Yuan Rises Under Pressure

While denying currency manipulation, China has responded to criticism by allowing the yuan to rise to new highs.
By Michael Lelyveld
Yuan-Dollar-305.jpg A Chinese bank worker arranges U.S. currency next to stacks of 100-yuan notes, March 20, 2010.

BOSTON—The recent rise in the value of the yuan suggests that China is manipulating the currency to counter criticism that it has kept the value too low, economists say.

The short-term rally of the yuan against the dollar is one of the ironies in the long-running debate over China's currency policy.

Beijing has been battling the threat that the United States will brand it a currency manipulator for setting the yuan's value far below its real worth to boost exports.

But now that it has raised the value under pressure of congressional hearings, it may be even more vulnerable to the manipulation charge.

"When you put all this together, it is a model of response to political pressure," said Gary Hufbauer, senior fellow at the Peterson Institute for International Economics in Washington.

"This certainly is noticed on Capitol Hill and probably by the [Obama] administration, as well," Hufbauer said.

Managed moves

Last week, President Obama met with Premier Wen Jiabao for two hours on the sidelines of the U.N. General Assembly in New York and reportedly pressed him to revalue the currency quickly.

Congressional critics argue that China has been playing cat-and-mouse games with exchange rates for years, undervaluing the yuan by as much as 25-40 percent.

China pegged its currency at 8.27 to the dollar for nearly eight years before a 2005 reform. It then allowed the yuan to rise by about 21 percent over a three-year period but halted the appreciation in 2008.

Under pressure from soaring U.S. trade deficits and tariff threats against its products, China unveiled a new reform in June that was expected to lift the yuan by about 1 percent per month.

But the currency barely budged until House and Senate committees set hearings with Treasury Secretary Timothy Geithner on Sept. 16 to address the currency issue.

Suddenly, the yuan started moving again, posting a series of highs on nine straight trading days and ending at 6.9997 to the dollar on Sept. 21 before the market closed for China's Mid-Autumn Festival.

The managed moves are unlikely to satisfy U.S. lawmakers who have backed bills that could lead to tariffs on Chinese goods.

"It's now time for our country to have the guts to stand up and take a strong stand against Chinese currency manipulation," said Rep. Tim Ryan, an Ohio Democrat who is co-sponsoring one of the bipartisan bills.

Vote scheduled

The House is scheduled to vote Wednesday on the "Currency Reform for Fair Trade Act" after the Ways and Means Committee passed the bill on Sept. 24.

Although similar legislation has fallen short in the past, pressure is running high in an election year with concerns that China's currency advantage has cost American jobs.

Secretary Geithner has not said whether Treasury will label China a currency manipulator in its next report to Congress, a move that would trigger consultations to address the issue.

"We will take China's actions into account as we prepare the next Foreign Exchange Report, and we are examining the important question of what tools ... might encourage the Chinese authorities to move more quickly," Geithner told the committees.

Speaking to China policy and trade groups in New York on Sept. 22 before addressing the General Assembly, Premier Wen said there is "no basis for the drastic appreciation of the yuan," the official Xinhua news agency reported.

Hufbauer believes China's actions will lead to House passage of the currency reform bill, although companion legislation in the Senate faces tougher prospects.

"The Chinese reaction path is one that just invites this, and one would think they'd be more sensible and let the currency appreciate on a steadier path or let the market forces take their course," he said.

'Good reason' for controls?

Derek Scissors, research fellow for Asian economics at the Heritage Foundation, said China may be trapped by the manipulation issue, whether it responds to U.S. complaints or not.

"The charge is partly accurate because China clearly controls its currency," said Scissors, but he added that it has a good reason for the controls.

China holds $846 billion in U.S. Treasury bonds and perhaps twice as much in total dollar-denominated assets. A large revaluation of the yuan would devalue the holdings.

"If you let the yuan rise freely against the dollar, so that in yuan terms the value of those assets declines, you're asking for major economic and political trouble," said Scissors.

Supporters of a major revaluation make the opposite case, arguing that a stronger yuan would boost the worth of domestic savings. But Scissors says the big dollar holdings make it impossible for the government to abandon controls.

The starts and stops in yuan strengthening are the result of internal battles between China's exporters and economic reformers who are pushing for more flexible exchange rates, said Scissors.

"The reformers usually lose," said Scissors. "One of the few times they actually win is when they say, 'If we don't do something, we're going to get American trade sanctions.'"

A gradual shift

The way out of the dilemma is a long-term reform process that should have started in 2005 but may now take five or six years longer, Scissors said.

China will have to gradually shift away from an export-led economy that is forced to invest its bilateral trade surpluses in dollar-denominated assets.

While some economists make the case that China can solve the problem by shifting to a consumption-based economy, Scissors said the country can deal with it by changing its own currency rules.

Instead of having to hold dollars overseas, China could allow freer exchange so that money could move more easily in and out of China.

"Then, they won't be trapped. They won't have to hold so much in the way of dollars and they'll be able to allow the yuan-dollar exchange rate to move," he said.


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