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The China Problem

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charttradedeficitwithchina

Paul Krugman’s recent bellicosity in The New York Times has seen much discussion, though more for its economic implications than its political. The tone with which he writes reflects a growing indignation among our policy circles toward China’s monetary dealings. Krugman asserts, essentially, that China cheats, and most of our policy makers (most notably, Timothy Geither) seem to agree. Krugman’s offering is worth discussing in detail because it presents, in a form to be consumed by the public, a significant debate occurring on an international level.

Like most of the economic establishment, Krugman believes that a so-called “weak” dollar should actually benefit the US economy. A “weak” currency, he says, inherently supports exports (since the dollar would be valued favorably against foreign currencies), and would encourage employment in those industries. He rightly disparages those “conservative” demagogues who decry the falling dollar as an unmitigated evil which confers no incidental benefits.

Krugman argues, however, that China, by keeping its currency at a fixed value against the dollar, also benefits from the weakening, and in a manner much more pronounced. Their currency is set to be very cheap against the dollar, and by mandating that its value against the dollar doesn’t shift, they can ensure their currency remains the “weakest”, and their export industry thus the strongest. When the dollar tanked last summer China experienced an unprecedented boom in its exports. Our Treasury Secretary has openly called this practice “currency manipulation”, and the Chairman of our Federal Reserve can makes speeches about “international imbalances” with everyone getting the message.

Krugman even lays the blame for the global economic crisis at the feet of China’s monetary policy, saying:

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.

In the end he paints a rather bleak picture, asserting that “Something must be done about China’s currency”, but leaving the specifics of it up to our capable policy handlers. Unfortunately, the options we have for dealing with this situation are severely restricted. As the world’s largest holder of US currency, China remains a problem which, if handled improperly, could cost $2.5 Trillion dollars.

It is telling that Krugman implicitly blames China for its trade imbalance, neglecting to acknowledge that disproportionate exports require a ready buyer. In particular, America gratefully shipped most of its manufacturing jobs across the Pacific during the years 1998-2008 while its corporate class enjoyed an accumulation of wealth unheard-of since the 1920s. By pursuing an import-centric monetary policy (the  “strong dollar” model), America did more than its part in inflating the severe trade imbalance we see today.

Finger-pointing aside, it is clear that returning to some semblance of balanced trade requires an active effort from both parties, something for which Krugman and our prevailing economic establishment only advocate a one-half response. They would like China to re-value its currency to a more “fair” proportion to the dollar while at the same time ensuring that all executive decisions and high-level positions remain in the US. The massive US trade deficit, which began under Bush II and largely financed our tax cuts and wars abroad, hardly factors into the equation.

The first step to solving a problem, after recognizing it, is to locate its sources. If we agree that the US-China trade imbalance is a problem, we cannot solve it by focusing on China’s culpability while ignoring our own.

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Written by pavanvan

October 25, 2009 at 10:03 pm

One Response

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  1. […] Asia. They will also have begun to do their part in reducing our monstrous and unsustainable trade deficit. However it is also clear that any currency re-valuation on the part of China will spell hardship […]


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