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Oct 24

Psst … is China a currency manipulator and cause of the world financial crisis?

Written by Allen on Saturday, October 24th, 2009 at 6:53 am
Filed under:Analysis, General | Tags:, , ,
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According to an op-ed by Paul Krugman in the NY Times today, China is not only a currency manipulator, but also a cause of the world financial crisis. I usually have some respect for Mr. Krugman, so I’ll try to take his op-ed seriously.

Krugman wrote:

Senior monetary officials usually talk in code. So when Ben Bernanke, the Federal Reserve chairman, spoke recently about Asia, international imbalances and the financial crisis, he didn’t specifically criticize China’s outrageous currency policy.

But he didn’t have to: everyone got the subtext. China’s bad behavior is posing a growing threat to the rest of the world economy. The only question now is what the world — and, in particular, the United States — will do about it.  Some background: The value of China’s currency, unlike, say, the value of the British pound, isn’t determined by supply and demand. Instead, Chinese authorities enforced that target by buying or selling their currency in the foreign exchange market — a policy made possible by restrictions on the ability of private investors to move their money either into or out of the country.

Wait a minute. Underlying this passage are a mouthful of myths and fictions that I can’t just let pass. China is a currency manipulator but countries like Great Britain is not?

It is true that China has more restrictions over the movement of money into and out of the country than most Western countries, but China is hardly the only country that manipulates the value of its currency. Every country – including the European Union – controls the value of its currency by manipulating the supply and demand of its currency. The U.S. currently sports a weak dollar policy and set the value of its currency by buying and selling bonds, setting the fed fund rate, changing the reserve requirements, even interfering in the foreign exchanges at times, etc.

One should remember that China is a developing nation and its restriction on the movement of money is something which even Mr. Kruagman concedes in the op-ed may be appropriate. Lest we forget, it was the unchecked global movement of money by currency speculators that devastated economies of so many countries in Asia during the 1997 Asian Financial crisis. At this critical moment, China has a duty to itself, as well as to the rest of the world, that something like the 1997 crisis does not happen.

Kraugman goes on:

Many economists, myself included, believe that China’s asset-buying spree helped inflate the housing bubble, setting the stage for the global financial crisis. But China’s insistence on keeping the yuan/dollar rate fixed, even when the dollar declines, may be doing even more harm now.

I think that is going a little too far. China is not responsible for the U.S. housing bubble.

The housing bubble was fueled by easy credit made possible by a deluge of exotic financial instruments such as mortgage-backed assets and credit default swaps. It was financial institutions from all corners of the world (investment banks, commercial banks, hedge funds, pension funds) – not the Chinese government – that flocked to purchase these instruments. Unfortunately, due partly to a lack of regulations, many institutions gobbled up these new exotic assets without truly understanding the risks.

For the few initiated who want to dig further for the cause of the financial crisis, the crisis had its roots in U.S. domestic policy. Throughout the 1990′s and 2000′s, the U.S. government aggressively pursued a policy to spread home ownership. The government encourage banks to hand out easy credit. Despite signs of a bubble, the government mandated Fannie Mae and Freddie Mac to buy up mortgages from banks so banks could lend out even more, causing a precipitous cycle. It was in this environment that Wall Street popularized the exotic financial instruments which greased the bubble machine.

Americans need to own up for what has turned out to be bad policies. Yes, these are complicated issues. But don’t blame China for these troubles. (If we want to accuse China of helping to inflate the housing bubble, we might as well also accuse China of helping to cause the Iraq War, since the war was also funded in part with money borrowed from China.)

Krugman wrote further:

By pursuing a weak-currency policy, China is siphoning some of that inadequate demand away from other nations, which is hurting growth almost everywhere. The biggest victims, by the way, are probably workers in other poor countries. In normal times, I’d be among the first to reject claims that China is stealing other peoples’ jobs, but right now it’s the simple truth.

Now Krugman has become truly delirious. Is it ok or not ok to pursue a weak currency? Just when has it become not ok to pursue a weak currency during bad economic times? If what Krugman says is true, then isn’t the U.S. pursuit of a weak currency during economic hardtimes – achieved by lowering interest rates and expanding the money supply – also fundamentally flawed … and immoral?

Moving beyond Krugman’s confusing op-ed, let’s take a more realistic look at what is going on.

Most of the world today is still mired in a deep recession. But as leaders of the major economies in the G20 has agreed, the best way forward is for the major economies to coordinate with each other in stimulating each country’s economy. During these difficult times, it is imperative that the major economies refrain from being protectionism and engaging trade wars with each other.

China has maintained a stable currency policy for the last decade or so. It looks like China may finally be leading the world in a fragile global recovery. This is hardly the time rock the boat by scapegoating China or demanding China change its currency policy.

Looking to the future, we can take a few notes.   As the Chinese economy becomes bigger and more powerful, it can no longer continue to be an export-driven economy. The trade deficit between the U.S. and China is also not sustainable for the long term.

But what is the best way to proceed forward? Would increasing the value of the yuan fix everything?

Probably not.  The trade imbalance between the U.S. and China is more complicated than that.

Even if China’s currency were not an issue, people will still blame China’s labor standards, healthcare system, savings rate, intellectual property regime, tax code, environmental regulations, etc. whenever trade frictions occur. As long as there is a difference between China and the U.S., protectionists will latch onto that as the cause for disengaging trade.

Personally I believe that trade can be sustainably conducted between developing and developed nations. There will always be complex issues, but these issues can be worked out.

On the flip side, the fact of the matter is that U.S. policy also has plenty to blame for causing the trade deficit.

The U.S. has the most advanced technologies and the most formidable companies in the world. Yet the U.S. limits technology exports to China and prevent Chinese companies from investing in U.S. companies.

The official explanation is that the U.S. fears that China’s military will modernize too quickly if China is allowed to purchase advanced U.S. technologies. But technology moves so fast these days, and information flows so readily, China will eventually get what it needs. The end effect of the embargo serves only to breed more political mistrust and distort trade.

A better way forward is for the U.S. to lift the technology embargo so U.S. companies can sell advanced technologies that China needs and make the money to develop the next generation of technologies. U.S. companies should be allowed to accept investments from Chinese companies to access the resources needed to more vigorously develop better products, services, and technologies. (National security concerns still count. But the current prejudice against Chinese investment reflect more paranoia than national security.)

Relation between the U.S. and China will shape the 21st century, Obama had said earlier this year.

The U.S. and China must not to get mired in suspicion, distrust, protectionism or get entrenched in bickering about each others’ differences. There will be many give and takes along the way. But the thrust of the way forward should be to strive onward, cooperate, and openly (and confidently) develop each side’s strength.


There are currently 1 comments highlighted: 51709.

97 Responses to “Psst … is China a currency manipulator and cause of the world financial crisis?”

  1. Charles Liu Says:

    Krugman said in his OpEd:

    “Treasury Department, while expressing “concerns,” certified in a required report to Congress that China is not — repeat not — manipulating its currency. They’re kidding, right?

    This is quite a serious charge, actually. United States Congress passed law requiring the Treasury Department to report currency manipulation activity by China, and has oversight on the judging criteria.

    Is Dr. Krugman accusing the US Treasury Department of contravening stated law and falsefying their report? I’d like to see some evidence.

    (BTW, this isn’t the 1st time, nor will it be the last, that China’s currency is made the scapegoat:
    2006
    2005
    2004)

  2. EugeneZ Says:

    Allen, I read this piece on NY Times, and was thinking about it as well. Paul Krugman writes well, in general, I like his Op-Ed pieces, right after David Brook’s. But he is often wrong, and he knows it. For instance, earlier in the year, he was a strong advocate of nationalizing large banks. When Obama administration did not take his advice, he was not happy. But with the benefit of hindsight, his advice was too drastic and after all not well thought out, and unnecessary.

    This piece about China, I totally agree with you, is terribly flawed. I can tell that he has got emotion, but no logic. His main thesis is that China should not peg RMB to USD so that the United States can devalue the dollar to stimulate export, and cheat on national debt (if you owe someone $100, and devalue the dollar by 50%, you only have to return $50, that is cheating by my standard). He actually said that there was nothing wrong with the pegging, but he does not like it because it is an obstacle to dollar devaluation which is what he wants.

    He is acting like a child – “I want it, I want it, I want it so bad, how come you do not let me have it?” No reason, no logic, but with the title of Nobel Laureate.

    Silly man, silly world …

  3. anon Says:

    Honestly, I think the fact that the US had put much of their resources into the Iraq war is the reason that we entered this economic crisis. The US is not only involved in fighting in Iraq but also in Afghanistan and probably other parts of the world that they don’t want to expose to the public. Maybe I’m wrong because I really don’t know much about this type of stuff… And I’m just unhappy about the US spending money on a damn war instead of education (angry at tuition hikes)!!!!

    Anyway, Paul Krugman is kind of embodying how Americans think. Americans are egotistic. The US never owns up to itself and blames others because they can. They are the almighty powerful who can never fall.

    The US also can’t get over the fact that Russia and China aren’t communists anymore. Sure, under name China is… But really? Thus, they must attack China and make them look like it’s their fault because they are Commies! They belong to the reds! they are evil and out to get us! Seriously…i’m on a tangent.

  4. justkeeper Says:

    My two cents: China does play a part, but it doesn’t mean China is supposed to be responsible for that. The role of China is very much like the role of subprime mortgage borrowers in the crisis, who can theoretically stop the crisis from happening, but are not in a position to make a sound judgement, the financial speculators of Wall Street instead, are in a position to make a sound judgement, but they failed to do so.

    anon: I quite agree with you point in your last paragraph. The American mainstream media has started to view China as some sort of a ultimate scapegoat: by blaming China you won’t irritate anyone, those oversea Chinese people will be silent as usual, and the assumption that communism is the ultimate cause of all evils make sense to a lot of Americans. Al Qaeda is another potential candidate to this position of scapegoat, too bad they’re invisible so you can’te hold them accountable.

  5. TonyP4 Says:

    I believe this topic has been posted once.

    It is partly true that Chinese manipulate the currency. However, it has no effect on American export to China. As American culture (or all others too), it is easy to blame others than ourselves: it is nothing wrong with my government and our citizens (both are big spenders and fight the wars we cannot afford), but the ‘evil’ Chinese.

    - Chinese currency and I think Hong Kong too were basically pegged with US’s, so it would not affect import/export with currency fluctuations. Now, it is pegged mainly with US and EU.

    - Most countries would like to increase the value of its own currency. If you borrow from me with my country’s currency and it increases its value by 10%, you need to pay me 10% more with your own currency.

    For the same scenario, I can buy your country’s assets (like land, factories…) 10% cheaper.

    - The drawback. It discourages import from US to China in theory if Chinese currency is adjusted to the market – explain later.

    It is not true as US and China are close to perfect trade partners. The majority of Chinese goods are of cheap, low-cost consumer products and US goods are of high-tech and farm products… In a sentence, they do not compete with each other most of the time.

    China keeps the currency close to US, so it has to eat their profits by reducing jobs loss. The US consumers benefit by low cost consumer goods. If you argue the jobs also go to China. With the US high salary, it would go to other developing countries if not go to China. So, it is a win-win situation for US.

