[Senate Hearing 111-640]
[From the U.S. Government Publishing Office]
S. Hrg. 111-640
CHINA'S EXCHANGE RATE POLICY AND TRADE IMBALANCES
=======================================================================
HEARING
before the
SUBCOMMITTEE ON
ECONOMIC POLICY
of the
COMMITTEE ON
BANKING,HOUSING,AND URBAN AFFAIRS
UNITED STATES SENATE
ONE HUNDRED ELEVENTH CONGRESS
SECOND SESSION
ON
EXAMINING THE EFFECT THAT CHINA'S EXCHANGE RATE POLICY HAS ON TRADE
FLOW, U.S. MANUFACTURERS, AND WORKERS
__________
APRIL 22, 2010
__________
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COMMITTEE ON BANKING, HOUSING, AND URBAN AFFAIRS
CHRISTOPHER J. DODD, Connecticut, Chairman
TIM JOHNSON, South Dakota RICHARD C. SHELBY, Alabama
JACK REED, Rhode Island ROBERT F. BENNETT, Utah
CHARLES E. SCHUMER, New York JIM BUNNING, Kentucky
EVAN BAYH, Indiana MIKE CRAPO, Idaho
ROBERT MENENDEZ, New Jersey BOB CORKER, Tennessee
DANIEL K. AKAKA, Hawaii JIM DeMINT, South Carolina
SHERROD BROWN, Ohio DAVID VITTER, Louisiana
JON TESTER, Montana MIKE JOHANNS, Nebraska
HERB KOHL, Wisconsin KAY BAILEY HUTCHISON, Texas
MARK R. WARNER, Virginia JUDD GREGG, New Hampshire
JEFF MERKLEY, Oregon
MICHAEL F. BENNET, Colorado
Edward Silverman, Staff Director
William D. Duhnke, Republican Staff Director
Dawn Ratliff, Chief Clerk
Devin Hartley, Hearing Clerk
Shelvin Simmons, IT Director
Jim Crowell, Editor
______
Subcommittee on Economic Policy
SHERROD BROWN, Ohio, Chairman
JIM DeMINT, South Carolina, Ranking Republican Member
JON TESTER, Montana
JEFF MERKLEY, Oregon
CHRISTOPHER J. DODD, Connecticut
Chris Slevin, Staff Director
(ii)
?
C O N T E N T S
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THURSDAY, APRIL 22, 2010
Page
Opening statement of Chairman Brown.............................. 1
WITNESSES
Lindsey Graham, Senator from the State of South Carolina......... 3
Clyde Prestowitz, President, Economic Strategy Institute......... 6
Prepared statement........................................... 30
Nicholas Lardy, Anthony Solomon, Senior Fellow, Peterson
Institute for International Economics.......................... 10
Prepared statement........................................... 36
Charles H. Blum, Executive Director, Fair Currency Coalition..... 11
Prepared statement........................................... 46
Daniel J. Ikenson, Associate Director, Center for Trade Policy
Studies, Cato Institute........................................ 13
Prepared statement........................................... 52
Responses to written questions of:
Senator Vitter........................................... 77
Jack W. Shilling, Retired Executive Vice President and Chief
Technical Officer, Alleghany Technologies Incorporated, and
Chairman, Specialty Steel Industry of North America............ 21
Prepared statement........................................... 60
Mark A. Suwyn, Executive Chairman of the Board, NewPage
Corporation, Miamisburg, Ohio.................................. 22
Prepared statement........................................... 70
Derek Scissors, Research Fellow, Asian Studies Center, The
Heritage Foundation............................................ 24
Prepared statement........................................... 73
Additional Material Supplied for the Record
Letter from Damon A. Silvers, Policy Director and Special
Counsel, AFL-CIO............................................... 80
Letter from Erik O. Autor, Vice President, International Trade
Counsel........................................................ 83
(iii)
CHINA'S EXCHANGE RATE POLICY AND TRADE IMBALANCES
----------
THURSDAY, APRIL 22, 2010
U.S. Senate,
Subcommittee on Economic Policy,
Committee on Banking, Housing, and Urban Affairs,
Washington, DC.
