August 07, 2007


SO THE CHINESE WANT TO PLAY HARDBALL. According to The Telegraph's Ambrose Evans-Pritchard -- who is a hell of a journalist, I might add -- the Chinese Government has suggested ever so slightly it might liquidate its immense cache of U.S. Treasury bonds if the U.S. Congress passes punitive measures related to the value of China's currency, the yuan. Since the Chinese have a trillion dollars worth of these, Mr Evans-Pritchard explains, this would a) cause a dollar crash, b) force interest rates through the roof, c) hammer our housing market and d) perhaps throw us into a recession.

Drudge has a huge screaming headline on this right now. But let's not panic.

First, let's look at the underlying issues. The main complaint on our side is that China's currency, now trading at about 7.5 to the dollar, is artificially and unfairly undervalued. This is because China, which once pegged the dollar at 8.28 CNY to the dollar, now lets the currency trade in a very limited range. As the currency is undervalued -- and China keeps its foot on the brake despite the trade band -- the trading curve has been a pretty much straight downward path, but it is still nowhere near fair value. This annoys our manufacturers, who complain mightily to anyone who will listen that they're getting swamped by a flood of cheap Chinese imports.

Congress, for its part, has long complained the yuan is unfairly undervalued (as we have seen, it is) and there have routinely been efforts to impose trade sanctions against Chinese goods as a result. Congress has also demanded the Treasury Department take various actions against the Chinese for their unfair currency manipulation. One thing not mentioned in Mr Evans-Pritchard's article, but worth noting in context, is that Sen. Joseph Lieberman, I-Conn., on Tuesday basically told China that Congress was losing its patience and the Chinese needed to act soon, or else. Last week, a key Senate committee voted, 20-1, to require the Government to pursue currency manipulation cases before the IMF.

As such, it was no surprise that China fired back today. The Chinese Government is awfully touchy about these types of things, because they have a bunch of issues they're working through right now and it's not exactly helpful when the lazy decadent foreign devils want to throw a wrench into the works.

China, after all, has 1.3 billion people. Hundreds of millions are trapped in rural poverty, while untold millions have fled to the cities and are looking for work. The Chinese economy must create millions of jobs each year just to keep pace with the growth in its labor force. Meanwhile, the banks are a mess, petty officials are robbing the place blind, everyone and his brother has spurred the Chinese stock markets into a speculative frenzy, and the property markets are as bad as they were here a few years ago. Compared to all these things, the plight of American manufacturers -- whom the Chinese undoubtedly think are crazy -- doesn't measure up. So to have the American barbarians come over and lecture China, in a move that gets widely reported in the press and causes much loss of face, probably didn't go over too bloody well. Thus, the conveniently timed announcements from the Development Research Center and the Chinese Academy of Social Sciences.

One sincerely doubts the U.S. Government -- it is, after all, the U.S. Government -- has worked together on crafting a unified strategy on dealing with the Chinese. This is unfortunate. After all, Congress could have its uses in agitating for sanctions and all sorts of other things, provided that in the end they never came to pass. This would then give Secretary Paulson the leverage to convince China to do the right thing that satisfies everyone; namely, have the Chinese widen the yuan's trading band -- and/or at least take its foot off the brake. (That's kind of how things are going now, but China's not moving because they don't think they have to do so). The US and China could then get together, have a great party and drink a lot and everyone's face would be maintained and the Olympics would go off without a hitch. Perfect.

But what if that doesn't come about, and the situation turns out like the end of Dr Strangelove and just when we think we've won, we've lost? Well, my own personal feeling is that if the Chinese really want to play hardball, we should give it to them. Sure, their dollar maneuvering might throw us for a big loss, but their problems are a hell of a lot worse than ours. Plus, they have those pesky issues about "repressing their people" and repression, combined with the economic downturn their move would bring about, tends to make people angry. Perhaps angry enough to revolt. So if the Chinese really want to play tough, we should give them back everything they dish out, because any victory they attain will prove pyrrhic and temporary, and we'll emerge the stronger.

However, I'm confident the Chinese won't push the nuclear button, as this is being described. They'd prefer not to screw things up either. Besides, I have a feeling they know well the old banker's cliche that when you lend a little, you have a borrower, but when you lend a lot, you've got a partner. China and the U.S. are as close as lips and teeth and changing that state of affairs would prove grievously harmful to the Middle Kingdom.

Posted by Benjamin Kepple at August 7, 2007 09:38 PM | TrackBack
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