    - “to adjust to the market”. One way is go back to the gold standard that was removed by US. Basically your currency value is adjusted by the gold reserve in your central bank.

    It is over-simplified for discussion.

  6. Allen Says:

    @TonyP4,

    I agree with a lot of what you say. I’d also like to add: if the goal is to keep jobs at home, a country should do NO TRADE with outsiders. That will keep 100% of the jobs at home. Of course, you’d lose 100% of the jobs that were involved in making things to be traded outside also.

    This currency manipulation thing strikes me as funny. Suppose you and I barter where I give you 5 apples for 3 oranges. Then through no pressure by you, I devalue my currency by 50% so now I give you 10 apples for 3 of your oranges.

    Who benefits?

    In a real economy, things are a little more complicated. Sometimes countries manipulate currency to temporarily gain a tactical edge. Sometimes, countries can try to monopolize an industry. But, there is no free lunch. There is a cost as you mentioned in your comment. It’s a dangerous game to devalue your currency for tactical reasons. The outcome may not be what you planned for.

  7. TonyP4 Says:

    Yes, Allen. Your example described exactly what Microsoft did – gave out their under developed (or shxtxx) products free to kick out competitors. When their products mature, they charge you an arm and a leg esp. when there is no competitors.

    I believe in free trade. It lets us buy the best product at the best price from any countries. Product dumping (selling products at loss) is not free trade though.

  8. Allen Says:

    @TonyP4,

    Product dumping is not free trade.

    I can buy that. Free trade requires competition. The temporary reduction of price to get rid of competition definitely hurts free trade.

    But has China been dumping for the last 5, 10, 20 years? Those who argue by pegging the RMB at artificially low exchange rates may argue that China has been dumping products to the world for the last 20 years.

    I don’t think a country can dump products in such a broad manner for such an extended time. China is not a rich country. They can’t afford to give away things in this blanket fashion.

  9. Realclearchina Says:

    @ Allen: I disagree with your assessment.

    Facts:

    1. The US has no official policy on the value of the dollar. It is what it is. Lowering the interest rate and increasing the money supply is in response to contracting economic growth (and other factors), not “pursuit of a weak currency” during bad economic times.

    2. As for the housing crisis, there is no way US housing prices would have been so inflated if China wasn’t buying so many T-Bills. Greenspan was able to keep interest rates so low for so long only because China was lending the US so much money and exporting so many goods (thus pushing down inflation). Of course US domestic policies and the international financial community also played a very important role in the housing bubble, but you cannot overlook the “unintended consequences” of China’s currency manipulations.

    3. If the US should lift its ban on on high-tech exports to China, China must first improve intellectual property rights.

    4. Put aside silly talk about morality and legalisms, I think it is definitely in the best interests of both the US and China if China allows the RMB to respond to market forces and appreciate against the US dollar. My reasons:

    a) It will help correct the the macroeconomic trade imbalance between the two countries
    b) it will help China adjust to a “consumer-driven” growth model, away from exports
    c) it will alleviate protectionist impulses in the US congress (also in China)
    d) it will increase the purchasing power of the Chinese people

    Of course allowing the yuan to appreciate will not “fix everything” but it will fix a lot of things. And just because other countries may also “manipulate” their currencies doesn’t mean it is the best thing to do…

  10. FOARP Says:

    On the specific issue of the arms embargo, let’s not forget what caused it to come in in the first place. Every year brings reminders of why this embargo is good policy – would he PRC allow its weapons technology to be exported to Taiwan?

  11. DJ Says:

    FOARP #10,

    Sure, the U.S. is within its right to withhold what PRC wants to buy. But then, stop complaining about trade deficit!

  12. Jed Yoong Says:

    Haiyah. Who is the “currency manipulator” who sold China lots of now almost valueless govt bonds? They are really good with this “rolling the money” game. Borrow money from China to buy China’s manufactured goods. ??

  13. colin Says:

    30 years of deregulation, credit inflation, subversion of the real economy by the FIRE industries (Finance, Insurance, Real Estate) and incompetent leadership is what caused the great crisis, not China. This piece by krugman is utter BS.

    Greenspan, Geithner, Summers, Clinton, Bush, the Banksters, Rubin, Bernanke, and clueless economists like krugman are some of the real culprits. These guys repealed Glass-Steagall – laws that were set up in the aftermath of the 29 crash to prevent another great depression. Oh, will humanity ever learn?!

    The following is a good partial look at what caused the current crisis.
    http://www.pbs.org/wgbh/pages/frontline/warning/

    Also,don’t think that krugman doesn’t have an agenda, either his own or someone else’s.

  14. colin Says:

    And as if the US is not a currency manipulator? It’s printing trillions of dollars hoping inflate its way out of the crisis. Just ask the EU what it thinks of the US monetary policy.

  15. colin Says:

    No country practices purely free trade. Everyone will do what they can for their own advantage, as long as it doesn’t harm other goals. Free trade, like a free and efficient market, are utopian ideals – about as respectable as ideal communism thought.

  16. colin Says:

    Some replies to krugman. The comments are interesting too.

    http://www.zerohedge.com/article/chinese-disconnect

  17. Allen Says:

    @Realclearchina #9,

    You wrote:

    The US has no official policy on the value of the dollar. It is what it is. Lowering the interest rate and increasing the money supply is in response to contracting economic growth (and other factors), not “pursuit of a weak currency” during bad economic times.

    Of course the U.S. does have a policy. Please see link I gave in the original post. Changing the interest rate (for example) automatically changes the money supply in response which inherently changes the value of the currency.

    However, if you mean to say U.S. does not peg the value of the dollar to other currency, you are right. Pegging is a type of capital control. For China, stability in export is currently important. That’s one of the biggest reason why it pegs its currency to the dollar.

    You further wrote:

    As for the housing crisis, there is no way US housing prices would have been so inflated if China wasn’t buying so many T-Bills. Greenspan was able to keep interest rates so low for so long only because China was lending the US so much money and exporting so many goods (thus pushing down inflation). … Of course US domestic policies and the international financial community also played a very important role in the housing bubble, but you cannot overlook the “unintended consequences” of China’s currency manipulations.

    I still disagree.

    Let’s assume the U.S. and China did not have a trade imbalance and China had not had the money to lend to U.S. That would mean that China was able to find interesting stuffs in the U.S. to buy and recycle the extra dollars it had back into the U.S. economy. Those dollars would not sit at the Bank of China (or wherever China holds its reserves) but at various U.S. financial institutions.

    Now the U.S. gov’t pursues the exact same policy and wants to borrow money. Do you not think those U.S. financial institutions would not lend? No. If the economy situation is what it was, instead of China lending, it would be those U.S. financial institutions lending money to the U.S. gov’t. Everything would still have happened pretty much the same. So stop blaming the lender! ;-)

    The buck of US policy really ought to stop at the US gov’t. To put it somewhat bluntly: if I were to borrow some money from you and used that money to buy a gun to kill a person, isn’t it a stretch to blame you the one who unwittingly (if Alan Greenspan did not foresee the financial crisis, I don’t think China could have either) lent me the money instead of I the guy who pulled the trigger?

    You also wrote:

    If the US should lift its ban on on high-tech exports to China, China must first improve intellectual property rights.

    Not sure exactly what you mean by this. But IP rights are national rights. Just because you have IP rights in U.S. does not mean you have them in another country. You need to file a patent separately in that other country – within a fixed time – to get that right in that other country.

    Besides, if China is allowed to buy tech from U.S., U.S. will dictate the price it is willing to sell to China – regardless of the IP situation in China.

    Regarding you final point:

    Put aside silly talk about morality and legalisms, I think it is definitely in the best interests of both the US and China if China allows the RMB to respond to market forces and appreciate against the US dollar.

    I actually agree with you.

    In the short to intermediate term, if China’s economy continues to hold up, I expect the Chinese government to allow the RMB to appreciate steadily (as it has over the last decade or so) against the dollar.

    In the longer term, I fully expect the gov’t to make RMB to be freely exchangeable. That is the first thing China needs to do if it wants its currency to play a major role in the world anyways. This may happen in the next 2-3 years. Maybe even sooner.

  18. Realclearchina Says:

    @ Allen

    I have just 2 points to make:

    1. Your housing bubble analysis is making my head spin. If we assume that the US and China does not have a trade imbalance, that would mean that China did not peg the RMB to the USD, which would mean that China would not have exported so much cheap goods to the US, and which would mean higher inflation (and hence interest rates) in the US.

    Higher inflation in the US = Higher interest rates in the US = less money spent on US real estate = less likelihood of a housing bubble. This is my argument.

    To deal with my argument, you need to answer this question: what was the source of cheap credit in the US? It was not the US financial institutions. Why would a bank buy so many T-Bills which only offers an interest rate of less than 5% (currently close to 0%) when the bank can put its capital into higher yielding financial instruments like equities?

    It was China that bought US govt debt because a cheap currency helped fuel export earnings, which was its predominant growth model. Therefore my argument is:

    Cheap Chinese credit (ie “currency manipulation”) + US domestic policies + lax regulatory environment + silly formulas on Wall Street = US housing bubble.

    Therefore, China needs to share part of the blame.

    2. On intellectual property rights. They are not “national” rights. They are property rights, assigned to individuals and companies by a nation. Yes, you file a patent in a certain country… the problem in China is that the laws for IPR are not well enforced (like a lot of laws in China) and thus creates the conditions for rampant piracy.

    Of course selling technology, like selling anything, is dictated by supply and demand (and hence the buyer and seller arrive at an equilibrium price), but if China does not respect intellectual property rights, then how can the American firm afford to sell? You would have to sell at 100 or 1000 times the “normal” price because the Chinese party will just steal the technology and make knock-offs…

  19. colin Says:

    “To deal with my argument, you need to answer this question: what was the source of cheap credit in the US?”

    The shadow banking system, fractional reserve banking, high leverage, massive risk taking, no regulation, and let’s not forget outright fraud – all leading ultimately to a massive credit bubble for the ages. The banks and bank-like entities creating their own money in ever faster and exponentially greater ways out of thin air. $650 trillion derivatives traded in 2008 – against what is the entire GDP of real goods produced on earth in 2008?

    The US was in charge of all decisions that lead to the crisis. For example, if it thought Chinese purchases of tbills were bad, and could lead to a harmful RE bubble, it could have limited selling tbills or take some other action. It didn’t.

  20. S.K. Cheung Says:

    To Colin:
    “For example, if it thought Chinese purchases of tbills were bad, and could lead to a harmful RE bubble, it could have limited selling tbills or take some other action. It didn’t.” — this might explain why 3 of 4 variables in Realclearchina’s equation refer to domestic issues.

  21. TonyP4 Says:

    * China has some examples of product dumping. A US expert added up the ingredients of making a certain steel wire. The final product from China was cheaper than the combined ingredients by a large margin. Of course, this practice cannot continue long-term. I bet they will charge full price when the US company abandons that product.

    * There are always trade wars when trade is not treated fairly. Usually they try to settle the conflict in the court first and usually do not have a good solution. China tries to avoid all of them, but just cannot. For example, some trade wars with Korea are just ridiculous and their partial embargo does not related to the conflicts and hurts both sides. Eventually, they settle their differences after ‘saving’ faces on both sides.