The Subcommittee met at 10:11 a.m., in room SD-538, Dirksen
Senate Office Building, Senator Sherrod Brown (Chairman of the
Subcommittee) presiding.
OPENING STATEMENT OF CHAIRMAN SHERROD BROWN
Chairman Brown. This hearing of the Economic Policy
Subcommittee of the Banking Committee will come to order. I
appreciate my friend Senator Lindsey Graham, who has been
outspoken in support of manufacturing and on all of these
issues that surround currency, and we will hear from Senator
Graham in just a moment.
The matter before the Subcommittee is an urgent one. We are
holding this hearing in the hope that our witnesses can shed
light on the effect that China's exchange rate policy has on
trade flow and U.S. manufacturers and our workers and on what
remedies Congress should consider. Financial and trade analysts
and news reports indicate we should anticipate China to begin
gradually revaluating its currency, the RMB, in the coming
weeks. What we hope to learn is what a meaningful appreciation
of the RMB would be and what effects it will have on the U.S.-
China trade relationship and on U.S. employment. We will
consider remedies to address this imbalance that exists today
and that we can expect to remain for some time in the future.
While it is true the journey of a thousand miles begins
with a single step, it is an awfully slow way--and I know it
has tried Senator Graham's patience, too--a slow way to reach
our destination. But that is the path we are on today.
When I came to Congress in 1993, the RMB was valued at
about 5.5 to the dollar. Then from 1995 to 2005, it was valued
at about 8.28 without change. In my mind, that is one of two
things: one heck of a coincidence or blatant currency
manipulation.
From 2005 to the middle of 2008, we were heading in the
right direction in part because of Senator Graham's and Senator
Schumer's--in large part because of their efforts, but still
too slowly. Beginning in 2005, the Government of the People's
Republic of China managed a slight currency appreciation which
allowed for a few years of modest progress. But in the summer
of 2008, China abandoned this process and once again fixed the
value of their currency against the dollar. So our journey of a
thousand miles has involved more steps backward than forward
during the last decade and a half.
By keeping the value of their currency artificially low,
China provides an incentive to foreign corporations to shift
production there because it reduces the price of investing in
China and makes China's exports cheaper. This continued
undervaluation, which most economists agree--and we will hear
from several of them today--is in the range of 25 to 40
percent, has caused serious harm to our economy and has cost
American jobs.
Think about it. If a gas station is offering gas for $3 a
gallon and another is selling it for $2 a gallon, how long can
the first one stay in business?
According to a recent Economic Policy Institute report,
since China joined the WTO in 2001, 2.4 million jobs have been
lost or displaced in the U.S. as a result of the U.S.-China
trade deficit. Under the Omnibus Trade Act of 1988, the
Treasury Department is required to formally identify countries
that manipulate their currency for the purpose of gaining an
unfair competitive trade advantage. In recent years, Treasury
has found that certain countries' currencies were, in fact,
undervalued.
However, based on its interpretation of the law's legal
standard for a finding of manipulation, Treasury refused and
continued to refuse, through Presidents of both parties, to
cite such countries as currency manipulators. Last month,
Secretary Geithner announced the Department will delay the
release of the statutorily required report to Congress. This
Committee has oversight responsibility of this issue, and under
Article I, Section 8 of our Constitution, it is Congress that
is charged with the regulation of both foreign commerce and the
value of our currency.
The Subcommittee has invited a representative of Treasury
to testify today, but the Department declined due to its
ongoing diplomacy, both bilaterally with the Chinese and in
multilateral settings like the G-20. I disagree with the
Department's decision. I care less about the exact timing of
the report than I do about the Administration's willingness to
be open with Congress and the American people about what it is
doing and why it is doing it. And while the cat has got their
tongue when it comes to testifying before Congress, I note that
not one but three Treasury representatives were scheduled to
speak with a group of bankers and analysts at the JPMorgan
investor conference at the Madison Hotel tomorrow morning.
