
account is to invest them back in the US economy
by purchasing US government treasury bonds.
When China finally realized that it could
no longer keep piling up foreign reserves, and
that it is becoming risky to hold so much,
especially in US dollars, Beijing implemented a
major reform in 2005 that halted the yuan's peg
with the dollar and instead adopted a floating
exchange rate mechanism, pegging the Chinese
currency to a number of currencies other than the
dollar [3].
Although the trading range was
very narrow and the appreciation rate was small,
the yuan has strengthened against the dollar from
about 8.27 yuan to a dollar in July 2005 to the
current 7:1 yuan-dollar exchange ratio.
While foreign observers have recommended
that China should take much bolder steps in
raising the yuan's value by about 15-25% or more,
and allowing a much wider band of currency trading
between 5 to 7% - as opposed to less than 1% -
Beijing has adapted a more cautious approach
(Asian Wall Street Journal, September 12, 2003).
It declared that China will only raise its
currency value on its own initiatives, and do so
only when the domestic market is stable, and
proceed with a gradual and controlled pace.
However, some farsighted Chinese experts
have advocated a much faster speed in increasing
the value of yuan as a way of addressing China's
trade surplus problems. For instance, Yu Yongding,
director of the Institute of World Economics and
Politics at the Chinese Academy of Social Sciences
and former member of the country's powerful
Currency Committee, has argued that raising the
yuan's value against the dollar is in the
fundamental interests of China.
A stronger
yuan, Yu writes, will certainly have an impact on
China's export volumes, and potentially affect
some manufacturing jobs. But the impact will be
limited given the size of the Chinese economy.
Furthermore, China's imports will become cheaper,
thus canceling out any negatives that may come
from the reduced exports. Ultimately, such
macro-level adjustment will make the Chinese
economy much healthier and more competitive [4].
Internal debates on the currency featured
at a recent conference on globalization and its
impact on China, jointly organized by the Chinese
Academy of Social Sciences (CASS) and the
University of Toronto. Scholars from CASS, China's
top think-tank, passionately advocated surgical
procedures that would see a sharp increase in the
value of yuan as well as a total restructuring of
the Chinese economy.
Wang Songqi, deputy
director of the Institute of Financial Studies at
CASS, contends that the best way for China to deal
with its $1.6 trillion foreign reserve is to
appreciate the Chinese currency by 40%, and move
the Chinese economy into a more value-added
industrial structure through a new type of
international division of labor. In this new
design, China would transfer the current
labor-intensive manufacturing industries to other
developing countries that have a lower wage range
[5].
The new kid on the
(financial) block Before radical
approaches can be implemented, Beijing needs to
deal with the huge amount of money in its hands.
Most funds have found their way back to the United
States through the continuous purchase of US
treasury bonds. Some of the funds have gone to
investments in energy and resources around the
world.
Nevertheless, China has been
largely unsuccessful in its efforts to gain access
into the North American market, because of
protectionist sentiments that raises the specter
of the national security risks of having
significant Chinese stakes in key US strategic
industries. The $18.5 billion takeover bid of the
US energy firm Unocal by China National Offshore
Oil Corporation in the fall of 2005 failed. The
recent purchase plan of 3Com by China's Wuawei
Corporation - a joint bid with a US company with
Wuawei in minority share - also fell through. And
in both cases, US national security concerns cast
a major shadow over Chinese intentions. In energy-
and resource-rich Canada, Chinese investment
remains extremely small to date.
Beijing's
recent establishment of sovereign wealth funds and
its global investment in banking and financial
institutions have also raised alarm levels on the
strategic orientation of China.
At the
same time, China Investment Corporation (CIC), a
new Chinese government investment institution with
$200 billion of the country's surplus dollars, has
shown that it is still a long way from becoming a
professional financial institution. Its large
investment in Blackstone last year turned out to
be a heavily losing venture.
With the US
and global economy in so much trouble, there are
now opportunities for China to pour in much-needed
Chinese capital around the world. Britain and
Japan, for example, have expressed particular
interests in CIC investment in their countries.
The world today does not seem to long for any
"currency wars" such as the one suggested by
Song's book. Rather, it needs a well-managed
process to bring down China's trade surplus
without creating a self-fulfilling prophecy,
increase the value of the yuan with minimal
negative impact and integrate China into the world
financial system to create the "win-win" situation
that it needs.
And Beijing may have so far
the strongest incentive not to wage any currency
wars but to accelerate the pace of yuan’s
appreciation. In January, the consumer price index
in China went up 7.1% from a year earlier,
followed by a 8.7% year-on-year increase in
February (Bloomberg, March 28). A major
appreciation of the yuan, together with raising
the interest rate further, is seen as the most
effective way of bringing China's ongoing
inflation under control.
Notes 1. Eduardo
Porter, "A Rising Yuan Won't Lift All Boats," New
York Times, August 7, 2005. 2. Song Hongbin,
Huobi Zhanzheng (Currency Wars), Beijing:
China CITIC Press, 2007. 3. "China adjusts yuan
rate, abolishes dollar peg", Chinese Embassy
release, July 21, 2005. 4. Yu Yongding, Global
Imbalances: "China's Perspective"; paper prepared
for international conference on European and Asian
Perspectives on Global Imbalances, Beijing 12-14
July 2006. 5. Wang Songqi, Institute of
Financial Studies, the Chinese Academy of Social
Sciences, "Structural Reform of the Chinese
Financial System: Challenges and Opportunities
under Globalization", presented at the conference
on Globalization and Sustainable Development,
Beijing, March 12-13, 2008.
Wenran Jiang is
a professor of political science and director of
the China Institute at the University of Alberta,
and a senior fellow at the Asia Pacific Foundation
of Canada. He is the editor of the forthcoming
book, Fueling the Dragon: China's Energy
Demand and Its Implications for Canada. The
views expressed in his publications are his own
and do not reflect the institutions with which he
is affiliated.
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