    The import of rice or farm products to Japan could cause the politicians to lose his jobs.

    Import of Japan’s HSR technology was very low-key to avoid nationalism in China. Many conflicts may not be money oriented.

    * US could be one of the few countries in the world that can close the door to outside world in trades and be self sufficient. At that time, we could buy a car double our regular cost and only lasts for 4 years, and Hollywood will be making half of the money. Free trade brings up the best of each country in theory.

    * US can control all the trade deficit and destiny should be in our hands. We should start with ourselves first. We should blame the addicts first than blaming the drug pushers, control our obesity than blaming the fast food chains, and blame our reckless spending than our bankers.

    In business 101, the drug pushers, fast food chains and bankers just fulfill a need of what the society needs – good or bad.

    We’re all growns-up, aren’t we? Do not act like a spoiled, cry baby any more!!!

    * High tech embargo is a separate topic. If you trace where the middle east and N. Korea missile technology comes from, it is not hard it is from China no matter how hard they hide. If you trace further, the initial Chinese technology is from US via Chien in McCarthy’s witch hunt. How ironic?

  22. Nimrod Says:

    FOARP Says:

    On the specific issue of the arms embargo, let’s not forget what caused it to come in in the first place. Every year brings reminders of why this embargo is good policy – would he PRC allow its weapons technology to be exported to Taiwan?

    +++++
    What caused it was a change of strategic course near the end of the Cold War. We’re talking about any kind of technology or component that may or may not relate to arms. This is very broad, and at this point, arms embargo is an excuse for not passing on any kind of business or strategic advantage to China.

    Besides the US exports arms to plenty of countries that use them questionably. It also has little to do with Taiwan.

  23. Nimrod Says:

    Every country has controls on its markets. The difference is a matter of degree. Even for currency pegging countries, China is maligned but the Gulf states are not. Let’s also not forget that the US and its trading partners in parts of the 20th century when they were at similar levels of development also pegged their currencies to each other and found the stabilizing advantages of doing so to be a positive. Therefore, the fact that China is targeted for these policies is in equal parts political posturing as true concern for long-term sustainability.

    On whether currency policies caused the financial crisis, it is like asking whether the store that extended its customer credit to make purchases is to blame for the said customer defaulting on her other bills when they came due or becoming poor. Yes the store is part of the chain of events, so in some sense it is part of the “cause,” but no, it is not to blame. The customer, who is the only one ultimately responsible for its behavior, is to blame. Even if the customer’s professed creed is a “free market” one of “taking all offers of credit offered to me and buying anything I could with it.” We can only conclude that the customer was stupid and rigidly ideological.

    The store is not off the hook either. It is after all responsible for its own behavior to itself. It would be to blame — not the customer — if it went out of business because it was imprudent in making loans. China would be to blame if the imbalances of these policies caused long-term detrimental effects to its own future. In a sense, within China there is an urgent need to start on the course of rebalancing, but this would be for its own good, not because others are taking potshots.

  24. Raj Says:

    Nimrod (22)

    What caused it was a change of strategic course near the end of the Cold War.

    That’s a less than honest answer. The embargo was caused by the Tiananamen protest killings in 1989. America may maintain it because currently military relations are poor/the US and China are military competitors, but had it not been for the decision to crush the protests with military force 20 years ago the ban would not have happened – or if it had, it would have happened later.

    Remember that the European Community brought in its own arms embargo as a reaction to the 1989 crackdown.

  25. Charles Liu Says:

    Somebody in another thread offered up the fact such embargo were so broad precluded sale of riot helmet to China. On a personal note I’ve on occasion ran into export control issues. The most vivid example is a 15 year old CNC with software on 5 /14″ floopy was subject to review. The factory in China eventually found the same used equipment Italy.

    Good lord, not selling non-lethal riot gear to the Chinese surely didn’t save any lives.

  26. FOARP Says:

    @Raj – Precisely. Let’s not forget that western defence companies all lost out big-time from the ban, as many of them had joint projects with Chinese companies like NORINCO, licensing what was then fairly high-level tech.

    @Charles – I’m sorry, but hell no should anything be sold to the PLA, PAP, or any other such organisation. When someone is holding a gun to the heads of millions of citizens of a democratic state, as the PRC does with its missiles in the Taiwan straits, then any sales must be off the table.

  27. Allen Says:

    @Realclearchina #18,

    OK – I’ll stick with your two points.

    1. You wrote:

    Higher inflation in the US = Higher interest rates in the US = less money spent on US real estate = less likelihood of a housing bubble. This is my argument.

    I agree with you. Had inflation reared its ugly head in the 2000′s, the U.S. Fed would have been forced to abandon its cheap money policy (deployed to fight the post 911 recession), raise interest rates, and control the money supply – the group of which would probably have kept the housing bubble in some sort of check (even if it wrecked the fragile economy then).

    But we must remember China has little control over U.S. inflation. It is the preserve of the Federal Reserve to control the U.S. monetary policy, by setting the interest rate, setting the reserve requirement, deciding how much money to “print”, etc.

    The Chinese gov’t neither prints nor destroys any Dollars. Dollars do not become “cheap” simply because the Chinese held them or “expensive” simply because U.S. financial institutions held them (as would be the case if the dollars held by Chinese banks were recycled back to the U.S. by Chinese companies buying U.S. goods).

    Dollar was “cheap” for most of 2000′s because of Fed Reserve policy. Every investor of T-bills (the Chinese included) would love to get a higher interest rate, but the Fed Reserve would not allow it. If the money in Chinese banks had been recycled back to U.S. financial institutions, those same institutions would also have lent the money to the U.S. government – and at the same interest rates. This is the thrust of what I was trying to say in #17.

    It may also help to get some perspective with the following facts. Throughout much of 2000, the vast majority of US debt were never financed by foreign governments (see e.g. this article). The current total US debt debt is about $11.9 trillion. China currently owns $797.1 billion of T-bills. This means China owns no more than 6.7% of U.S. debt.

    2. Regarding the IP issues, perhaps we are talking about different things. I think you are talking about U.S technology companies going to China doing business in China while I am talking about China buying U.S. technologies and doing whatever they want with them in China – in which case IP is really not important at all. GE for example is helping China build some of the most advanced nuclear power plants in the world. Included in the deal is transfer of technology. This can be done with or without IP protection in China.

    In your case, I concede that Chinese IP regime will have a big impact whether a U.S. company will want to do business in China. But it’s not just an issue of China “fixing” its laws. Even if China were to magically implement an IP regime that is exactly similar to that of the U.S. in every single way, you would still have to obtain IP rights in China – separately and distinctively from the IP rights you have in the U.S. And many companies cannot obtain such rights in China simply because the technologies are already old (for example, they have been in public domain for than one year). Each country also reserves right to set different standards with respect to issues such as obviousness, enablement, and subject matter eligibility.

    Besides “IP,” also the challenges facing U.S. businesses doing business in China are differences in regulations and laws, customs, culture, customer taste, infrastructure issues, etc., etc.

  28. Nimrod Says:

    Raj Says:

    Nimrod (22)

    What caused it was a change of strategic course near the end of the Cold War.

    That’s a less than honest answer. The embargo was caused by the Tiananamen protest killings in 1989. America may maintain it because currently military relations are poor/the US and China are military competitors, but had it not been for the decision to crush the protests with military force 20 years ago the ban would not have happened – or if it had, it would have happened later.

    Remember that the European Community brought in its own arms embargo as a reaction to the 1989 crackdown.

    +++++
    Raj, there were many a crackdown before Tian’anmen Square and elsewhere also. What changed this time was the belief that the time was ripe for the toppling of Communist governments everywhere. The only additional thing may have been pressure from the populace since they saw it on TV, but the opinion of the populace is the easiest to manipulate anyway.

  29. FOARP Says:

    “What changed this time was the belief that the time was ripe for the toppling of Communist governments everywhere.”

    Yes, this is why George H.W. Bush gave his infamous ‘Chicken Kiev’ speech backing continued Soviet unity, this is why Margaret Thatcher opposed German reunification, this is why Francois Mitterand urged restraint in Eastern Europe. One would think you had learned precisely zero from the revelations of the last twenty years as to exactly what happened in 1989. The Soviet Empire fell first and foremost from its own internal contradictions, and secondly from its defeat in Afghanistan – western efforts came a long way third.

    In June 1989 people still had no idea that the changes of the next two years after that were going to happen, nor did they seem possible. The arms embargo was brought in against what was at that time seen as a western ally, if only a lukewarm friend-of-convenience – why is this so hard to see? Go and read up on Sino-European and Sino-American relations in the 80′s and this is exactly what you’ll see – muted criticism of human right violations on the one hand, and massive investment and arms deals on the other.

  30. FOARP Says:

    @Allen – “2. Regarding the IP issues, perhaps we are talking about different things. I think you are talking about U.S technology companies going to China doing business in China while I am talking about China buying U.S. technologies and doing whatever they want with them in China – in which case IP is really not important at all. GE for example is helping China build some of the most advanced nuclear power plants in the world. Included in the deal is transfer of technology. This can be done with or without IP protection in China.”

    Allen, I hate to say this, but I really get the feeling that you don’t understand what you are talking about here. IP protection is at the heart of tech transfer. Foreign companies are not transferring their technology to Chinese firms just so that that technology can leak over into other markets wrecking their monopolies in those countries, foreign companies are not transferring their technology just so that the transferees can do what they like with the technology in contravention of the transfer agreement. Do you think Westinghouse don’t have some pretty hard-core guarantees as to how, when, and where the tech. they are transferring can be used? Tech transfer cannot be done in absence of IP protection, because know-how and trade-secret transfer agreements are a form of IP. The agreements will (or at least, should) specify exactly what is being transferred, exactly how it is to be used, if and when proto-types/molds/blue-prints/databases/whatever are allowed to be copied and how they are to be disposed of after termination of the contract etc. etc. etc. This is not simply a straight-forward contractual issue, since the details of what exactly the know-how etc. transferred consist of can be extremely technical and open to abusive interpretation if the judicial authorities lack the technical know-how or political will to interpret such agreements properly. Why else would certain companies wish to specify Swiss, British, German etc. law in these kinds of issues, thus leaving themselves open to all the problems of local enforcement?

  31. Realclearchina Says:

    @ Allen:

    1. The US housing bubble.

    “But we must remember China has little control over U.S. inflation. It is the preserve of the Federal Reserve to control the U.S. monetary policy, by setting the interest rate, setting the reserve requirement, deciding how much money to “print”, etc.”

    So what are you saying, it is all the Fed’s fault? China did not play a key role in keeping US inflation low? China is not to blame? Let’s put the blame game aside, and just focus on causation. The Federal Reserve is mostly concerned with keeping inflation low. Therefore, because of China’s currency regime, which flooded the US – fairly or unfairly – with cheap Chinese goods, China created the conditions for low US inflation, and thus allowed the Fed to keep interest rates low. If you accept this much of the story, then you must also accept that China’s currency regime was an underlying cause of the US housing bubble.

    2. Intellectual property rights.

    “In your case, I concede that Chinese IP regime will have a big impact whether a U.S. company will want to do business in China. But it’s not just an issue of China “fixing” its laws.”