The American people have been patient as the Administration
continues this strategy, but patience is waning as more U.S.
businesses are undercut and more U.S. workers are losing their
jobs. Just yesterday, Commerce said it will investigate whether
Chinese aluminum products are getting unfair subsidies, but
have delayed a decision as to whether currency valuation will
be a factor in the case.
These delays and the Administration punts on currency
decisions involving China cannot last forever. The Chinese
Government follows its economic interests. The U.S. Government
should do the same.
I know I can speak for Secretary Dodd in stating that the
Committee looks forward to Secretary Geithner's appearance
before the Committee in the coming weeks.
Today we have three distinguished panels, led off by
Senator Graham, to help the Subcommittee understand not just
the fact that China's currency is undervalued. That point is
clear to all of us. What we hope to understand are the effects
of that policy and what options are available for moving
forward.
I look forward to the hearing and the testimony of each of
the witnesses, and we will start with Senator Graham--and
Senator Schumer we invited today, too, the two chief sponsors
of the currency manipulation issue. Senator Schumer could not
join us. His staff is here, and I very much appreciate Senator
Graham being here and Senator Graham's work on this and many
other issues. Lindsey.
STATEMENT OF LINDSEY GRAHAM, SENATOR FROM THE STATE OF SOUTH
CAROLINA
Senator Graham. Well, thank you, Mr. Chairman. People are
dying for their Congress to work together in a bipartisan
fashion to solve problems that affect their daily lives. Well,
when it comes to China currency, your ship has come in. We have
got new legislation with Senators Stabenow, Brown, Brownback,
myself, and Senator Schumer, and, Mr. Chairman, having you on
board has been great. No one has talked more about this in
terms of how Chinese manipulation of their currency affects the
ability of American manufacturing to survive. And American
manufacturing is under siege for a lot of reasons, some of them
of our own making back here. We need to do a better job of
regulating, taxing, and litigation. But at the end of the day,
it is the world economy, and Republicans and Democrats see the
current behavior of the Chinese government of manipulating the
value of the yuan against all other currencies as having a
devastating effect in terms of the global economy.
The reason I know they are manipulating is that the only
time it gets any adjustment or revaluation is when we put a
bill in. And the moment we look the other way, it stops.
Now, this is a bipartisan team to fix the problem, but
there is a bipartisan problem associated with Chinese currency.
In the Bush administration, it was impossible for us to get the
Bush administration to say China manipulated their currency,
which everybody knows they do. The Obama administration ran--
music to my ears. Now here we are having the same trouble with
them. We cannot get them to do the things that would change
this policy. And I think the reason is that when you get in the
White House, you realize that we are borrowing so much of our
money to run the Government and pay our bills from China, it
just makes it very difficult to engage China. And that is an
unhealthy relationship.
I want a good partnership with China. I want it to be
mutually beneficial. But this one issue of where the currency
of China is kept artificially low has a devastating effect--and
I am not an economist, but I am looking at it through the eyes
of a manufacturer in Ohio and South Carolina. You are producing
a product to be sold on the world market. One of your biggest
competitors is China. If they can beat us because they do a
better job, so be it. That is just the way the world is and
will always be. If the other person outworks you and has a
better business model that is more efficient and they are
smarter at what they are doing and they work harder and you
lose, so be it. But our companies in Ohio and South Carolina
are losing market share not because they are being outworked.
They are being out manipulated.
It is one thing to compete against cheap labor, and the
Chinese communist capitalist model is unique. They are
capitalist as long as the government allows you to be a
capitalist. They literally recruit millions of workers, put
them in high-rise apartment buildings and set their wages, in a
way that could never happen here, and provide that labor to any
company that would come over. The company has to agree to a
Chinese partner at 51 percent, and if you do a business for a
long time over there and you have got technology, there will be
a Chinese company opened across the street from where you are
doing business that is using your technology. That is just the
way it is with China, and instead of complaining, we ought to
do something about it.
When it comes to their currency, based on economics, as I
understand it, the more you export, if you become an export
economy, well, the value of your money should change based on
the way you are doing business. If you are making all of your
money by selling goods to other countries, then the value of
your money ought to change based on your export-import
balances.
