April 13, 2017
I don’t generally comment on pieces that reference me, but Jordan Weissman has given me such a beautiful teachable moment that I can’t resist. Weissman wrote about Donald Trump’s reversal on his campaign pledge to declare China a currency manipulator. Weissman assures us that Trump was completely wrong in his campaign rhetoric and that China does not in fact try to depress the value of its currency.
“It’s pretty hard to argue with that. Far from devaluing its currency, China has actually spent more than $1 trillion of its vaunted foreign reserves over the past couple of years trying to prop up the value of the yuan as investors have funneled money overseas. There are some on the left, like economist Dean Baker, who will argue that Beijing is still effectively suppressing the redback’s value by refusing to unwind its dollar reserves more quickly. But if China were really keeping its currency severely underpriced, you’d expect it to still have a big current account surplus, reminiscent of 10 years ago, which it doesn’t anymore.”
Okay, to start with, I hate the word “manipulation” in this context. China isn’t doing anything in the dark of the night that we are trying to catch them at. The country pretty explicitly manages the value of its currency against the dollar, that is why it holds more than $3 trillion in reserves. So let’s just use the word “manage,” in reference to its currency. It is more neutral and more accurate.
It also allows us to get away from the idea that China is somehow a villain and that we here in the good old U.S. of A are the victims. There are plenty of large US corporations that hugely benefit from having an under-valued Chinese currency. For example, Walmart has developed a low-cost supply chain that depends largely on goods manufactured in China. It is not anxious for the price of the items it imports to rise by 15–30 percent because of a rise in the value of the yuan against the dollar.
The same applies to big manufacturers like GE that have moved much of their production to China and other developing countries. These companies do not “lose” because China is running a large trade surplus with the United States, they were in fact big winners.
Okay, but getting back to the issue at hand, I’m going to throw the textbook at Weissman. It is not true that we should expect China “to still have big current account surplus” if it were deliberately keeping its currency below market levels.
China is a developing country with an annual growth rate of close to 7.0 percent. The U.S. is a rich country with growth averaging less than 2.0 percent in last five years. Europe is growing at just a 1.0 percent rate, and Japan even more slowly. Contrary to what Weissman tells us, we should expect that capital would flow from slow growing rich countries to fast growing developing countries. This is because capital will generally get a better return in an economy growing at a 7.0 percent rate than the 1–2 percent rate in the rich countries.
If capital flows from rich countries to poor countries, this means they are running current account surpluses. The capital flows are financing imports in developing countries. These imports allow developing countries to sustain the living standards of their populations even as they build up their infrastructure and capital stock. In other words, if China was not depressing the value of its currency, we should it expect it to be running a large trade deficit.
This is actually the way the world worked way back in the 1990s, a period apparently beyond the memory of most economics reporters. The countries of East Asia enjoyed extremely rapid growth, while running large trade deficits. This all changed following the East Asian financial crisis and the disastrous bailout arranged by Robert Rubin and friends. Developing countries became huge exporters of capital as they held down the value of their currencies in order to run large trade surpluses and build up massive amounts of reserves.
But Weissman is right that China is no longer buying up reserves, but the issue is its huge stock of reserves. As I explained in a blog post a couple of days ago:
“Porter is right that China is no longer buying reserves, but it still holds over $3 trillion in reserves. This figure goes to well over $4 trillion if we include its sovereign wealth fund. Is there a planet where we don’t think this affects the value of the dollar relative to the yuan?
“To help people’s thought process, the Federal Reserve Board holds over $3 trillion in assets as a result of its quantitative easing program. I don’t know an economist anywhere who doesn’t think the Fed’s holding of assets is still keeping interest rates down, as compared to a scenario in which it had a more typical $500 billion to $1 trillion in assets.
“Currencies work the same way. If China offloaded $3 trillion in reserves and sovereign wealth holdings, it would increase the supply of dollars in the world. And, as Karl Marx says, when the supply of something increases, its price falls. In other words, if China had a more normal amount of reserve holdings, the value of the dollar would fall, increasing the competitiveness of U.S. goods and services, thereby reducing the trade deficit.”
So, there really are no mysteries here. China is holding down the value of its currency, which is making the U.S. trade deficit worse. It is often claimed that they want their currency to rise. That may well be true, which suggests an obvious opportunity for cooperation. If the U.S. and China announce a joint commitment to raise the value of the yuan over the next 2–3 years, then we can be fairly certain of accomplishing this goal.
This should be a very simple win-win for both countries. Walmart and GE might be unhappy, but almost everyone else would be big winners, especially if we told them not to worry about Pfizer’s drug patents and Microsoft’s copyrights on Windows.
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