    Let’s not pussyfoot around this issue. One of the hallmarks of capitalism is property rights. If you are dealing with technology – which often requires millions of dollars of upfront capital spent on research and development – the only way you are going to protect your property (i.e. your technology) is through intellectual property rights.

    Therefore, IPR enforcement through the legal system is the only way. Because China’s legal environment is still very underdeveloped, many of the “rules of the game” of capitalism are still not enacted and enforced. But if there is one thing that has helped China develop economically these last 30 years, it has been the establishment of private property rights. If China wants to take the next step up the value chain in the global economy, it will need to enforce IPR more rigorously.

  32. Nimrod Says:

    FOARP wrote:

    “What changed this time was the belief that the time was ripe for the toppling of Communist governments everywhere.”

    Yes, this is why George H.W. Bush gave his infamous ‘Chicken Kiev’ speech backing continued Soviet unity, this is why Margaret Thatcher opposed German reunification, this is why Francois Mitterand urged restraint in Eastern Europe.
    +++++
    And that’s why some countries have a “One China” policy, right? Please don’t confuse rhetoric with preference.

    In June 1989 people still had no idea that the changes of the next two years after that were going to happen, nor did they seem possible. The arms embargo was brought in against what was at that time seen as a western ally, if only a lukewarm friend-of-convenience – why is this so hard to see?
    +++++
    You are getting hung up on semantics. Look, I didn’t mean to say that everybody had a schedule of the Cold War. I say it this way because it’s shorthand using our common knowledge. Maybe the circumstances and timing in which the collapse happened was unapparent to observers before it happened, but certainly not its substance. Gorbachev was enough of a public sign (let’s even ignore what the intelligence community found) that the dynamics were changing and Communist bloc power was waning — the question was what happens next and what were the costs to the West in case of instability. What you wrote actually makes my point: China was a hedge against the Soviet Union — up to 1985. It was precisely the rise of Gorbachev and the dénouement of the Cold War that diminished China’s usefulness in this regard and therefore, while nobody wanted a sudden collapse of China, they also saw no need to keep supplying China with weapons. TAM provided the convenient justification to realign policy. You don’t really believe that an arms embargo is a spur-of-the-moment decision, do you?

  33. Zepplin Says:

    I never liked Krugman’s articles, but China definitely manipulates the currency more so than say Great Britan. While both China and GB do market operations, i.e. buying and selling to manipulate currency rates, China additionally restricts the trading of it’s currency. Anyone can buy British Pounds on the open market but not Chinese Yuans. This indirectly makes the Yuan more “manipulated” than the Pound.

    I also agree that China is partially responsible for the consumption glut in the US due to its savings glut. And yes, Allen, this means I also believe China is partially responsible for the Iraqi war, although the degree of responsibility is much less in the latter than the former.

    What I don’t agree is Krugman’s claim that this is stealing jobs from the developing world. While the depreciation of the Yuan and the USD definitely hurt job wise, Krugman failed to mention many developing world currencies depreciated even more:

    http://seekingalpha.com/article/168748-china-as-scapegoat-again

    It hurts, but it’s not “stealing” when they are stealing even more. But that’s just meaningless semantics, like “manipulate”, “responsible”, and most of Krugman’s Op-Eds

  34. tanjin Says:

    Paul Krugman is a well-known closet China-hater, understood very little about China. He showed that side when he visited China (first time to him) 3-4 days earlier this year.

    Krugman don’t appreciate China’s tremedous effort to develop Chinese nation, nor is he willing or open to give China its due economic place in the world. In short, his view on China and US is still very 70s — US dominating the world, China at the end of thrid world. He is not alone in US though.

  35. Allen Says:

    @FOARP #30,

    Hmm … given that we know each other’s background, I’d think you’d extend a little professional courtesy besides launching into a blind attack saying I have no idea what I am talking about regarding IP.

    Be that as it may – if you re-read my comment in #27, I listed out a host of issues that will confound foreign companies doing business in China. You can define IP however narrowly or broadly you want – but as I tried to allude to, it’s not just about patents … or copyrights … or trademarks, it’s also about local laws and customs. Regarding tech transfers, we often also deal with field of use, schedules of payment, profit sharing, liability, development of new technologies arising from the use of the transferred technologies, etc., etc. These are not issues normally dealt with by the formal IP regime, but by local laws, customs, and business practices. (Go talk to a tech transactions practitioner who has actually practiced this area of law.)

    If you want to transfer technology over – you don’t need a rigorous IP regime in the foreign country. Get a good deal, hire good attorneys, and you are done.

    If you want to do business selling technological products and services or if you want to do a joint venture (sharing technological know-how) in China, you need to get much more involved with the IP regime there – including filing for, obtaining, and defending patents in China; filing for, obtaining, and defending trademark in China; drafting contracts that can be upheld by local courts in China; schmoozing with local officials in China; partnering with local businesses in China; etc., etc. The deeper relation required involves many areas, including IP.

  36. Jason Says:

    If you want to hear a non-partisan opinion of China and how China-bashing on currency manipulation is a jealousy towards China’s increasing powerful economic growth, please read several Cato Institute scholars.

    2008: http://www.cato.org/pub_display.php?pub_id=8856

    2006: http://www.cato.org/pub_display.php?pub_id=6706

    2005: http://www.cato.org/research/articles/hanke-050509a.html
    http://www.cato.org/pub_display.php?pub_id=3946

  37. Allen Says:

    @Realclearchina #31,

    OK – if you want to go at that high level of generality, I probably have no quarrel.

    China was a cause of the America’s problems because it flooded the world with cheap goods, which freed up global capital that would have otherwise gone into expensive production of goods in America, but unfortunately that extra capital was channeled by the U.S. government (with Wall Street’s help) into building the housing bubble – which led to the financial crisis. So even though remote from the financial crisis, China was a cause.

    Just to be absurd (in my own ways), I might also say the entrepreneurs of Silicon Valley were also to blame. They increased productivity of the U.S. workforce, which freed up global capital that would have otherwise gone into expensive production of goods in America, but unfortunately that extra capital was channeled by the U.S. government (with Wall Street’s help) into building the housing bubble – which led to the financial crisis. So even though remote from the financial crisis, Silicon Valley entrepreneurs were also a cause.

    Regarding 2, I do not agree that IP is at the foundation of capitalism. But I agree with you, developing the IP regime is critical as China’s economy advances. There are a lot of problems with the patent regime here in the States (the law promulgates doctrines that have little to do with incentivizing technological development; patent attorneys can be ambulance chasers on steroids). I hope China won’t follow the U.S. path. But I agree China needs an IP regime that serves technological innovation.

  38. Nimrod Says:

    Allen wrote:

    ” … but unfortunately that extra capital was channeled by the U.S. government (with Wall Street’s help) into building the housing bubble – which led to the financial crisis.”

    +++++
    What was the cause of the world financial crisis? There was a Bill Clinton interview last year that made the point very well: it wasn’t the extra money but how it was used. It apparently didn’t get used for good investments that seed long-term and productive gains into the future, but instead money was put into two things: speculation and wars. These are the things that ruin you, not your lender.

    If the free market must lead a nation to make short-sighted ruinous decisions, then there is something stupid and wrong about such a system, in which case I’m glad that China has capital controls in place. Don’t put down the one who succeeded, that’s what I’m saying.

  39. Allen Says:

    If we are going to find someone for causing the housing bubble and financial crisis, how about the world’s aging savers?

    http://blog.atimes.net/?p=1190

  40. Raj Says:

    Allen (39)

    If we are going to find someone for causing the housing bubble and financial crisis, how about the world’s aging savers?

    You agree that there’s more than one party involved and that China could be a big player, even if it’s not the only one?

  41. Charles Liu Says:

    “Could be”, could not be, isn’t saying a whole lot about China’s supposed role. “More than one party involved” does not prove China’s [significant] involvement. The leap of logic in associating the two in order to force a point is astounding.

    Insinuations aside, what is clear factually, is there seems to be some agreement Wall Street is THE BIGGEST player in this mess. Consider the following titles I’ve read, or have been recommended to me:

    House of Cards: A Tale of Hubris and Wretched Excess on Wall Street

    A Colossal Failure of Common Sense: The Inside Story of the Collapse of Lehman Brothers

    Fool’s Gold: How the Bold Dream of a Small Tribe at J.P. Morgan Was Corrupted by Wall Street Greed and Unleashed a Catastrophe

    Lords of Finance: The Bankers Who Broke the World

    Alas, factually speaking, if China is anywhere near a significant contributer to the financial crisis, surely there would be titles written about it. I for one could not find titles such as “China: The Nation Who Broke the World”, “Hubris And Wretched Excess in China” in reference to China’s role and contribution that’s being suggested.

    I am in agreement with Zepplin @ 33, that degree of responsibility is much less for China than our own failings, and “big” is yet another meaningless semantics.

  42. Allen Says:

    @Raj #40,

    Well … I know a lot of elder savers have been directly hurt by the financial crisis. So have a lot of financial institutions (some have gone bankrupt, some are standing on crutches with money from the government).

    China has also been hurt – but indirectly.

    Perhaps a more objective way to measure who caused the crisis is by measuring how much money people have lost directly in the crisis.

    By that standard, I think it’s the U.S. government (which had through Fannie Mae and Freddie Mac invested in a lot of (now defunct) mortgage-backed securities) and Western financial institutions (including formerly stalwart Wall Street banks).

    P.S. Since I was invested stocks in Citibank (dumb move) before, during, and now after the crash – I profess I also helped to cause the crisis. Blaming people like me rather than China for the financial crisis is at least more intelligently honest, in my humble opinion…

  43. Raj Says:

    Allen (40)

    Perhaps a more objective way to measure who caused the crisis is by measuring how much money people have lost directly in the crisis.

    Erm, no it isn’t. It has no automatic correlation as to causation. If we follow your line of thinking, the money speculators who made pots of money on Black Wednesday were blameless because they did well out of it – which is clearly nonsense.

    Blaming people like me rather than China for the financial crisis is at least more intelligently honest, in my humble opinion.

    Allen, sometimes you take trying to defend China too far. Maybe I’d agree with you if you didn’t make this sort of response almost regardless of what the subject was. Like the boy who cried wolf you have a response to defend China so often that I can’t tell when you really might be right.

    You didn’t manipulate a currency to make it artificially low as China did. That wasn’t the only cause of the economic crisis by a long shot, but it’s also true that the global economy would benefit from the yuan’s value being allowed to move much more flexibly.

  44. dewang Says:

    Hi Guys,

    Krugman: “If supply and demand had been allowed to prevail, the value of China’s currency would have risen sharply. But Chinese authorities didn’t let it rise. They kept it down by selling vast quantities of the currency, acquiring in return an enormous hoard of foreign assets, mostly in dollars, currently worth about $2.1 trillion.”

    I thought couple of years ago everyone in the “West” were forecasting inflation going to hell in China. Chinese leaders constantly talked about inflation in China as a potential big problem which could cause social chaos.

    Was it a surprise China keeping inflation at a manageable level? Surprise surprise?

  45. Allen Says:

    @Raj #43,

    You are right. Behavior of money speculators should be considered a cause of the financial crisis that my model in #42 did not capture (but it did get the U.S. gov’t and Wall street banks).