Well, it never changes. And what does it mean if it never
changes? What does it mean if they manipulate the currency? It
means that the company in South Carolina and Ohio has got to
compete against cheap labor, no EPA, a command-and-control
communist economy. You also have to compete against
artificially low money. If it is 25 to 40 percent below its
true value, that means that a product produced in China, in
addition to the other things I have said, direct subsidies, low
wages, no environmental laws, on top of all that you are
getting a reduction in the cost of producing goods in China
because the money discount goes to the people making products
in China at the expense of people in South Carolina and Ohio.
If China were some island nation trying to get through and
just pay their bills and manipulating their currency to kind of
seize a market just to stay in business for a while, that would
be OK with me. They are not. They are a huge economy. They are
sucking up all the excess oil there is in the world. They are
going around buying natural resources. They are growing at 11
percent with no end in sight. I am glad they are doing well,
but not at our expense. I want them to do well. I want them to
be a partner that can buy stuff from us. But they have to adopt
recognized trading policies and economic principles to be a
good partner.
Our legislation is very simple. If you find that their
currency is misaligned--and you do not go to intent. If it is
misaligned, then we give the Treasury Department and the
Commerce Department tools to address that misalignment. And it
is not China specific. It is any country that has a certain
economic weight that is engaging in this behavior. Our country
can push back. We can now bring dumping cases based on
misaligned currency. That would be a huge breakthrough.
The textile industry, which is constantly under siege from
Chinese products being dumped throughout the world, would now
be able to make a case that I am losing market share because
the money is a form of dumping, the money manipulation.
We would get 80 or 90 votes if we could ever get this
sucker on the floor, and it is a shame, quite frankly, that we
are having to do this legislation given all the efforts by the
Bush administration and the Obama administration to find a
better glide path. But in 2008--the Chairman is absolutely
right--their marginal efforts at currency adjustment stopped
because the political pressure stopped.
So this time around, we have got a chance to institute
reforms that will be WTO compliant. And if it hurts our
relationship with China, then that says a lot about the
relationship. It is not healthy that you have to ignore
someone's cheating to keep them as a friend. I have nothing
against the Chinese people. I do not like their form of
government, but they do not like ours. We will just deal with
that. I cannot sit by and watch people in my State, Ohio, or
anywhere else lose their job because the Congress is allowing
someone as big as China to cheat.
Stop cheating is all we are asking. Allow the currency to
float in a reasonable way. I understand you have an immature
banking system. I am willing to be flexible and reasonable. You
need to increase the basket of items that go into valuating the
yuan. You need to change your banking system so it will
accommodate a floating currency. I do not expect that it would
happen overnight, but I expect a system to be in place to
replace adjustments based on political pressure.
I cannot live with small changes in the yuan directly
related to how much time and attention the two of us spend on
China currency. I need to go back to South Carolina and you
need to go back to Ohio and tell folks change is coming. It is
going to take a while for the Chinese economy to float their
currency, but we now have them on a path where over time we
will have a better trading relationship. The Chinese people
save way too much. We save way too little. They need to open up
their markets to financial services so their people can have a
way to invest their money. We are good at that. And where they
are better than us because of the way they do business fairly
and we lose, so be it. But they are beating us not because they
are better, but because they are manipulating their currency.
And if we do not do something about that, then the public is
going to be very disappointed in their Congress beyond what
they are today.
One last thought. We borrow most of our money from China to
pay our bills, and one of the biggest bills we pay is buying
oil from overseas. This is a lousy spot for America to find
herself in 2010. And I am working with you, Mr. Chairman, to do
something about both things. I am working with you to find a
way to get a better trading relationship with China so that we
will have an honest trading relationship. And I am working with
you to find a way to reduce our dependency on foreign oil. If
the next generation of Americans inherits a world economy where
China continues to manipulate their currency given their
growth, it is going to destroy American manufacturing. If we
continue to never change our policies here at home about
finding oil that we own and consuming less and investing in
technology to break our oil dependency, they are going to be
more dependent on Mideast oil, and that is not what either one
of us wants to do for the next generation of Americans.
