US – China: The Big Fat Global Wedding

           With the recent debacles in Congress it’s no surprise that the US Congress has an approval rating of 14%. Even lower then the IRS, which historically has been a darling of American hatred.

            Recently a bill was proposed in the House that threatens punitive duties on Chinese imports in the absence of more rapid appreciation of China's currency, the Yuan (Reminbi). Policy makers have shaped this bill as a ‘Jobs Bill’. The argument is that imposing duties on Chinese imports will reduce US trade deficit and hence lead to job creation in US.

            There is some similarity between now and 1980’s. Back then Japanese goods were killing the US jobs and industry. So to decrease the influx of Japanese goods, US ‘pressured’ Japan to appreciate its currency, to increase US exports. The Plaza Accord of 1985 worked in favor of US but not for Japan. Everyone knows that, including China. Besides, I think US policy makers have there math wrong.

            First and foremost, simply enacting legislation is not going to make China accelerate its currency at a faster pace. Instead, the threat from US is more likely to prompt China to do the opposite, to project its sovereignty and strength.

           

             Secondly, recent history doesn’t support the inverse relationship between the value of Yuan and the bilateral trade deficit. Globalization and the advancement in the transnational supply chain means that far more ‘Intermediate’ goods are traded than in the past. This has softened the impact of currency values on the ‘Finished’ goods that are exported. Only about half of the value of Chinese exports to the United States is actually Chinese value. The other half comes from components produced in other countries that are processed or assembled in China. Yuan appreciation reduces the price of intermediate goods to Chinese producers and assemblers, who can then reduce their prices for export to preserve their market shares abroad. Between July 2005 and July 2008, the value of the Yuan increased by 21% against the dollar. But the bilateral deficit increased by 33%, from $202 billion to $268 billion.

           

           Now consider the scenario where China would impose retaliatory duties on U.S. exports. Chinese government has already stated on several occasions that the currency legislation would incite a trade war. In 2009, in response to U.S. duties on Chinese tires the Chinese government imposed duties on U.S. chicken and auto parts, which reduced sales and employment in those U.S. industries.

           

            I don’t think either of the two can live without one another. If US need cheap Chinese goods to keep its inflation in control, China also needs US consumers to sell its products to. For the last thing that Chinese communist party wants is a revolution because of economic depression.