China rejects siren song on yuan

2010-03-18Asia Times

BEIJING - Chinese Premier Wen Jiabao's press conference with foreign media at the end of the National People's Congress on Sunday delivered a slap in the face to those in the United States who are calling for the appreciation of the yuan against the dollar to help stem the ongoing global economic crisis. Wen reiterated China's position on the thorny issue: Beijing will keep the exchange rate stable.

The value of the Chinese currency is an extremely sensitive topic for Beijing. The central government has already raised the possibility of revaluing the yuan by about 10%. With reserves worth up to US$3 trillion, according to some estimates, such a  revaluation would result in a theoretical loss of $300 billion. A 40% revaluation, as some American economists request, would be worth an astounding $1.2 trillion.

Given these figures, the Chinese government is certainly very worried. Revaluation of the yuan would hit exports and have a direct impact on the level of employment at companies reliant on overseas markets. Government calculations suggest a 1% appreciation may correspond to a 1% reduction in exports - and hence to an exponential decline in jobs.

Furthermore, there are a few complications. China has been asked to buy American government bonds and thus it has helped finance the huge US recovery plans. But now it is required to take a big cut in the value of this debt to extend its assistance.

While it is true that China's purchases of dollars helped to keep the yuan artificially undervalued - thus supporting Chinese exports - this policy can't go on forever as the size of the loss China would shoulder is staggering. Thus Beijing drags its feet, and is held back by more general concerns.

For more than a year, Washington has been promising new rules and regulations to control Wall Street banks, which contributed to creating the current economic and financial crises. These regulations, however, still aren't in place. Nor are the parameters for a new global economic order that was to have been born from the ashes of the crises. China, which contributed some 50% to global growth last year, still has weak representation in economic organizations like the International Monetary Fund and the World Bank.

Beijing wonders why China should trust the US on the revaluation while Washington has not yet brought order to its own affairs.

Finally, the revaluation recipe itself is doubtful. In the 1980s, the US pressed Japan for a revaluation of the yen, and that contributed to ensuing economic stagnation in the country. The same could happen in China.

Today, in a state of continuing crisis, a significant move to appreciate the yuan could have destabilizing effects and unpredictable outcomes, both for China and throughout the world.

One immediate consequence could be a massive inflow of foreign capital into China, betting on further appreciation of the yuan. This could make the present financial and real-estate bubbles in China even bigger and increase inflationary pressures. If the bubbles burst, the ensuing flight of capital would plunge the Chinese economy into chaos.

That would be a disaster not only for China but for the rest of the world, which could crash in depression since by itself the fall in the dollar's value could not pull the American economy out of its doldrums.

Chinese economist Huang Yiping argues:

Let's imagine some scenarios in which [American economist Paul] Krugman gets what he asks for: the US Treasury Department names China as a currency manipulator and the [Barack] Obama administration launches a trade war against China. If this were to happen, the most likely scenario is that China would then stick to its current exchange rate regime and retaliate with trade sanctions against America. This would reduce trade between the two countries but, more importantly, seriously damage investor confidence worldwide. A trade war between the two largest economies is a non-trivial event for the world economy. In the face of a much more uncertain economic future, investors would scale back their investment plans and consumers would cut back their spending. [1]

Besides, Beijing doubts that people in Washington want to export their crises to China and to make China the bogeyman to stir public opinion and push the US for protectionist measures against "mercantilist China".

A trade war between the economic giants would cause all countries to sink into a depression far more acute than the ongoing one. Because of this, cooler heads on both sides of the Pacific call for calm, cooperation and understanding of each other's problems.

Yet there is a further twist in this story. Until the crisis, China took the US financial and economic system as the undisputed model. The crisis has shaken that trust and the performance of the Chinese economy in the past two years has eroded it further. Some in China are wondering if something is deeply flawed in the US economic model.

Most important, besides the cycles of the international economy, is America able to lead the way out of the crisis? Isn't China better suited to find its own way out of troubles? The past 30 years of reform, the experience of last year and the history of failed advice from US pundits - to Japan in the 1980s and then to Asia after the 1997 financial crisis - have strongly dented America's intellectual leadership in times of crisis.

If the Krugmans [2] of this world are unable to fix the problems in the US, what credibility do they have in dictating mantras for recovery to China on the value of the yuan?

Meanwhile, on the other side of the Atlantic, many see arrogance in China. In Britain's Daily Telegraph, Ambrose Evans-Pritchard wrote:
China has succumbed to hubris. It has mistaken the soft diplomacy of Barack Obama for weakness, mistaken the US credit crisis for decline, and mistaken its own mercantilist bubble for ascendancy. There are echoes of Anglo-German spats before the First World War, when Wilhelmine Berlin so badly misjudged the strategic balance of power and overplayed its hand. [3]

His seems not to be an isolated voice, and the room for mutual understanding seems shrinking in recent weeks as mutual distrust grows - so the room for compromise might become increasingly narrow.

China is becoming surer of itself, verging on arrogance. Beijing doesn't trust American leadership in the crisis. And in turn, the US feels snubbed and reviled as its intellectual leadership through a time of global economic distress cuts less ice in China. It maybe ultimately is an issue of a clash of moods. But, only the totally arrogant fail to pay attention to the mood of others.

1. Krugman's Chinese renminbi fallacy March 15, 2010. Author: Yiping Huang, Peking University.
2. Taking on China (, Paul Krugman. March 14, 2010.
3. "Is China's politburo spoiling for a showdown with America? The long-simmering clash between the world's two great powers is coming to a head, with dangerous implications for the international system." Ambrose Evans-Pritchard, March 14, 2010. Click here ( (2010-03-18 Asia Times)


+MoreOther Commentary