    My point there however is that it’s another measure (we’ve identified so many “causes”); it’s at least a “cause” that is “measurable.”

    As for whether allowing China’s currency to float would be better for the global economy, I am not as sure as you are.

    As I alluded to in the original post, China’s currency control measure exists for a reason. It’s important to make sure China’s fragile recovery does not get shocked by international capital speculation. It is something that Krugman admits in the op-ed is appropriate for a developing economy.

    Also I sense from your comment that you believe China is gaining at the expense of the world (or the West). I tend not to engage in such zero sums thinking. So much of the world is interrelated, zero sum thinking really ought to the exception rather than the rule.

    In the short to intermediate term, China wants a stable currency to ensure its economy (where export is still important) does not collapse. This is not only good for China, but for the world. If China’s economy collapse or falters, and if China falls into chaos, it is bad news for everyone, not just China.

    Earlier in Obama’s administration, we saw Hillary Clinton go out of her way in China to assure everyone that American’s debts are safe to invest in. Many of the things the U.S. gov’t is trying to do to take the country out of the recession requires Chinese cooperation and funding. But China can’t cooperate effectively with a weak and faltering economy. So what is bad for China is probably also bad for America. And what is bad for both China and America is probably bad for the wider world (since at this point, I don’t think there will be too many winners in the world if both China and U.S. falter).

  46. Raj Says:

    dewang (44)

    I thought couple of years ago everyone in the “West” were forecasting inflation going to hell in China.

    I think you need to stop exaggerating in such ridiculous terms. There were many people concerned by inflation in China but everyone forecasting it would go to hell? Besides, I wouldn’t gloat – there are still problems ahead.

    Allen (45)

    In the short to intermediate term, China wants a stable currency to ensure its economy (where export is still important) does not collapse.

    China’s economy isn’t going to collapse because the yuan isn’t tightly pegged to the dollar! It’s one of the strongest in the world, yet you’re making it seem like it’s on crutches.

    A re-balancing of the global economy should happen sooner rather than later. That will benefit China, because if it drags its feet until the global recovery has been going for a while I would bet that the “play-it-safe” brigade will win and kill off further chance for reform with the argument that “things are fine – no need to rock the boat”.

  47. wuming Says:

    Does anybody still study Marxism these days? The phrase is “Surplus Value”. Namely hundreds of millions of laborers in China added huge amount of surplus value into the global economic system. Compare to this amount, the pegging of Yuan to USD had only the minimum effect. If I list the source of the wealth from China that got put into the financial system by their importance, I would say:
    1. Chinese labor surplus value
    2, Chinese productivity gain through large scale, super efficient production organization (the button city, the shoe city …)
    3. Currency pegging (mainly an attempt to preserve the value of the existing foreign currency reserve)
    It is just beyond the imagination of the world that Chinese are willing to work that hard for so little.

    To illustrate this point, consider the case of Chinatown bus. How do the Chinatown bus operators make money charging $15 bus fare from New York to Boston? There could be only two reasons:
    1. They pay bus drivers very little (survival wages, yet these drivers still sent some of these meager wages home)
    2. Their operations are super efficient
    They would have manipulated currencies if they could I assume. Don’t you think there are some lessons here that are relevant to the discussion? Certainly they have contributed to the current financial crisis, being in New York and all.

  48. Charles Liu Says:

    Good one WM 8-)

    I get your point I really do. without any facts, only the stretch of one’s (ideological) imagination, or an imaginary time/dimentional aparatus to confirm “what if” – anything can be put on the Chinese. You really have taken other’s leap of logic to a new twisted exterem.

    So what are the facts really? The question if China is being scapegoated for America’s domestic policy short commings, is at a minimum debatable, with many academics/media/commentary contradicting Krugman’s assertion.

  49. Allen Says:

    If we are talking about things that affect trade, definitely tax rebates and credits and government subsidies should count also.

    Did you know that even film making is being subsidized these days (http://online.wsj.com/article/SB10001424052748703816204574489153078960792.html )?

    Should such things be attacked as vigorously as “currency manipulation” for distorting trade?

  50. Allen Says:

    @wuming #47,

    Regarding your point 3, one thing I don’t get is what is the incentive for the Chinese gov’t to peg one’s currency too low.

    Today the exchange rate for RMB to dollar is Y $6.8 per US $1.

    Would China set the exchange rate to Y $10 per US $1 (or even Y $50 per US $1) if US allows it?

    My gut feeling is no – there would be a riot in China that the gov’t is short changing the people. Some might argue: but China gets to keep jobs. But keeping jobs is not the end all and be all – if it were, China would work for the world for free – that would ensure maximum amount of jobs go to China – even if China doesn’t get paid for it.

    I still don’t see any motive for China to depress its currency over the long term. What’s the point of doing business just to lose money. Over the short term I can see why the government might do so – the social cost of sudden export disruption would be worth some (putative) short term undervaluation. But over the long term, it doesn’t make any sense to me.

  51. wuming Says:

    Allen,

    Chinese government wants to gradually raise its currency value vs. USD, that is abundantly clear until last year. But right now it is in fear of the collapse of USD. Krugman actually advised that therefore it is not out of question that Obama administration may indeed intensionally collapsing the dollar. China will continue its support of USD until it is safe to resume its long term plan of relaxing control over RMB.

    You are certainly right that undervalued RMB is bad for Chinese people. They maybe able to endure exploitation more than other peoples but it is not a bottomless well. The idea is to let productivity and technology taking up the slack of rising labor cost. However it is a delicate process and by no mean guaranteed success.

    I also want to add that China has counted out the 2.1 trillion reserve. It can’t spend it domestically and can’t easily spend it abroad either (there is not much to buy from US really) Therefore the pile is only going to increase in the short run. China only wants to avoid drastic movement that may disrupt its economic and social stability.

  52. Allen Says:

    Is China’s business environment hostile to technology related opportunities?

    A cursory glance in today’s news gave 2 examples where tech deals do work in China:

    http://www.economist.com/businessfinance/displayStory.cfm?story_id=14710792

    http://www.nytimes.com/2009/10/27/business/energy-environment/27iht-rbobcan.html

  53. tanjin Says:

    Some “nobel” economists should be sent back to school to re-learn Economic 101.

    It is not China’s currency policy. The real devil and sinner is over-speculated stock and real-estate market. These kind of vocanic speculative virtual activites generates tons of virtual profit faster than you can flush toliet, yet have no real economic meaning behind it. That is just economic 101. The reverse process is either an avalanch like scenrio in US or a stagnation in Japan. Wonder if ther is any ivery-tower economiists could blame Japan’s problem onto China.

    What American is suffering is what Japan has been suffering for decades, only a more quick pain than one from thousands of cut. However, vocanic speculation on stock market can unwind itself more quickly than that of real-estate. The later has a much large scale too, which require a longer time to re-adjust and deflate.

    In some sense, German should be happy at the moment that they don’t have a bunch of real-estate barons like Donold Trump, or hege fund mega-wizards or scam artists like George Soros and Madof.

    In the same way, Singaporean can be proud of their real asset of visionary and hardworking politicians, not that bunch of HongKonger real-estate ‘pythons’, who have been suffercating HongKong to death.

  54. Charles Liu Says:

    Allan, “Today the exchange rate for RMB to dollar is Y $6.8″

    Well, following some really basic principles on currency regime, like it has to be stable, and resiliant against speculation, guard against inflation, domestic economic tuning – what has the RMB been doing against the Dollar? Rising? falling? Floating within a bracket? Pace of change? How has China’s economy peform as result?

    Just for the record, the Euro allows “managed floating”(bracketed), the Singaporeans bracket and use “trade-weighted” basket (secret currency basket) peg.

  55. Allen Says:

    Prof. Sumner explains why Krugman made an important economics error in Krugman’s op-ed…

    http://wallstreetpit.com/11518-please-china-keep-beggaring-your-neighbors

  56. Charles Liu Says:

    Thanks Allan, This qoute from Sumner pretty much clearfied what kind of role did China play in the financial crisis:

    “China stopped the world spiral into deflation, and began raising the Wicksellian equilibrium interest rate after March 2009. It turned expectations around. That made US monetary policy slightly more expansionary, even at the zero bound, and began shifting expectations here as well. When China started to recover the tail risk of a deep world depression was essentially chopped off.”

  57. Charles Liu Says:

    I think it is pretty much official this issue is completely debatable – Krugman’s peers have disagreed with him in the past:

    http://www.bankresearch.org/economicpolicyblog/2006/06/robert_mundell_.html

    Nobel economist Robert Mundell says don’t push China to revaluate currency.

    http://www.ft.com/cms/s/0/cb1955ca-b533-11d9-8df4-00000e2511c8.html?nclick_check=1

    Another Nobel winner, Joseph Stiglitz, said:

    “China has experienced large capital inflows (beyond foreign direct investment), but these are symptoms of speculative pressures that have been so destabilising throughout the developing world. It would be a mistake – and only a temporary palliative – to reward the speculators by appreciating the currency.”

  58. Allen Says:

    Some people think that China’s currency peg is a major impediment to fair trade and that if the currency were made freely floating it would solve a lot of the trade tensions in the world.

    This is not necessarily so. There are also rising trade tensions between countries sporting freely floating currencies. The Washington Post recently reports:

    The weak dollar is becoming a source of international tension, particularly in U.S.-European relations. Officials in the 16 nations that use the euro are warning a continued slide of the dollar may pose long-tern structural problems for Europe, forcing down wages and hurting employment in the months and years ahead. This week, a top aide to French President Nicolas Sarkozy called the current value of the dollar “a disaster” for Europe, warning of dire consequences to the global economy if it remains at its current levels. In some circles, the dollar’s decline is being seen as a protectionist move by the United States — something U.S. officials have strongly denied.

    “If the dollar is going down this way, it is because that is what the Americans want,” the economic commentator Yves de Kerdrel wrote in the French newspaper Le Figaro this week. “In a globalized economy where national egoisms persist but where customs barriers have almost disappeared, the best protection consists in playing on exchange rates.”

    Other developing countries whose currencies are not pegged to the dollar, like Brazil, have grown so concerned about their soaring values that they have recently enacted new investment controls to stem the dollar’s fall.

    But for now, the weak dollar is one problem the U.S. loves to have.

    “Right now, you’re getting an economic bump from it,” said C. Fred Bergsten, director of the Washington-based Peterson Institute for International Economics. “Our conclusion is that the dollar’s value is just about right where it should be.”

  59. AT Says:

    I really think people underestimate the effects of the currency peg. The “poor, developing country” shoe fits China less and less. A currency peg may be entirely appropriate when we speak of an underdeveloped country that simply cannot compete globally without some sort of added stimulus. This is not China. China is arguably the most influential economy in the world right now. The amount of money involved is astronomical. Even something that is slightly distorting or that, in reality, is not the cause of all of the world’s difficulties, will end up having tremendous effects when we talk about a China, a United States, or a European Union. A small East Asian nation or a Middle East state is not even in the same ballpark. The currency peg is not a narrowly defined tariff on a particular class of goods. It is applied at the most basic level so that it effects the entire range of goods, services, and investments going into and out of China. It also forces the RMB to fall more rapidly against all currencies that are rising against the dollar, and forces other countries in the region to adopt pegs in order to compete with China in any meaningful fashion.

