China has options
by Rebecca Wilder
This morning there was an abundance of links evidencing the building anxiety over U.S.-China relations. Edward Harrison at Credit Writedowns links to a Reuters article, China vows to hit back if targeted by U.S. on yuan. Calculated Risk refers to commentary at the Financial Times and the Washington Post referencing China Losing Support of American Business Community.
Let’s think about the currency from a U.S. auto exporter’s viewpoint. The China Daily looks at China’s relatively “young” automotive market compared to its developed U.S. counterpart. But what if the yuan appreciates more than expected against the U.S. dollar? This market would develop much quicker than the article portends, and the room for revenue growth is vast.
Deutsche Welle also reports the benefits that Europe would incur from a stronger yuan compared to the U.S. dollar, which gives me pause: why exactly would Europe profit from an appreciation of the Chinese yuan against the U.S. dollar? The U.S. export industry, yes, but Europe? Deutsche Welle tells us:
“But Europe stands to benefit a lot, because with a revaluation, European products would become more affordable for Chinese consumers and companies alike and we would definitely feel the benefits in terms of better exports,” said Schularick.
This is an entirely one-sided argument: if the Chinese yuan appreciates, then export income would be diverted away from Chinese exports and toward Chinese imports, paving the way for Europe to reap the benefits. Same story as in the U.S. auto maker case, but with a twist: China has options.
First, China drops the currency peg, allowing its exchange rate to float (appreciate) against the U.S. dollar (USD). In this situation, the USD will depreciate not only against the Chinese yuan (CNY), but more likely against all currencies to which the USD is implicitly pegged via the yuan.
It’s pretty simple, really, if you think about cross rates: USD:CNY / EUR:CNY = USD:EUR. If USD:CNY falls (i.e., the U.S. dollar depreciates against the Chinese yuan), and that depreciation is not matched by an equal increase of the EUR:CNY (appreciation of the Eurozone euro against the Chinese yuan), then you get a depreciation of the U.S. dollar against the euro (the USD:EUR falls).
Point 1: as the Chinese yuan floats, it’s very likely that all else equal, the U.S. dollar depreciates against the euro. This improves the near-term prospects for U.S. exports to Europe, and reduces those for European exports to the U.S. (given sticky prices). Therefore, the increased demand for European exports to China will be offset somewhat by the decline in demand for those to the U.S.
Second, given that the Chinese do not allow the yuan to float (much more likely), who’s to say that the Chinese will not simply substitute one peg for another, i.e., target the euro to a larger degree? This would be very simple; and frankly, a euro peg would make more sense, given the trade flows between Europe and China.
Europe is a natural market for Chinese exports: in 2007, 24% of China’s exports landed in Europe, while 21% shipped to North America. All else equal, a euro peg would be quite an effective “export growth tool” if the Chinese shifted their asset base from U.S.-denominated assets toward Euro-denominated assets.
Point to 2: Europe would be very much worse off if China simply increased the weight of the euro in its currency target basket. The biggest economy in the Eurozone, Germany, is an “exporter” itself. Talk about trade wars!
U.S.-China bi-lateral relations SHOULD BE TREATED as a multi-lateral story; they’re interconnected.
Rebecca Wilder crossposted with News N Economics
WaPo – “Chen said the best way for the United States to increase its exports to China would be to relax restrictions on the export of high-technology and dual-use goods to China.”
That tells the story. There will be no voluntary currency peg movement without a change in policy regarding high tech exports to China.
It’s part of China’s larger strategy, including its efforts on foreign manufacturers in China or seeking market entry. Give China the technology or blow town.
It’s time that the advanced economies told China to go to hell. And make it stick.
China should not have been granted WTO membership and most favored nation trading status by the USA until such time as China floated its currency on the world market. Just one of the many mistakes that occurred since the late 1990s.
*** It’s part of China’s larger strategy, including its efforts on foreign manufacturers in China or seeking market entry. Give China the technology or blow town. ***
Regretably, I think this is mostly a specious issue. Blocking high tech exports plays well in the US, but except for weapons systems, China probably already has the technology, can get it elsewhere (Japan, EU, Russia in some areas), or will simply develop the technology themselves. US attempts to block technology exports have always been pretty clueless and I don’t see that changing. I wouldn’t advocate selling Aegis cruisers to China, but the idea that we can keep the Chinese from acquiring commercially available technology one way or another is pretty dubious.
Rebecca. I think the idea that China is going to allow non-essential imports from the EU/NAFTA countries etc to bring trade into balance is pretty naive. At least not in this decade and probably not in the next. Quite possibly, when the standard of living in China approaches that in the poorest US states and most backward EU countries, they will permit actual free trade, but that’s not any time soon. And by that time, China will be the dominant economic power on the planet by quite a lot.