So I hope the Congress, the Democratic and Republican
leadership, will get behind this bill because the time is long
overdue to act. Thank you very much.
Chairman Brown. Thank you, Senator Graham. Thanks for
joining us, and I appreciate your comments and especially your
work on all of those issues, from climate change to the
currency issue, so thank you again.
I will call the first panel up, if they would join us.
Thank you, all of you, for joining us. I will introduce each of
you briefly. Then I am going to do something a little
different. Mr. Prestowitz has a flight, because of a
cancellation has to get out earlier. So after his testimony, I
will ask him a couple questions. Then the rest of you can do
your statements, and I will then focus on the three of you, if
that is OK with people.
Clyde Prestowitz has played key roles in achieving
congressional passage of NAFTA and in shaping the final content
of the Uruguay Rounds, as well as providing an intellectual
basis for current U.S. trade policies, and was the lead
negotiator, as most of you know, for the Commerce Department in
the Reagan years in our Japan negotiations. I just finished
over the weekend reading the galleys of his new book which is
coming out, ``The Betrayal of American Prosperity,'' and his
role in how America can address these issues.
Nicholas Lardy, Senior Fellow for the Peterson Institute
for International Economics, was a Senior Fellow at Brookings
for about a decade and the Director of the Henry Jackson School
of International Studies prior to that at the University of
Washington. His writings I have been a fan of for many years
and learned a great deal about trade and economic policy.
Charles Blum is Executive Director of the Fair Currency
Coalition, for 30 years focused on trade and manufacturing
while serving in various capacities in the Government and the
private sector, and he has been a very important advocate as
part of the Domestic Manufacturing Group and part of the
National Association of Manufacturers and all that he has done
that way that has been so important to us.
Daniel Ikenson is the Associate Director of Cato
Institute's Center for Trade Policy Studies. Cato, as you know,
speaks articulately and forcefully on behalf of issues that are
important in this country and I think has a perspective that is
important for all of us to address also. So, Mr. Ikenson,
welcome to you.
I will start, if Mr. Prestowitz would do his testimony, and
then as I said, I will ask him a couple questions and then move
to the rest of the panel. Thank you.
STATEMENT OF CLYDE PRESTOWITZ, PRESIDENT, ECONOMIC STRATEGY
INSTITUTE
Mr. Prestowitz. Thank you very much, Mr. Chairman. I
appreciate your courtesy.
First, I think it is important to recognize that in the
tensions between the U.S. and China--the trade deficit, the
nature of the trade between the U.S. and China, questions of
employment and unemployment--the currency is only one factor.
There are a number of other factors--savings and investment,
consumption policies, economic growth, and so forth. So
currency is only one factor, but it is an important factor. And
as Senator Graham said, there is no doubt that China is
managing its currency to maintain it an undervalued rate. The
evidence of that is the daily intervention by China in currency
markets and the huge accumulation of dollar reserves by China.
You have my written testimony. I wanted to hit just four
quick points. One of them is the argument that is often heard
that the exchange rate does not matter, the argument being that
even if China revalued, it would not make any difference in the
U.S. trade deficit or U.S. employment; and, moreover, that the
driver of these imbalances is not the exchange rate but it is
consumption and investment and savings. Two points there:
One is that the equation that calculates the impacts of
these factors is a mathematical identity, and so by definition,
in a mathematical identity, the action in the equation can be
either way. So, of course, savings and investment has an
impact, but so also do currency rates. And in this case, we
know that the currency rates are being distorted. Again, not
the only influence but a very important influence.
The second point is when we say it does not matter, that is
almost like saying prices do not matter. And if prices do not
matter, then I am not sure economics matters. The point is that
there are, of course, a number of factors that determine trade
balances, but certainly the rate of currency is one of them.
It is often said that between 2005 and 2008 China did allow
its currency to float up about 20 percent, and yet the U.S.
trade deficit increased, and this is cited as evidence that the
currency rate does not have any effect. But one has to remember
two things--three things. One is that this was a period of a
bubble in the United States, enormous growth in U.S. demand.
One has to ask the question: If they had not allowed the
currency to float up, would the deficit have been bigger?
