A Day Late, 8.3 Renminbi Short

18 April 2005



Bush Administration Presses China on Currency Rate

For years, the People's Republic of China has pegged its currency, the oddly named renminbi (what was wrong with the yuan?), to the US dollar at the rate of about 8.3 to 1. This was done, in part, to ensure that China maintained some market-driven discipline in its rapidly growing and often over-heating economy. And in part, it was done to ensure that Communist Party officials kept control of the economy. Now, it only serves to distort trade to the detriment of the US, China and the world. So, it was comforting to hear the Bush administration calling for a float of the renminbi this week, four years late.

The administration up to now had been happen to discuss things quietly with the Chinese behind closed doors. This is the way the PRC's leaders prefer to negotiate. They can stall forever without being shamed into action. But the Senate voted 67-33 last month (a veto-proof majority) to consider legislation from Senator Chuck Schumer (D-NY) that would allow the US to slap 27.5 per cent tariffs on Chinese goods if China doesn't revalue its currency within six months. And the House of Representatives has suggested that the Commerce Department should have more responsibility for the issue, which is currently the bailiwick of the Treasury. So, rather than a conversion on the road to Damascus about currency policy, the Bush administration is trying to head off internal political pressures. Still, the right policy is in place.

Now, the Chinese are busy complaining about the content of Japanese textbooks for high school kids and can't ad dress the issue right now. But it is in China's long-term interest to float their currency too. An over-valued currency results in some serious problems, not least of which is cheap imports that choke off domestic industry -- particularly serious in a developing country like China. The hope in China is that the wealth from trade will spread across the nation from the beaches in the east to the desert and mountainous west. But, that will require development that won't happen if imports don't rise in price. And income disparity will result in a return of real communism (Great Cultural Revolution communism) if Beijing isn't careful.

Unfortunately, the half-hearted communists of Beijing aren't terribly good at capitalism and they remain married to the mercantile idea that a treasury full of US T-bills (21st century gold) is good for their nation. To a degree it is, but the Chinese now own billions of dollars of US taxpayer debt. It is not a diversified portfolio, and that contains huge risks for China. Floating the currency now will result in a drop in the value of these dollar-denominated assets, but failure to do so means a bigger drop later as the US dollar continues its slide against other currencies (and it can't really recover until the US has a budget surplus again -- it's the law of capital flows). Which is wiser, taking a 15% loss now or a 50% loss later?

The White House says, with some factual support, that China's banking system has been strengthened in recent years, and that the Chinese economy is strong, with people growing richer and the government raking in tax revenue. It is the ideal time to float the currency because losses will come from future rates of growth; that is to say, rather than growing 10% the economy might only grow 6%. The loss is an opportunity cost. Now, if only the Red Chinese can see that Adam Smith was wiser than Chairman Mao when it comes to exchange rate flexibility.


© Copyright 2005 by The Kensington Review, J. Myhre, Editor. No part of this publication may be reproduced without written consent.
Produced using Fedora Linux.

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