We need to remember at all times that China has a managed economy and that the folks managing it are pretty damn good at their jobs. I imagine that they will misstep sooner or later, but in the meantime assuming that they are just another “invisible hand of the market” unregulated, free trading, economy is going to produce a lot of puzzlement and strange results. And they will probably continue to grow several times faster than the US and EU.
Oops. Should have made it clear. I don’t think China much cares about whether we sell them dual use/high tech stuff although they might buy some of it if we did. They’re probably just stalling. And they will continue to stall for a long, long time. Then they’ll do some sort of token revaluation that doesn’t quite work out. Then … who knows what they will do then? Something that won’t benefit us very much I imagine. And then …
You get the idea.
But it doesn’t make that much difference. If it weren’t China, it would be a different country or countries causing the problems. I think the real problem is that the free-traders (both parties) don’t understand that free trade constitutes a tax on working class Americans to fund shipping their jobs to countries with lower labor costs. You don’t fix that overseas. If you chose to fix it, you fix it here with import duties.
VtCodger,
You don’t appear to have tracked the history of high tech discussions and applied pressures between China’s officials and the U.S. Government. Your opinions are about 180 degrees out from reality.
Well MG let me say that we’re talking about China here so the possibility that I’m wrong is very high, but I do know a couple of things you probably don’t.
The first is that the ban on high tech/dual use technology is largely a travesty, and in any case, the dollar volume involved is quite low. Well, actually, I don’t know the second part for sure, but I can’t think of anything that is banned that would make much difference in the trade/current account deficit were it not banned. And if there were really big bucks involved, the US suppliers would surely be screaming loudly for a review of our policies.
See http://www.gao.gov/products/GAO-09-725T
Second, I’m 95% sure that the issue is really about US bans on US built components in satellites launched in China. That actually is enforcable and it cuts into China’s business of launching satellites for commercial companies and countries with no launch capability. But the result of easing that ban would be that the US would export maybe 100 million dollars in components (a guess) and lose a billion or three in satellite launch revenue.
From that, I conclude that those trade talks are probably just posturing on both sides and that neither side is actually going to do anything — at least not with what is on the table today. Are such things possible? Well, look at peace talks around the world that often go on every working day for decades without any progress whatsoever. Can China really hope to stall US pressure for years or decades. Look into the history of Japanese barriers to agricultural imports.
You really should not believe everything that you read on the Internet.
Sorry for the delay in responding, lost a router and it took me a lot longer than it should have to figure out which one.
Hi MG,
You are right – China’s export of high tech goods has been surging for years. Some are basing buy recommendations on tech for this reason.
“It’s time that the advanced economies told China to go to hell. And make it stick.“
I agree.
Rebecca
Hi VtCodger,
You bring up a very good point, transition. It would be very difficult for China to transition immediately on its own. Transition is a global phenomenon, and everybody’s got to be on board (so far, that doen’t seem to be the case at all).
Michael Pettis says it well:
“China will rebalance, but it cannot do so quickly. If it does, as I discussed above, it may easily fall into a spiral of declining competitiveness leading to rising unemployment leading to declining domestic consumption leading to more unemployment. Clearly this is not in China’s interest.
There is another problem. There are several countries with structurally low consumption and high production — Germany, Japan and China being the most important (and I leave out the OPEC countries for obvious reasons). Simply forcing China to adjust, in that case, might cause damage to Chinese growth prospects without helping the US rebalancing effort.”
And as for where China when it catches up to the poorest US states – which in per-capita terms is Mississippi in 2008, by the way (according to Wiki, and that would have been my guess) – I don’t see how it would catch up without contributing to global economic growth, i.e., a large appreciation of its real exchange rate.
I’m not ready to jump on the China will dominate the planet train quite yet. A lot of policy action (centralized) will need to occur for China to attain this status. Have you read Jim O’Neill’s BRIC series – here, and the series is listed here?
Rebecca
Hi VtCodger,
You bring up a very good point, transition. It would be very difficult for China to transition immediately on its own. Transition is a global phenomenon, and everybody’s got to be on board (so far, that doen’t seem to be the case at all).
Michael Pettis says it well:
“China will rebalance, but it cannot do so quickly. If it does, as I discussed above, it may easily fall into a spiral of declining competitiveness leading to rising unemployment leading to declining domestic consumption leading to more unemployment. Clearly this is not in China’s interest.
