April 5, 2010 3:00 am
The US Treasury announced this weekend that it is postponing a report, which had been due later this month, on whether China is a currency manipulator. Not for the first time, this semi-annual ruling threatened to be a flashpoint in US- China relations. The administration of Barack Obama wants to maintain recent progress with Beijing on other issues and hopes, even now, for a friendly resolution of the quarrel over the renminbi.
The delay is wise. Long may it continue. Hu Jintao, China's president, has just announced he will attend a summit on nuclear security in Washington this month. The US continues to hope that Beijing will sign up to sanctions against Iran. Sacrificing agreements in these and other areas to make an empty gesture on the renminbi or, worse, to launch a series of escalating trade disputes, would be mad.
This is not to deny that China's currency policy hurts its trading partners. If US threats were likely to solve the problem, one might say: threaten away. Even discounting the need to get on with China on other issues, however, this is an unpromising approach. America must apply pressure more intelligently.
To be clear, China is not just manipulating its currency; it is doing so in a way that harms other nations and violates at least the spirit of its international obligations. According to nearly all estimates, the renminbi is between 20 per cent and 40 per cent undervalued. China has maintained this undervaluation with massive intervention in currency markets. And it has taken measures to stem the inflation (and the rise in the real exchange rate) that would otherwise have resulted. In short, it has followed a sustained, deliberate policy of competitive undervaluation.
Analytically, this is equivalent to a combination of import tariffs and export subsidies - that is, to overt protectionism. As Arvind Subramanian of the Peterson Institute has argued in these pages, the rules of the World Trade Organisation would forbid the policy if it were conducted in two separate steps. Strategic undervaluation does both at once yet escapes WTO remedies.
China is a member of the International Monetary Fund as well as of the WTO. The IMF is supposed to monitor and guard against macro imbalances of the sort Beijing's policy has contributed to. Its role, to which China has assented, includes policing exchange rates - a task it has all but abandoned. China's exchange rate policy exposes a breakdown in the international economic system and in the institutions created to oversee it.
Understandably, many in Congress despair of fixing the system. To make China change its policy, they say, the US must threaten unilateral action against its exports.
Conceivably, this might work - but what an outrageous gamble it would be. If you make a threat, you had better be ready to carry it out. Beijing is hypersensitive to foreign criticism and to any suggestion of weakness. Is it likely to give way? If it does not, and the US imposes tariffs, and China retaliates, what then? This is a disaster scenario for the global economy, a study in turning a fragile recovery into the bottomless collapse the world has just avoided. On top of which, the geopolitical implications of a bitter US-China split could make the economic consequences look trivial.
On fiscal policy and other issues, China has shown it is capable of co-operating but it will not be bullied and is jealous of its sovereignty to the point of derangement. The US, of all countries, should have no trouble understanding this mindset. To gauge the likelihood of China surrendering to intimidation, Congress should ask itself how the US would respond to Chinese threats. The chances of either backing down are about the same.
Repairing the global system in a way that engages China as an equal is likely to be more productive, and the downside risk is smaller. The new Group of 20 leading nations, with China aboard, is up and running. The economic crisis has furnished an opportunity to go further in reforming international arrangements and institutions. The US should find partners to press for tougher IMF-supervised procedures for addressing current account imbalances.
New rules should not seek to stigmatise China. If any nation has a large and persistent surplus or deficit, the IMF should rule on whether its currency is misaligned. If it is, and the nation does nothing to remedy the resulting imbalance, the baton should be passed to the WTO, which could authorise trade penalties.
On this approach, the US would not be prosecutor, judge and jury. Other countries' interests and influence would be brought to bear. China would be involved with designing the framework, cementing its standing in the international system. The rules would apply to everybody and Beijing would have cover for backing down. Resistance to a toughened multilateral regime might arouse as much suspicion in Washington as in Beijing - further proof of its even-handedness.
China might not be keen: it would see where this was going. Reforms of this sort have been envisaged before and have come to nothing. Multilateral efforts might fail again. But an erratic mix of trade unilateralism and manifest US impotence looks even less promising. Above all, if the multilateral approach failed, that would be merely disappointing; if unilateral escalation went wrong, the results could be catastrophic.
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