    The main reason the dollar is weak right now is that the US economy is weak. The Fed may be adopting some “weak economy” monetary policies, but the weak dollar is a reflection of a weak US economy, plain and simple. In case you haven’t been watching, the US economy has been on the brink of utter collapse for over a year now. As confidence in the dollar has fallen, so has its value relative to other currencies. That’s pretty natural. One of the reasons that the dollar has been the reserve currency of choice is that it is easily traded and responds to market forces.

    China’s holding of US debt right now is a product of China’s financial choices, the currency peg included. Purchasing treasury bills is part of the process of maintaining the currency peg while avoiding massive inflation. Anybody can buy US government debt. It is an investment much like any other, which will increase or decrease in value along with the market value of the dollar. There are risks involved, and in acquiring US debt, China also acquired the risks inherent in the investment and should not be able to protect the value of its investments in a way that really does distort the global trade environment. It would be far more appropriate to work out some sort of an agreement directly with the US government which would guarantee repayment of the debt at something resembling the original value. The value of China’s debt holdings is something that it is rightfully concerned about, but the consequences of the currency peg are too far reaching beyond the context of debt holdings.

    It is impossible for me to see how anyone can explain away the distorting effect of a currency peg, especially when we’re talking about an economy as potent as China’s. Yes, some sectors have stood to benefit from the currency peg, which is why there are so many voices in “support” of it. But in reality, an increasing currency value is one of the critical valves that allows global free trade to balance out and actually work to bring out the best in all economies involved. At a very basic level, it shelters the inefficient producers in China at the cost of the efficient producers in the US and all other countries that have a currency that is rising against the dollar.

    Im glad that some people in this discussion are willing to submit that a currency peg in the world’s most influential economy is bound to have some serious side effects that the world would be better off without. This isn’t “blaming China for everything,” and people should stop reacting with such sensitivity to anyone who ever says anything that suggests that maybe one of China’s policies is not working out too well for much of the rest of the world. Krugman is just one voice, but a lot of very smart people have been worrying about the currency peg for years now. They are not just blowing smoke out of their asses for the sake of an illegitimate political agenda.

  60. wuming Says:

    AT

    Nice post. I would like to explore the matter a little further.

    Considering the fact that China had raised the RMB value vs. USD by over 18% before the financial crisis started. I don’t think a clear cut case can be made that the effect of pegging has been that great. I don’t have the answers, only the following points to make:

    1. China spent most of its foreign currency on importing natural resources, it was driving the dramatic up and down swings of commodity prices for last several years. If the currency was unpegged, then the commodity prices pre- and post-crisis would have been much higher in dollar terms. That means a more severe and prolonged recession in energy importing countries. Indeed, is it possible that the rising RMB value had more of an impact in causing the recession than the peg?

    2. Krugman himself did not question the wisdom of China’s control of its currency, he only thought that it was controlled at too low a level. It is well known that the origin of the peg was the 1997 Asian financial crisis when every Asian country devalued its currency except China. For this reason I don’t think China would let its currency fully float for a long term. I do agree that its valuation is too low now and should be adjusted to a more reasonable level, but gradually.

    3. As I have argued before, the reason that China stopped raising RMB value was the current financial crisis and fear of dollar collapsing (which would have wiped out a large portion of the value of the Chinese dollar reserve and the export industry, a double whammy.) Therefore I don’t expect dramatic movement on China’s part until a clear picture of US economy rebounding emerges.

    Ideally, China will resume the slow rise of RMB soon. That is the most conservative and safest solution. I believe other prescriptions may do more harm than good to the world economy.

  61. tanjin Says:

    This Wall Street piece on the root cause of current financial crisis and so-called ‘leverage cycle’ is worthy reading, but it apparently a little late to get serious attention. To me, it sounded a thing coming from Economics 101 — an over-heated stock and real estate market backed by a dangerously over-inflated credits with little or no collateral.

    http://online.wsj.com/article/SB125720159912223873.html

    “Crisis Compels Economists To Reach for New Paradigm”

    “We could be looking at a paradigm shift,” says Frederic Mishkin, a former Federal Reserve governor now at Columbia University.

    That shift could change the way central bankers do their job, possibly leading them to wade more deeply into markets. They could, for example, place greater emphasis on the amount of borrowing in the economy, rather than just the interest rates at which borrowing is done. In boom times, that could lead them to restrict how much money various players, ranging from hedge funds to home buyers, can borrow.

    On Wall Street, Mr. Geanakoplos, now 54 years old, noticed what he saw as a serious market limitation: There weren’t enough houses and other forms of collateral to back all of the large amounts of debt securities that bankers might want to create. So when investors demanded more “asset-backed” securities, bankers had to find ways to “stretch” the available supply of collateral.

    One way was to make collateral do double-duty. For instance, mortgage loans the banks made became collateral themselves for complex debt securities, known as collateralized mortgage obligations.

    Another way of stretching collateral was to lend more against it. For example, if a bank lowered the down payment on a $100,000 house to 5% from 20%, it could have $95,000 in loans against the house instead of $80,000. In a similar way, banks could lower the down payments, or “margins,” they required of investors who use borrowed money to buy bonds and other securities

  62. tanjin Says:

    continue …

    “Using large amounts of borrowed money, or leverage, these buyers push up prices to extreme levels. Because those prices are far above what would make sense for investors using less borrowed money, they violate the idea of efficient markets. But if a jolt of bad news makes lenders uncertain about the immediate future, they raise margins, forcing the leveraged optimists to sell. That triggers a downward spiral as falling prices and rising margins reinforce one another. Banks can stifle the economy as they become wary of lending under any circumstances.”

  63. tanjin Says:

    continue …

    “This idea had big implications for policy makers. For decades, they thought of interest rates as the most important indicator of supply and demand in credit markets, and the only variable they needed to adjust to achieve a desired economic result. Now, Mr. Geanakoplos was saying that something else — lenders’ collateral or margin demands — could be even more important.”

    BTW: China’s central bank has been using such policy to cool speculative financial market for years !

  64. Allen Says:

    @AT #59,

    I think it’s perfectly fine to raise the issue of China’s currency peg – what effect it has on the world economy.

    Most economic experts agree that America’s trade deficits (with the world, not just China) is a result of the macroeconomic reality that investment in the United States exceeds domestic savings. America’s trade deficit has steadily increased since the 1960′s, in proportion to decrease in American savings. Instead of U.S. banks holding U.S. savings investing in the U.S., we now have foreign banks holding America’s former savings investing in the U.S.

    What effect is there when a country undervalues its currency?

    At the most basic level, if a country want to automatically devalue its currency, all the rest of the world simply get “boon” – a unilaterally applied discount!

    But this is not sustainable over the long term. No country works for free. That country that just devalued its money would need to continue to purchase things from the outside world, too. All those things would become prohibitively expensive if a country devalues its money too much. So even when a country’s currency is not fully convertible, there is a natural check on the range of the peg that is sustainable.

    So is China’s RMB over-valued or under-valued?

    In some sense, this is a meaningless question.

    When people talk about something being over-valued or under-valued – usually they mean in relation to a market price. However, China’s RMB does not have a developed enough financial market to support a fully convertible market. The Chinese banking system is currently too underdeveloped and burdened with heavy debt to be able to deal effectively with speculative pressures that could occur with a fully convertible currency. Most experts agree that a combination of a convertible currency and poorly regulated financial system helped cause the 1997-1998 Asian financial crisis. It is not the size of the economy that matters, but the size and quality of the financial industry. Even well developed, major economies such as South Korea succumbed and collapsed in the 1997-1998 crisis.

    China’s currency peg policy is to support stability. Since a major segment of China’s economy is engaged in International Trade, China needs a stable currency for both its importers as well as exporters.

    Over the long term, China will have to raise the value of the RMB. The reason is not so much that the RMB is “under-valued,” but that China will need to reorient its economy from an export oriented economy to one that concentrates on domestic growth. The world should enjoy the “labor surplus” that results from China’s export oriented economy while it lasts!

    Once the value of the RMB is raised, will the American deficits be reduced? If America does not increase its savings rate, its deficits will not be reduced. The role of China will hopefully be replaced by another cheap exporter – perhaps India… If none takes the place of China, there will simply be a lot less trade. Prices in the U.S. will shoot up. Americans will need to start making more of its own T-shirts, jeans, toys, dry walls, etc. – and American consumers will need to get used to paying more for them.

    In the very big scheme of things, I guess I would agree with you AT. In the long term, China should create a financial industry that is strong enough to support a fully convertible RMB. China should also re-orient its economy to be driven more by domestic growth. But forcing China to make short-term adjustments of the peg will only ruin China’s export oriented economy, bringing down China’s overall economy, which will drag down the rest of the world with it too.

  65. Charles Liu Says:

    AT @ 59, “a lot of very smart people have been worrying about the currency peg for years now”

    That’s interesting. What’s your source on that?

  66. Charles Liu Says:

    AT, ‘The “poor, developing country” shoe fits China less and less.’

    Might be true that last 2-3 decades of economic development, most Chinese have risen above UN poverty line (US$1/day), but the fact remains 70% of Chinese (900 million) live on less than US$1000/year. China today continues to compete on their disadvantages (large, cheap labor pool; inexpensive, low quality goods – to quote some here), rather than any first-world advantages.

  67. Allen Says:

    Here is a slightly more coherent article arguing for the RMB to rise (http://www.nber.org/feldstein/ft102909.pdf ).

    In order for the global trade imbalance to change, America must in the aggregate save more and China must in the aggregate spend more. I think this we can all agree on.

    But in reality, achieving either of these will take time.

    While American household have been saving more, America as an aggregate (taking into account recent government spending) is not yet saving more. Federal stimulus, healthcare reform … all these take lots of money. Over the coming years, America will have to work to get its deficit in order for that to happen.

    While Chinese consumers are spending more these days, Chinese consumers are not saving less. A large part of the spending seem to come as a result of the liquidity made possible by the Chinese gov’t’s stimulus package. Because China’s economy is still structurally an export-driven economy, the value of the RMB will look low compared to an economy that is not so export-driven. Over the coming years, China will have to work harder to create a consumer-driven economy, which will allow for a higher value RMB.

    Just like America cannot will its aggregate savings rate to suddenly change (it could theoretically stop all federal borrowing to cause that happen, I suppose, but that will also wreck the American economy – throwing the baby out with the bathwater), China also cannot will its economy to suddenly shift from an export driven to a domestic consumer led economy (it could theoretically raise the value of the RMB suddenly to incentivize import and de-incentivize, I suppose, but that will also wreck the Chinese economy – throwing the baby out with the bathwater).

    America and China need to cooperate over the coming years to try to balance out its trade caused by a dearth of American savings and a dearth of Chinese consumption. Both of this will take time and efforts. The Chinese currency peg is but one factor that will need to change as the economies change. But the peg is not a cause – but only a symptom – of the current imbalance. Simply tweaking the peg will not lead to global prosperity just like simply increasing aggregate American savings by itself will not lead to global prosperity. A host of things will need to happen (Americans managing its debt; Chinese creating a domestic environment for people to spend more) for overall balance to happen.