There is another problem. There are several countries with structurally low consumption and high production — Germany, Japan and China being the most important (and I leave out the OPEC countries for obvious reasons). Simply forcing China to adjust, in that case, might cause damage to Chinese growth prospects without helping the US rebalancing effort.”
And as for where China when it catches up to the poorest US states – which in per-capita terms is Mississippi in 2008, by the way (according to Wiki, and that would have been my guess) – I don’t see how it would catch up without contributing to global economic growth, i.e., a large appreciation of its real exchange rate.
I’m not ready to jump on the China will dominate the planet train quite yet. A lot of policy action (centralized) will need to occur for China to attain this status. Have you read Jim O’Neill’s BRIC series – here, and the series is listed here?
Rebecca
VtCodger,
I stand by my two previous comments.
China’s record of badgering the U.S. and other Western nations over high tech and dual use technology has been well established.
China’s efforts of accessing all forms of high technologies by whatever means has led to a number of problems. Aside from surrendering source manufacturing of some high tech products, such advanced nations are also witnessing the relocation of some R&D facilities to China. China’s record of reverse engineering high technology goods is also coming into focus.
China’s intended access to dual use technologies have been countered by national export policies of other nations and the creation of the Wassenaar Arrangement on Export Controls for Conventional Arms and Dual-Use Goods and Technologies.
Your reference to a section from one GAO study highlights a problem that has resulted in the publication of many GAO reports focused on identifying the problems associated with a lack of export control over dual use technology. The purpose of such reports is to improve controls over critical high tech and dual use technologies.
Below are some government and agency source documents that others can read if they have any interest in understanding U.S. trade policy and internal controls related to export of high tech and dual use technologies.
The Wassenaar Arrangement
The Wassenaar Arrangement on Export Controls for Conventional Arms and Dual-Use Goods and Technologies
http://www.wassenaar.org/
and
http://www.wassenaar.org/controllists/index.html
also:
http://www.bis.doc.gov/wassenaar/default.htm
and
http://www.bis.doc.gov/wassenaar/initialelements.htm
The Wassenaar Arrangement was approved by 33 founding countries in July 1996, the purpose of which was to establish a multilateral export control regime which would ” contribute to regional and international security and stability by promoting transparency and greater responsibility in transfers of conventional arms and dual-use (i.e. those having civil and military uses) goods and technologies to prevent destabilizing accumulations of those items.” “Participating States will seek, through their national policies, to ensure that transfers of these items do not contribute to the development or enhancement of military capabilities which undermine these goals, and are not diverted to support such capabilities.”
“The Participating States of the Wassenaar Arrangement are: Argentina, Australia, Austria, Belgium, Bulgaria, Canada, Croatia, Czech Republic, Denmark, Estonia, Finland, France, Germany, Greece, Hungary, Ireland, Italy, Japan, Latvia, Lithuania, Luxembourg, Malta, Netherlands, New Zealand, Norway, Poland, Portugal, Republic of Korea, Romania, Russian Federation, Slovakia, Slovenia, South Africa, Spain, Sweden, Switzerland, Turkey, Ukraine, United Kingdom and United States.”
U.S. Government Trade Agencies
http://www.ustr.gov/about-us/trade-toolbox/us-government-trade-agencies
Other related Government websites
http://www.pmddtc.state.gov/external_links.html
The Defense Trade Advisory Group (DTAG)
Bureau of Political-Military Affairs
U.S. Department of State
http://www.pmddtc.state.gov/DTAG/index.html
FACT SHEET: U.S.-CHINA JOINT COMMISSION ON
COMMERCE AND TRADE
Department of Commerce
October 29, 2009
http://www.commerce.gov/s/groups/public/@doc/@os/@opa/documents/content/prod01_008587.pdf
“Action Plan of U.S.-China High Technology Trade in Key Sectors Cooperation: To further implement the Guidelines for U.S.-China High Technology and Strategic Trade Development, China’s Ministry of Commerce (MOFCOM) and the U.S. Department of Commerce signed an Action Plan that will support expansion of bilateral high technology trade for civilian end-users. Initial work under the Action Plan will focus on the civil aviation-aerospace and information technology sectors, as well as dual-use export control enforcement and compliance, with the goal of facilitating high technology trade to civilian end-users and promoting the overall development of the U.S.-China economic and trade relationship. Although only 0.4% of the $71.5 billion in exports to China required a DOC license, the implementation of this Action Plan will further facilitate bilateral high technology trade in key sectors such as civil aviation-aerospace and information technology, while supporting a more efficient and effective dual-use export control system in both countries.”
