The Treasury Department, at the behest of President Trump, has officially designated China as a “currency manipulator” the latest step in an escalating series of trade war moves that have rattled financial markets though thus far have not had any clear impact on the real economy.
The manipulation designation is a response to China’s decision to reduce the value of its currency. That, in turn, was a response to Trump’s decision to levy tariffs on a broader range of Chinese goods. That was the result of a breakdown in trade talks in May. And the whole conflict represents two different things tangled together — on the one hand, a growing belief on the part of a wide swath of the American establishment that it’s time to take the US-China relationship in a more confrontational direction, and on the other hand, Trump’s incorrect personal beliefs about trade in general.
As is typically the case with Trump administration moves, it’s not entirely clear what the administration is trying to accomplish here, in part because the administration doesn’t do briefings in a well-organized way and in part because various players in the administration are often not on the same page.
Interestingly, this is not a particularly partisan move. Democratic Senate leader Chuck Schumer has been urging Trump to take this step since his first weeks in office, and he reiterated that call just about an hour before Trump did it. Also interestingly, even though taking the designation step has been an on-again, off-again topic of dispute in American politics since at least the middle years of George W. Bush’s administration, doing it has no particularly concrete impact.
Officially, it’s simply the first step toward taking a complaint to the International Monetary Fund, whose ability to actually impact the situation is extremely limited. And in this particular case, it’s extremely unlikely the IMF will do anything, because China is not, in fact, manipulating its currency in any traditional sense. It’s essentially a policy of the US government stamping its feet while it figures out what it wants to do next.
China has a long history of currency manipulation
While most modern capitalist economies let their exchange rate “float” according to the vagaries of traders in financial markets, China maintains a “controlled” currency and banking system where the government controls the exchange rate.
It is, after all, called the People’s Republic of China — it’s run by the Communist Party and there are little pictures of Mao Zedong on the money, so the country is hardly going to let the impersonal forces of global capital markets determine what happens.
And one thing the Chinese government did with that control for a long time was keep the currency artificially cheap. That meant Chinese people had less purchasing power to buy foreign-made goods, and that foreigners could Chinese-made goods more cheaply. It was, in effect, a tax on Chinese workers that served to subsidize Chinese export-oriented factories. The purpose of the policy was twofold — to avoid falling into a recession during the global financial crisis, and to help China build up its long-term industrial capacity. The cheap exchange rate policy was not necessarily a good idea. It had the impact of keeping the bulk of the citizens of what is still a relatively poor country artificially poorer. But it did “work” in the sense of achieving its main objectives.
And for years, there were calls — mostly from the left wing of the Democratic Party but also sporadically from Republicans like Mitt Romney — for the Obama administration to officially designate China as a currency manipulator.
This was a good thing to call for if you were out of power and wanted to say something, because China really was manipulating its currency but also the designation wouldn’t do much so nobody could get too mad about it. The Obama administration, on the other hand, never wanted to take this step because they didn’t really have a step two that they believed in. The manipulator designation could have been the opening shot in a prolonged trade war, but they didn’t want a prolonged trade war.
But even though China really did do a ton of currency manipulation between 2003 and 2014, as Fred Bergsten of the Peterson Institute of International Economics points out, it stopped doing this in Obama’s final two years in office. In fact, by the end of the Obama administration, the situation had reversed itself. Chinese people were trying to squirrel financial resources outside of the country, which was putting downward pressure on the value of China’s currency, and the government was intervening to stop that.
More recently, Trump’s trade war policies have, by design, hurt Chinese export-oriented businesses. That’s put further downward pressure on the value of Chinese currency. What happened with the most recent Chinese devaluation isn’t that the government stepped in to reduce the price of the currency — it’s that it stopped stepping in to prop it up. The currency isn’t going down because the Chinese are trying to stick it to Trump; it’s going down because Trump is trying to stick it to them.
The designation statement doesn’t really make sense
There are no real legal limits on the Treasury Department’s ability to declare various countries currency manipulators, so the fact that the Chinese aren’t doing the thing Trump is accusing them of isn’t necessarily a huge barrier.
But when doing the designation, Treasury does need to write out a statement explaining itself.
“China has a long history of facilitating an undervalued currency through protracted, large-scale intervention in the foreign exchange market,” Treasury Secretary Steve Mnuchin writes. “In recent days, China has taken concrete steps to devalue its currency, while maintaining substantial foreign exchange reserves despite active use of such tools in the past.”
China does have “a long history” of doing this. But as the second sentence implicitly admits, it is not currently doing a large-scale intervention in the foreign exchange market to push its currency down. Instead, it is simply refraining from intervening to prop it up.
The claim is that China could be doing more because it has substantial foreign currency reserves to prop up its currency. Even if true, this seems irrelevant on the merits to a manipulation claim. What’s more, many China experts — including economist Christopher Balding and financial analyst Patrick Chovanec — believe it’s simply untrue. Their take is that China is allowing its currency to devalue because the Chinese government is running out of dollars.
In fact, absent the political context of designation being established as an anti-Chinese talking point in the mid-aughts, one might think that forcing China to devalue would be the point of Trump’s China policy. The harder the US makes life for Chinese exporters, the more China’s currency needs to go down and the worse living standards become for the average Chinese person. That’s how the trade war puts pressure on China.
It’s possible that Trump understands this perfectly well and is basically just trolling the Chinese government. But it’s also possible that the move reflects him having no idea what he’s talking about.
Trump has weird ideas about trade
Even though everyone keeps telling him to knock it off, Trump is obsessed with bilateral trade deficits. China, in other words, sells more goods and services to the United States in a given year than the US buys from China. Trump invariably characterizes this as the United States “losing” hundreds of billions of dollars a year to our trade partners.
But it’s nothing of the sort. The “lost” dollars flow back to the United States as investments — fueling things he likes to brag about, including high stock prices, foreign car companies opening factories in the United States, and SoftBank investing in American startups.
But Trump does keep saying he’s upset about all the money we are losing, possibly because he really believes we are losing money.
Consequently, he seems to think that tariffs should cause the trade deficit to fall and then we will lose less money. An economics textbook will tell you that this doesn’t work because the exchange rates will adjust — you can protect a particular industry from competition with a special tax on its foreign competitors, but you can’t shift the global balance of trade this way. And that’s exactly what’s happening. So in this view, Trump, rather than being glad China’s currency is being punished as a result of his trade wars, is actually mad that the devaluation renders his tariffs ineffective.
China, meanwhile, is ready to retaliate by cutting purchases of American agricultural products, further hurting a farm sector that’s been battered both by the specific dynamics of trade wars and more generally by low commodity prices in the context of a slowing global economy.
China confirms to CNBC that it is suspending U.S. agricultural product purchases in response to Trump’s new tariffs. China is one of the largest buyers of U.S. agriculture.https://t.co/zDnvreUHUC
— Kyle Griffin (@kylegriffin1) August 6, 2019
Trump has, in the past, tried to deal with this fallout for his rural constituents by funneling various kinds of subsidies to the farm sector. Meanwhile, he is aiming to take free or discounted school lunches away from hundreds of thousands of children.
A simpleton might suggest that we keep giving food to hungry children, let farmers sell stuff to China, let China’s currency sink if its businesses are being hurt by our tariffs, and most fundamentally, develop some clear negotiating objectives so we can all better understand what this is for.