Avoid Threatening China Over Its Currency

At a recent hearing on Capitol Hill, senators of both parties berated the Bush administration’s failure to ratchet up the pressure on China to reduce the value of its currency, the yuan, by branding that nation as a “currency manipulator.” The lawmakers also complained that the value of Japan’s yen is too high. But such U.S. government interference in overseas commerce is ultimately counterproductive and could lead to a greater risk of conflict with other nations.

On foreign currencies, as with many issues, members of Congress respond to the needs of powerful, but narrow, special interests at the expense of the general public, whose power and interests are more diffuse. Influential U.S. industries that sell overseas face competition from Chinese and Japanese exports made cheaper by the yuan and yen, currencies that many economists say are held below market value by their respective governments. Since 1995, the Chinese government has fixed the yuan’s value at 8.28 per dollar.

The Japanese central bank, with more subtlety, purchased large quantities of dollars in 2003 to drive up the value of the dollar vis-à-vis the yen. Although Japan quit that practice in March 2004, Japanese officials have threatened to resume it if the yen continues to rise against the dollar. In addition to being disadvantaged in world markets against cheaper Chinese and Japanese products, the artificially low yuan and yen make U.S. exports more expensive in the large home markets of China and Japan.

Although U.S. export industries are hurt by the lower yuan and yen, American consumers here at home enjoy cheaper imports from China and Japan. Less is heard about the advantages to consumers of lower foreign currencies because consumers have far fewer lobbyists in Washington than do large export firms.

Nonetheless, the world would be a better—and richer—place if the Chinese and Japanese governments avoided trying to influence the value of their currencies and instead allowed them to float in international currency markets. By distorting their own economies, those governments, like members of the U.S. Congress, are supporting prominent export industries at the expense of the common consumer. And while they’re at it, China and Japan could further help their consumers by more fully opening their markets to U.S. goods and services by easing tariff and non-tariff barriers.

That said, the U.S. government should set a better example by avoiding the kind of pressure on the Chinese and Japanese governments (and any other government using similar practices) that members of Congress are demanding. If those governments want to shoot themselves in the foot, there is no reason why the United States needs to shoot itself in the head. Setting a precedent for U.S. government interference in overseas commerce could generate further pressure by domestic groups—for example, domestic industries that compete with imports from China and Japan—to retaliate for Chinese and Japanese currency manipulation by resorting to import barriers against products from those countries.

Some senators are already threatening to raise tariffs against Chinese goods unless China raises the value of the yuan. And according to the Financial Times, the Bush administration is privately passing along that threat to the Chinese, warning that the value of the yuan must be raised at least 10 percent to avoid that protectionist anger in Congress. (The 10 percent figure is an example of government bureaucrats inventing an arbitrary number and applying it to complex international currency markets.)

Thus, government interference in the international marketplace can ultimately lead to a trade war among nations. In the 1930s, the Smoot-Hawley legislation that increased tariffs in the United States was followed by retaliation from other nations. Such protectionism deepened the worldwide depression, and that global economic crisis was a contributing factor to the causes of World War II.

The United States has enough tension with a nuclear-armed China over the Taiwan issue and dual military buildups without interjecting a trade war into the mix. In fact, a healthy level of international commerce between the two countries could create a peace lobby in each nation and a greater incentive to avoid military confrontation.