And the final point, I think, is that while China's
currency appreciated nominally by 20 percent, in fact, because
its rate of productivity growth was very high, the appreciation
in real terms was actually less. In fact, it may even have
depreciated in real terms over that period of time. So just to
make the point that currency rates do matter and we should not
ignore them.
The second point is that while we talk about this issue in
terms of deficits, imbalances, and particularly unemployment in
the U.S., I think there is another very important element,
perhaps more important, that we do not discuss very much, and
that is, the distortion of trade. In other words, we could have
a situation, as we do with Saudi Arabia, where we have a huge
trade deficit with Saudi Arabia, but our trade with Saudi
Arabia is not being distorted. What we make in the United
States, what we sell in export is not being distorted by our
trade deficit with Saudi Arabia. On the other hand, in our
trade with countries that--and China is not the only one. Let
us keep this in mind. But our trade with countries that do
manage their currencies to be undervalued, it changes the
structure of our trade. And in a way, that is more important
than the question of deficits and employment because while
other factors impact deficits and employment, the structure of
the trade is very much impacted by the currency rates.
The third point I would like to make is that in this
discussion, we are frequently warned that any effort by the
U.S. to offset the impact of the currency distortions would be
protectionist and would risk setting off a trade war. I think
it is important for us to understand that when countries manage
their exchange rates to be undervalued as a matter of policy,
that is a protectionist policy. And so in this debate or in
this confrontation, it is not the United States that is being
protectionist. We are already in a situation in which others
are being protectionist.
The last point I would make is this: China has said, and
understandably, that it manages its exchange rate in the
interest of its economy. It has unemployment; it has huge
structural problems. It is a country that needs to have rapid
growth. We want it to have rapid growth. We want it to be
successful, and China has said, look, you know, we are not
doing this to hurt you guys; we are doing this because this is
in the best interest of our economy. And I think we can
understand that.
I think that sometimes rather than pointing the finger at
China, we should take a similar position, namely, that, OK, we
understand you have unemployment, we understand you need to hit
growth targets. We have unemployment, too; we have growth
targets we need to hit as well; and, therefore, we need to
manage our currency in the best interest of our economy.
We can do that. We have countervailing duty laws. There are
clauses in the WTO that suggest that currency manipulation is
really illegal under WTO rules. We have balance-of-payments
issues that could be adduced to justify measures by the U.S. to
counter the impact of currency management. I think particularly
our countervailing duty laws and the ability of the Secretary
of Commerce to self-initiate countervailing duty cases is
something that should be pursued more aggressively than it has
been. But my point is that rather than constantly beating up on
China, perhaps we should be looking to our own interests and
thinking about what we can do to protect our interests.
The final point I would make is that in the debate about
competitiveness and the question of what is causing decline of
U.S. competitiveness, certainly China's currency policies are
one factor that contributes to a decline in U.S.
competitiveness. But we should not forget that there are man
factors that we contribute ourselves. We are low savers. We do
have a de facto industrial policy that makes no sense. And so
as well as dealing with the currency issue, we should be
dealing with that in the context of a broad strategy to
revitalize the U.S. productive base.
Thank you.
Chairman Brown. Thank you, Mr. Prestowitz, and I will ask a
couple questions, then move on to Mr. Lardy.
This week, Brazil and India joined the call for China to
appreciate its currency. Since those are two countries that are
part of the developing emerging economy BRIC group--Brazil,
Russia, India, and China--what does this suggest to you that
they have made that call? And what opportunities does it
present to us to work with them rather than trying to address
this unilaterally?
Mr. Prestowitz. Well, I think it is very important that
they made that call because what it tells us is that while we
tend to think of this question in bilateral terms, in fact,
China's policies are having a negative impact on many
countries. And that suggests that it should be possible to
address this in a multilateral setting, in a multilateral
framework, rather than just a U.S. beating up on China
framework. And so I think that the Administration would be well
advised to try to rally support from others who are being
negatively impacted.
