China’s situation is wake-up call to prohibit currency manipulation

For any nation, a viable, sustainable economic growth plan requires sound, viable investments in infrastructure, technology, education, and social services. China has failed in many of these areas, and instead depends far too heavily on reckless lending by state banks and manipulating its currency to accomplish artificial cost competitiveness and boost export revenues.

As Japan demonstrated in the 1980s, this is not sustainable policy and now the bubble has burst.

Chinese factory output is at its weakest level in seven years. As investors flee, China’s growth is slowing dramatically and its financial systems are crashing. Over the summer, the Shanghai market lost nearly 40 percent, creating shockwaves across global markets—vivid proof that China’s “miracle economy” poses grave risks to the broader global economy.

In response, the People’s Bank of China has cut interest rates to record lows, and announced plans to buy record levels of Chinese stocks, while essentially suspending new share listings.

And then there is China’s intervention in the currency markets. On August 11, the Yuan dropped 1.9 percent in value, the largest daily devaluation in over 20 years. By the end of that week, the Yuan had depreciated by about 4 percent. 

As China struggles to right its economic ship, we must not allow China to artificially suppress the value of the Yuan. China is stealing would-be American jobs — by creating lower prices for its exports and higher prices for goods imported into China. This unfairly places our businesses and those in other nations at a competitive disadvantage.

Foreign currency manipulation, more than any other subsidy, has unfairly hollowed out the U.S. manufacturing base. We’ve all seen hard-working American workers unfairly laid off — as world-class competitive American plants shut-down because of unfair foreign currency manipulation. The resultant over $350 billion annual trade deficit with China is costing Americans 3 million good-paying jobs. We say enough!

While Congress failed to include currency manipulation enforcement in the Trade Promotion Authority (TPA) that became law this past July, there is still an opportunity to include enforceable rules against currency manipulation in the Trans Pacific partnership (TPP) to be debated in the coming months. All free trade proponents should support this.

Ex-Fed Chairman Paul Volcker once said:  “Trade is more affected by ten minutes of movements in exchange rates than by ten years of trade negotiations.” We agree. Without free trade in currencies, free and fair trade in goods is simply impossible. To set and enforce rules to halt currency manipulations, we must understand the methods employed.

Currency manipulation is not always a textbook, persistent, blatant, one-way intervention by a nation in currency markets — but involves other complex and multi-faceted maneuvers. This is the case with the Chinese Yuan.

Were the Yuan permitted to float freely and without limits, its value against the dollar, like the euro and other currencies, would be determined by the sum of its current account balance — the difference between exports  and imports — and its capital account balance — the difference between inward and outward foreign investment.  A positive sum — or balance of payments surplus — creates an excess demand for the currency; raising the Yuan’s value.  A negative sum creates an excess supply for the currency, reducing the Yuan’s value.

For the most part during recent years, China’s current and capital account balances should have increased the value of the Yuan. But China’s policies of controlling foreign exchange transactions, its official and surrogate intervention in currency markets, and its regulations restricting inward foreign investment — have frustrated market forces and kept the Yuan arbitrarily weak. Despite persistent balance of payments surpluses, and strong desires of foreign companies to invest in China, the Yuan has remained fixed at about 6.20 to the dollar.

To understand this, let’s consider how China restricts Yuan convertibility for capital account purposes.

Foreign enterprises, investing directly in China to produce goods and services, are limited to a maximum 50 percent ownership. Multinationals, like GM and Apple, are required to take local Chinese joint venture partners. Additionally, China places crippling restrictions on foreign investors, limiting their ability to purchase Chinese stock and bonds.

In addition, China encourages capital flight via Chinese investments into other nations. 

Without these policies, net capital flows into China and demand for its currency would increase — resulting in a more market-based, higher valuation of the Yuan. 

While Beijing’s severe limitations on inward foreign investment and stock/bond purchases are not direct monetary interventions, they have the same impact as textbook currency manipulation. China is not allowing market forces to determine the exchange rate for its currency.

Meanwhile, the U.S. and most of our trading partners have far more open policies toward foreign investment and market access.  If Beijing permitted foreign investors the same market access that Chinese businesses enjoy abroad; if China ended its official/surrogate intervention and allowed the Yuan to trade freely — China’s capital account balance would increase dramatically — and the Yuan would likely be 20 percent to 30 percent higher than its current value.

If China continues to prevent fair market valuation of the Yuan, we might see dangerous responses elsewhere. As demand for Chinese exports increase, and demand by the Chinese for more imported goods decrease, other countries will be inclined to adjust monetary policies to offset the impact. The U.S. may delay raising interest rates, to prevent an even stronger dollar. Unless China’s behavior is corrected, we could see a currency war.

We need to prevent and respond to foreign currency manipulation — and reverse the erosion of the American manufacturing base. Let’s give our world-class companies and workers a chance to compete fairly — and bring critical manufacturing jobs back to America. We like our chances on a level playing field.

Clawson has represented Florida’s 19th Congressional District since 2014 and is the former CEO of automotive wheel manufacturer Hayes Lemmerz International. Morici is an economist and business professor at the University of Maryland and a national columnist.