  68. hotaruSTAR16 Says:

    Change always takes time. Don’t forget that the U.S. owes China a ton of money in loans. For more information about the economic situation in China and the two countries’ relationship, read Asia Chronicle. The site has some informative articles. http://www.asiachroniclenews.com

  69. Bridge Says:

    Can I say that Chiang-Kai-Shek caused China’s cultural revolution in 60’s and 70’s? You know, after all, he lost the civil war to Mao.
    Can I also say that the USA caused that bloody tragedy on Tiananmen Square in Beijing on June 4 1989? You know, after all, students wanted a democratic China like the USA.

  70. Allen Says:

    From NYT, Chimerica: A Marriage on the Rocks?

    http://www.nytimes.com/2009/11/05/us/05iht-letter.html

  71. jpan Says:

    #69

    “students wanted a democratic China like the USA”

    that interpretation was in fact object by most original student participants as well as serious researchers of that event. Some western public was certainly mesmerized by a sculpture erected by a few students from an art school later in that event.

    Students first came out to mourn their respected leader, and secondly want government to take sweeping action on inflation and corruption. In the early day of China’s reform and opening-up, a transitional dual-track system gave some people chances to explore price disparity among two trading systems, creating a sense of economical unfairness. Chinese public at the time has very little tolerance of economical unfairness.

  72. Bridge Says:

    @jpan #71

    Yeah… well you know what, In the west, most of us do not read reports written by serious researchers – they are so boring. We learn ‘facts’ from our free media.

  73. Allen Says:

    About TAM – we had a good post some time ago by MAJ – http://blog.foolsmountain.com/2009/05/08/sorting-fact-from-fiction-%E2%80%93-tiananmen-revisited-part-1/

    You may not agree with everything said, but I think there are lots of good info cited that I think many people will find interesting…

  74. FOARP Says:

    @Allen – You mean: “We had a wildly tendentious cut-and-paste piece from well-known internet fraud and fantasist Mark Anthony-Jones, which was roundly and rightly criticised”

  75. Allen Says:

    @FOARP #74,

    I’m ok with cut and paste – especially since he had footnotes and citations.

    As for the “fraud” and “fantasist” part – can you clarify – just for my sake.

  76. FOARP Says:

    @Allen – MAJ is famous for having posed as multiple characters on Peking Duck for more than a year, even to the extent of claiming to be a female Ph.D. doing research in China, and emailing people on the site asking for pictures of their penises. Once exposed as such by Richard he then attempted to get Richard blocked, and incited various Chinese nationalist websites to flame his site. He regularly recycles passages from academic articles and journalistic pieces as his own, and most of the comments you can read from him on various websites are cut-and-pasted from one to the other. Hell, he can’t go five words without directing you to his vanity-published book, for which he went so far as to set up a fake book-review website under a false name so that he could write positive reviews for it. In short, the man is an untrustworthy scoundrel, and mentally ill to boot.

  77. FOARP Says:

    And if the above seems rather unpleasant, well, you asked.

  78. Allen Says:

    @FOARP #76, 77,

    OK, thanks for answering my question. I know richard mentioned something before to me too in another thread about MAJ’s activities in Peking Duck…

    Anyways, I don’t want this forum to turn into a attackfest between those who defend and those who attack MAJ. So for everyone else, please let the above stand as it is.

    As for the TAM piece itself – I still think it does disclose many good info that a lot of people may not know. I’m sure it has its faults – just like every other posts on foolsmountain. But it’s worth checking out.

  79. Josef Says:

    I agree with Allen (#67) that all changes and improvements should come slow and in cooperation.
    But I see here also some other point, which is more related to the fact the the U.S. is not controlling the world economy (anymore):
    I heard that America simply financed their Vietnam war with the subsequent lowering of the Dollar exchange rate. Certainly also U.S. Americans are hit if their savings suddenly became halvened in terms of buying power, but you can limit the damage by increasing the salaries, increasing the values of houses and companies – if you are simply strong enough.
    Now Obama turns the Green-Back Printing machine to high speed and I got the impression he wants to repeat history for financing the Irak war. But as the U.S. economic number-one position is not so strong anymore and big assets in the U.S. are not owned by U.S. citizens anymore either, it is not working that straight forward and they cry foul! Yes, a paradigm shift.
    I don’t have links to this “Vietnam financing” statement – i just remember it out of my head and probably my reasoning is a little bit simplified,- don’t focus on this finance war statement which I added as I remembered it, but I don’t think my arguing is completely wrong.

  80. Steve Says:

    @ Josef: Back then they called it “stagflation” and we had the dual problems of inflation and a stagnant economy, brought about by LBJ and Nixon’s unwillingness to raise taxes to pay for the Vietnam war. GWB not only didn’t raise taxes, he cut them so the effect was worse. He hid it for awhile using dodgy money strategies but when the economy fell apart, it fell completely apart.

  81. Charles Liu Says:

    China again asked US government to reign in the deficit during China-Africa summit in Egypt:

    http://www.washingtonpost.com/wp-dyn/content/article/2009/11/08/AR2009110818002.html

    In comparison, Is there any debate or disagreement on our deficit spending policy, where our largest debt holder has expressed concern?

  82. hzzz Says:

    I am surprised no one mentioned Japan. The Yen has been pegging the dollar for a long time now, and Japan doesn’t even have the excuse of being a “developing nation”.

    Some of Krugman’s points are right: By pegging the dollar China is out-competing many other developing nations. However, just who said that each nation has to play “fair”? The US and Europe certainly doesn’t play fair, and as the result it they are strongest nations on the earth today. You can bet that they will not play fair in order to achieve their own objectives, which is to ensure the interests of their own citizens. In fact, it’s ridiculous to think that a nation’s leader should put the interest of other nations ahead of his/her own. I would certainly be upset if US politicians put the interest of other nationals ahead of our own.

    Ultimately though, even if China changes its policies, let the “free market” determine the value of the Yuan (and cause crazy inflation in the US), other developing nations (vietnam maybe?) would do exactly what China is doing, pegging the dollar and then take over the manufacturing sector.

  83. Ashley Alfred Says:

    While most economists are in agreement that China’s currency is undervalued, economists are less certain as to the effect of the undervaluation. Despite the equivocal data, critics of China’s regime claim that the undervaluation leads to cheaper, and therefore increased exported goods, while at the same time raising the price of imported goods. For this reason, U.S. lawmakers perpetually raise the issue and periodically initiate legislation, which would deem China a “currency manipulator” and thus trigger retaliatory measures. Lawyers are less certain whether there can be a multilateral solution to the perceived problem.

  84. Mark Says:

    Very thought provoking post…

    A few contentions to your arguments…which probably puts me on Krugman’s side…

    The Fed does not try to control the value of the dollar. It cannot. See impossible trinity. A country cannot maintain control of its monetary policy, allow capital to flow freely, and control the the value of its currency. It can only do two of those things at once. The US chooses to control monetary policy and allow capital to flow freely…leaving the exchange rate to do what it wants… This goes for every other country or monetary body who adopts a similar policy. A govt can only have two of the three at any one time. China chooses to control its exchange rate and monetary policy, thus it cannot allow capital to flow freely. What really argues that they have chosen to set this currency peg to overvalue the dollar is how fast and furious that they have accumulated reserves over the last 10yrs. It’s enormous and breath-taking.

    China’s policy does deserve a LOT of blame for the crisis, as well as the other Asian countries who have adopted the policy of maintaining undervalued currencies, a policy which came as a result of the Asian crisis in the 90s… Their solution to that crisis where investment dollars rushed to the exits is to have a stockpile of enough dollars to make sure that they never have to experience that again.

    The result of their policies, China being the biggest culprit, is artificially low interest rates here. These are the countries who demanded all the exotic instruments that you have referred to above. They started the fire and provided a LOT of wood; we threw some gasoline on it…

    If China removes their peg; however, I doubt that will be enough to solve the problem, as some other country(ies) will attempt to step right in and fill the void…

    This problem is eventually self-correcting (won’t go into that here), but ultimately at the expense of the countries who made it their policy to stimulate exports by maintaining undervalued currencies… This was their insurance policy…they will have to pay the premium…

    Regarding the idea that China is leading the world out of this mess, this is in all likelihood because their fiscal stimulus has been 3X the size of ours on a relative basis. Except they are stimulating the areas (investment) that were likely overdone already…they don’t need more investment, they need more consumption. They are exacerbating problems…very similar to how we have used stimulus to try to boost consumption… Fiscal policies for both countries should likely be reversed…(China promote consumption and US promote investment)

  85. Allen Says:

    @Mark,

    I have read your comments several times trying to understand what you are getting at: but I still don’t see how China’s currency policy has caused the financial crisis we are in?

    You mentioned low interest rates, but interest rates were low in the U.S. throughout the 2000′s because the Fed pursued a policy of relaxed money supply in the U.S.

    China does not print U.S. dollars. It does not set interest rate policy for the U.S. It does not dictate the money supply in the U.S. China cannot flood the U.S. with cheap credit. Only the Fed does that.

    The dollar reserve China obtains comes about through bilateral trade deficit – and from the massive flow of capital from the world over into China over the last decade or so. China is sitting on over $2 trillion of dollar reserve today. And it is still growing.

    Everyone knows this can’t go on forever. So far China is content to simply sit on the asset because they have the utmost trust in the U.S. economy. But eventually this will have to stop. And China will need to convert the reserve into real products, services, assets obtained from the U.S.

    So yes – we do have a global imbalance problem that needs to be addressed. But this is a long term problem that did not cause the financial crisis. It’s also a not problem that came about because of the China’s currency peg. ( The deficit came about because of the imbalance between the savings / investment rates in China and the savings / investment rates in U.S., which has been decreasing since the 1960′s – the U.S. has a huge trade imbalance with the world since at least the 1980′s – http://www.census.gov/foreign-trade/balance/c0015.html#2009 )

    The financial crisis today came about not because of the long term imbalance above, but simply because 1.) the U.S. gov’t pursued a policy that greatly expanded the money supply in the aftermath of first the Internet bubble and then later the 911 attack; 2.) the cheap money went into feeding speculative bubbles in both the housing and stock markets. There are many reasons why the easy money supply translate into bubbles instead of doing something more productive – including lack of financial regulations, abnormally low interest rates, bad policy that envisions every American should own a home… But I don’t see where China figures into this.

    But what of China’s dollar reserve? Did it flame the housing bubble in the U.S.?

    Not really. The Chinese gov’t did not invest much in toxic assets. In fact, even if China had, it would not have made things worse. Had China not accumulated the dollar reserve, those dollars would be sitting in U.S. financial institutions. And given the policies of the U.S. gov’t at the time, those dollars would have been used to fan the bubble also.

    I really think we are conflating two issues.

    The financial crisis (which is caused by a combination of lack of regulation + easy money supply + dumb political policy in the U.S.) and the global trade imbalance (caused by differences in savings / investment rates in China and the U.S.). Both are important issues to discuss. But conflating the two does not help.

    Given that Obama just completed his trip to China, I am planning to write another piece trying to articulate what each side thinks of the Yuan peg. Is the Yuan really propelling China’s economy at the expense of the world economy, as many seem to insinuate? Perhaps we can continue our discussion there … if that is more appropriate.