U.S. Government Trade Agencies
http://www.ustr.gov/about-us/trade-toolbox/us-government-trade-agencies
Other related Government websites
http://www.pmddtc.state.gov/external_links.html
The Defense Trade Advisory Group (DTAG)
Bureau of Political-Military Affairs
U.S. Department of State
http://www.pmddtc.state.gov/DTAG/index.html
FACT SHEET: U.S.-CHINA JOINT COMMISSION ON
COMMERCE AND TRADE
Department of Commerce
October 29, 2009
http://www.commerce.gov/s/groups/public/@doc/@os/@opa/documents/content/prod01_008587.pdf
“Action Plan of U.S.-China High Technology Trade in Key Sectors Cooperation: To further implement the Guidelines for U.S.-China High Technology and Strategic Trade Development, China’s Ministry of Commerce (MOFCOM) and the U.S. Department of Commerce signed an Action Plan that will support expansion of bilateral high technology trade for civilian end-users. Initial work under the Action Plan will focus on the civil aviation-aerospace and information technology sectors, as well as dual-use export control enforcement and compliance, with the goal of facilitating high technology trade to civilian end-users and promoting the overall development of the U.S.-China economic and trade relationship. Although only 0.4% of the $71.5 billion in exports to China required a DOC license, the implementation of this Action Plan will further facilitate bilateral high technology trade in key sectors such as civil aviation-aerospace and information technology, while supporting a more efficient and effective dual-use export control system in both countries.”
US-China Joint Commission on Commerce and Trade (JCCT)
http://www.mac.doc.gov/china/JCCTforweb.htm
U.S. – China Economic and Security Review Commission
http://www.uscc.gov/index.php
2009 Annual Report to the Congress
U.S.-CHINA ECONOMIC AND SECURITY REVIEW COMMISSION
OCTOBER 28, 2009
http://www.uscc.gov/annual_report/2009/09_annual_report.php
Bureau of Industry and Security (BIS)
U.S. Department of Commerce
http://www.bis.doc.gov/
and
http://www.bis.doc.gov/policiesandregulations/index.htm
BIS Technical Advisory Committees
http://tac.bis.doc.gov/
* Note the unclassified meeting minutes
Latest annual report online:
Annual Report to the Congress for Fiscal Year 2008
Bureau of Industry and Security
U.S. Department of Commerce
http://www.bis.doc.gov/news/2009/bis_annual_report_2008.pdf
“China continues to be one of the largest foreign markets for controlled items. In FY 2008, exports and reexports to end-users in China accounted for the most license applications of any country, as well as the third-highest value of license applications, behind Canada and Taiwan. BIS continued successful efforts to facilitate U.S.-China civilian high-technology trade, consistent with U.S. security requirements. BIS has been working closely with the Chinese government to implement the Validated End-User (VEU) program, which was established in June 2007. The VEU program embodies a shift in U.S. export control policy to a more end-user-based system of controls, facilitating trade to companies with a track record of responsible use of licensed goods and technology.”
“In October 2007, five companies in China were granted VEU status.”
Inspector General Reports, Department of Commerce
*These are excellent reports.
U.S. Dual-Use Export Controls for China Need to Be Strengthened
BUREAU OF INDUSTRY AND SECURITY
U.S. Department of Commerce
Final Report No. IPE-17500/March 2006
http://www.oig.doc.gov/oig/reports/2006/BIS-IPE-17500%20-03-06.pdf
U.S. Dual-Use Export Controls for India Should Continue to Be Closely Monitored
BUREAU OF INDUSTRY AND SECURITY
U.S. Department of Commerce
Final Report No. IPE-18144/March 2007
http://www.oig.doc.gov/oig/reports/2007/IPE-18144.pdf
The GAO focus:
Ensuring the Effective Protection of Technologies Critical to U.S. National Security Interests
March 21, 2010
http://www.gao.gov/highrisk/risks/safety-security/protection_of_technology.php
The following reports are identified and linked in the above commentary.
Export Controls: Fundamental Reexamination of System Is Needed to Help Protect Critical Technologies
GAO-09-767T, June 4, 2009
Foreign Investment: Laws and Policies Regulating Foreign Investment in 10 Countries
GAO-08-320, February 28, 2008
Defense Trade: State Department Needs to Conduct Assessments to Identify and Address Inefficiencies and Challenges in the Arms Export Process
GAO-08-89, November 30, 2007
Nonproliferation: U.S. Efforts to Combat Nuclear Networks Need Better Data on Proliferation Risks and Program Results
GAO-08-21, October 31, 2007
MG, thank you for the links. Rebecca
Hopefully, a few individuals will benefit.
The apparent overall lack of interest in U.S. trade policy is something that did not exist five years ago on the econ blogs. Not sure what to make of that. Very disappointing, considering the implications.