  86. Realclearchina Says:

    @Allen

    “So yes – we do have a global imbalance problem that needs to be addressed. But this is a long term problem that did not cause the financial crisis. It’s also a not problem that came about because of the China’s currency peg.”

    There is a DIRECT relationship between the global trade imbalance and China’s currency peg. When you undervalue your currency, the goods you export to other countries are cheaper than they otherwise should be. And vice versa: the goods you import from other countries are more expensive than they otherwise should be. The net result is a trade imbalance. Why is this so hard for you to understand?

    Are you prepared to tell me that if China pegs the RMB at 10 RMB = 1 USD or 100 RMB = 1 USD, the trade imbalance between the US and China will not grow larger?

  87. wuming Says:

    Realclearchina,

    During the year 2006-2008, the RMB appreciated by about 18% vs USD, while the trade deficit between China and US increased from 234 billion USD to 268 billion USD. Logically it seems to mean that there are other more important factors that drove the imbalance. Among those are US restriction on technology export to China, trade barriers on Chinese side, the turning of US economy into a service economy, the exploitation of Chinese labors by Chinese and global companies alike, the dramatic increase in Chinese productivity.

    The trade barriers I am aware of is in financial service industry. I can just say: Thanks god for that!

    I personally believe the main factor drove the Chinese trade deficit with US and with EU is the productivity gain in China. China had been in a non-stop investment binge for a couple of decades now. We are seeing the investment paying off. Right now, in many manufacturing sectors, nobody can compete with China.

    On the other hand, I agree that the trade imbalance contributed to the financial crisis simply by putting money in US financial institutions’ and consumers’ hands. If money is like narcotic, then Chinese are the central American coca growers — what a concept!

  88. Realclearchina Says:

    @Wuming

    Ok. I accept that Chinese productivity has increased significantly in recent years and is a major contributing factor in the trade imbalance.

    But let me ask you, how much of that productivity growth was a result of China’s currency policy? Let’s assume, hypothetically, that China after joining the WTO in 2001 pegged the RMB to the USD at 2 or 3 RMB = 1 USD (an overvaluation of say 20% to 40%). How would that have affected China’s manufacturing and export sectors? How would that have affected China’s competitiveness in low-value goods?

    I have a hard time believing that today’s trade imbalance would be anywhere near its current level if this had occurred. Therefore, in my view, China’s currency peg is still the overriding factor in the trade imbalance.

    You note that the RMB appreciated against the dollar from 2006 to 2008 even as the bilateral trade imbalance continued to grow, but let’s not forget that the RMB is still considered by many economists to be undervalued by between 20-40%. When you factor in all the years the RMB was so undervalued (and all the incentives this policy created), it is not surprising that China is now achieving higher productivity gains in its export/manufacturing sector, thus offsetting the minor appreciation of the RMB against the dollar from 06-08 in influencing the trade imbalance.

  89. wuming Says:

    Realclearchina,

    RMB started to be pegged to USD during the 97-98 Asian currency crisis, which helped in stabilizing Asia and probably global economy at the time. Therefore the pegging is about a decade old. While the investment (internal and external) started one to two decades earlier. Although I agree that pegging helped in investment in export industry which in turn contributed to the productivity gain, it was far from the driving force.

    Let’s do a simple thought experiment, if a hypothetical textile worker in US (there is no real ones anymore) and a textile worker in China with similar productivity, how will their wages compare? By your logic, the Chinese worker’s wage should be around 50-60% percent of her US counterpart (i.e. if RMB is valued correctly, they should have similar purchasing power), anything significantly lower than that will make the Chinese worker more competitive, right? The reality is that the Chinese worker is probably earning less than 1/10 of her US counterpart now, you think another 20% RMB appreciation will help very much in this equation?

    The main driving factor for the current financial crisis is the distorted wealth distribution. It is much easier to earn billions in financial industry than to earn millions in real economy. How did the distortion occur? Under-regulation … deposit currency monopoly … IT productivity gain and Chinese and other emerging economies’ productivity gain pumped wealth into US economy ……

  90. Allen Says:

    @realclearchina #86,

    “So yes – we do have a global imbalance problem that needs to be addressed. But this is a long term problem that did not cause the financial crisis. It’s also a not problem that came about because of the China’s currency peg.”

    There is a DIRECT relationship between the global trade imbalance and China’s currency peg. When you undervalue your currency, the goods you export to other countries are cheaper than they otherwise should be. And vice versa: the goods you import from other countries are more expensive than they otherwise should be. The net result is a trade imbalance. Why is this so hard for you to understand?

    Are you prepared to tell me that if China pegs the RMB at 10 RMB = 1 USD or 100 RMB = 1 USD, the trade imbalance between the US and China will not grow larger?

    Ok – so we are not talking about the financial crisis and the currency peg. We are talking about the trade deficit and the currency peg.

    First of all – the trade deficit may not be what it seems. China is the “factory of the world.” Much of the U.S. deficit deficit is generated when American companies goes to China, import raw materials and/or components from around the world, and export the finished products back to the U.S. Only a small part of the “profit” made in this transaction goes to China. Much goes to the American companies. However, due to tax reasons and the booming economy in China, many American companies choose to keep all this capital abroad, but these these still get counted in as part of the “trade deficit” even though they are American profits.

    Now – let’s go to the peg and deficit. The peg makes Chinese goods cheaper – that’s true. But making goods cheaper actually slow down the rate of accumulation of trade deficit. Instead of selling 5 units of goods to get 5 units of deficit, China may now need to sell 10 units goods to get the 5 units of deficit. A China with a weak currency has work a lot harder to get achieve the same amount of deficit than a China with a strong currency.

    But you say, a weak currency can price American goods and services out of the Chinese market. That’s true. But let say we revalue the RMB by 10 or 20 or 30%. Do you really think American goods and services are going to start becoming competitive in China?

    Recently I went to an greentech entreprener seminar in Palo Alto. Someone came up with an idea to create green cement (less carbon footprint created in the process). While the idea is good, there is no way he can sell the cement in China. The cost difference in producing cement is something like 1:20 between the two countries. When you talk about labor intensive goods and services, there is no way American products will be competitive in China.

    So – a reasonable revaluation of RMB will not rebalance the trade imbalance (which is overstated anyways). But what if we revalue it 10000000000%? OK – I won’t go there. China cannot afford such a valuation. Neither can America.

    I’m mulling over the idea of creating a post on these issues, so I’ll stop for now. But I want to stress again and again. Trade deficits are rarely caused by currency valuation. Trade deficits occur because of an imbalance between the savings / investment rates among different economies. If U.S. can increase its aggregate savings (national + household) and live within its means – the trade deficit would stop growing. China would find that it could not do too much with its reserve and be forced to do something else with the reserve besides investing in treasury bills. The process of that will balance the trade. In fact, that is what is happening, but it will take some time. Clinton recently went to China to beg that the Chinese gov’t continue lending money to the U.S. so it can rescue its economy, reform healthcare, etc. Let’s hope the U.S. can use the money borrowed in a sound and productive fashion.

    The rebalancing can take several forms. If the U.S. keeps its technology embargo, China will be forced to reduce trade with the U.S. – thereby reducing the deficit. If the U.S. decides to play its ace card and allow trade of technology, China will pay billions and billions to buy advanced tech products from the U.S. – thereby also reducing the deficit. I can’t predict the future, but I agree with you that trade imbalance cannot go on forever. I disagree with you that the RMB peg caused the deficit (wuming already went into data disproving that anyways above). The deficit is caused by two economies with different norms about saving / investing. But I will agree with you on the extreme example that if RMB is radically re-valued at something absurd, we will stop trade between the two countries, and stopping the trade will stop the deficit from growing.

  91. Charles Liu Says:

    And another fact that seems to be ignored is the RMB has in fact revalued against USD (from 8.2 to 6.9). I don’t blame them for revaluing their currency at a pace they deem to their sovereign interest, after all we do the same ourselves.

    Mark, your “China caused the financial meltdown” is very ignorant comment. It’s really easy to make claims, but is there any citations to back up the fact? Please read the book cited in comment 41 and see for yourself who are the ones that made the mess.

  92. Realclearchina Says:

    @Wuming and Allen

    I am not saying that in a perfect free-market world with no currency pegs, there would be no trade imbalance between China and the US. Obviously, with structural forces like the low US savings rate, Chinese over-investment, and the huge Chinese labor force willing to work for almost nothing (all the things you bring up) there would still likely be an imbalance of some sort, just as there are often trade imbalances and frictions between nations with freely floating currencies.

    We are in disagreement as to the causes behind the extent and severity of the US-China trade imbalance. I point to the currency peg, whereas you guys point to other factors. In any case, I think there is insufficient proof for knowing with absolute certainty which variable is the most important, especially since 1) there is often interaction between these variables which makes them more difficult to understand and 2) controlled experiments in economics are hard to come by, thus ensuring that even the experts have wide-ranging disagreements on these issues.

  93. Charles Liu Says:

    Realclearchina, who are the ones moving our jobs to China, and importing those good back to the States? Do you think those jobs will stay in America, if they don’t go to China?

    IMHO we have no one to blame but ourselves. Our WASP homeboy CEOs and decision makers are the ones who outsourced the jobs in order to cut cost and pat themselves on the back with bonuses. If they don’t ship the jobs to China they’ll just go to some other country with low labor cost.

  94. tanjin Says:

    #93

    Good point. The only country that has been taking the jobs that Americans really want (high-paying white-collar jobs) is INDIA.

    India has done this in a very STEALTH fashion, without furious opposition from blue-collar labor unions and their noisy congress supporters, and by bending down as a “democratic” under-servant to US.

    Unlike blue-collar labor forces, high-tech office workers in US are not unionized. It is also one factor that keeps US high-tech industry competitive — this particular industry can lay off people with any number and any time they want to, moving thousands and thousands good-paying jobs to India without any penalty.

    With unemployment rate in US high-tech center, Silicon Valley, keeping over 10%, those US high-tech companies can find enough qualified people in India to fill their job positions. Both of my working and lay-off local friends told me they knew their India operation got hundreds of “OPEN requisitions”.

    So why some people in US always see China as a threat, while their own jobs are sent to India in a whole-sale fashion?

  95. Mark Says:

    You’re a total fool! China needs to keep their currency artificially cheap so they can keep growing and employ their mass of poor people. If they stop that, there will be civil distress and the army will take over the government.

    If it wasn’t for this cheap money, there wouldn’t be so much cheap loans in the US. This is a fact.

    China is in deep trouble and that country will have a civil uprising if the US economy stays weak. They can only print up money and keep people working for so long before they realize no one will buy their goods.

  96. wuming Says:

    “If it wasn’t for this cheap money, there wouldn’t be so much cheap loans in the US. This is a fact.”

    On surface at least, the logic doesn’t work here. The loan to US is in USD, if RMB is cheap, then USD is relatively expensive, so how can China afford cheap loans to US? I am sure there are ways to make the statement work, but this is not it.

    “They can only print up money and keep people working for so long before they realize no one will buy their goods.”

    China is not printing money beyond its means, US is. Once again more logical argument can be had, but not achieved.

  97. Charles Liu Says:

    Mark @ 95, “no one will buy their goods”

    Look around your place and throw out all your China-made stuff :)

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