Chairman Brown. In your book, you mentioned--thank you for
that. You talked about U.S. company--I mean, the framework of--
I often heard in my time in the House working on trade issues
that trade brings democracy and the wealthier a country gets,
the more it interacts with Western democratic countries like
ours, the more democratic it becomes and the more it shares our
values.
You point out in your book and other times I have heard you
that, in fact, U.S. companies sometimes prefer manufacturing
and development and location of plants, if you will, in
countries that are less than democratic and countries that are
authoritarian. If that, in fact, is true--and I think it is,
too. But if that, in fact, is true, how do we change that
direction a little bit so that it is not more of a pull to do
business in China for an American company because of the
authoritarian structure that might make their lives a little
bit easier?
Mr. Prestowitz. Well, I think it is, as you have said, we
are in a situation in which global companies are major
political players in Washington, DC, and in other democratic
capitals. In authoritarian capitals, they are supplicants, just
like everybody else. And so the balance of influence is kind of
asymmetric.
But more than that, I think a major issue that needs to be
discussed in tandem with the currency question is the question
of investment incentives, because right now, if you look at the
structure or the dynamics of a global economy, all of the
incentives are really such as to move the production of
tradable goods and the provision of tradable services out of
the U.S.
What are those dynamics or those incentives? One of them is
currency. Currency is being undervalued in a number of
countries, China lead among them but not the only one.
The second one is financial investment incentives. Put your
factory in my country and we will give you the land. We will
give you the infrastructure. We will put in a capital grant.
You won't pay taxes for 30 years. So on a $5 or $6 billion
investment, those incentives can amount to as much as half of
the capital invested, and what they serve to do is to distort
the actual market dynamics.
So, for example, you can produce widgets more economically
in the U.S., let us say, than in China on a normal operating
cost basis. But if the capital is subsidized, then you move
that production to China. And so the location of production is
not being determined by market forces. It is being determined
by capital investment incentives.
This is something that the U.S. does at the State level,
but the States don't have many chips to play with in the U.S.
We don't do it at the Federal level. I think we should. I think
we should have a fund. My proposal is that we propose globally
to negotiate an agreement like we have in the WTO on export
subsidies. We proposed to negotiate disciplines on the use of
investment incentives, but at the same time, while negotiating
that, we create a fund that would match the incentives of
others to offset that distortion of the market forces.
Chairman Brown. Thank you, Mr. Prestowitz. Thank you for
joining us.
Mr. Lardy, your testimony, please. Thanks.
STATEMENT OF NICHOLAS LARDY, ANTHONY SOLOMON, SENIOR FELLOW,
PETERSON INSTITUTE FOR INTERNATIONAL ECONOMICS
Mr. Lardy. Thank you very much, Senator Brown, for inviting
me to appear before the committee this morning. I did submit a
statement for the record and I would just like to take my
limited time to draw out some points from that. I am going to
focus on four key points from the prepared statement.
The first is that although China's external surplus on a
global basis has fallen extremely sharply, from 11 percent in
2007, 11 percent of GDP, to only 1 percent of GDP in the first
quarter of this year, I think this decline was caused primarily
by factors that have already been reversed or are likely to be
transitory. But the sharp and unexpected reduction in China's
external surplus does suggest that there is a substantial
uncertainty about the precise degree of undervaluation.
In other words, this surplus has fallen much, much more
rapidly than anybody expected. However, despite this, I do
believe that China's currency on a fundamental basis remains
significantly undervalued and it is quite likely that the
external surplus will rise in the second half of this year as
compared to the second half of 2008.
The second point in my prepared statement is that the
virtual disappearance of China's external surplus means that
within China, it will be politically difficult for the central
government to resume a policy of appreciation vis-a-vis the
dollar. It will be strongly resisted by provincial and other
local political leaders along China's coast, where upwards of
50 million people are employed in export-oriented
manufacturing. They simply won't understand why appreciation is
called for in a period when China's surplus has disappeared. If
appreciation does resume, I expect it would be relatively
modest, at least until the global recovery strengthens further
and China's external surplus widens significantly, for example,
as a result of the resumption of growth in Europe.
The third point in my prepared statement is that even if
the undervaluation of the RMB remains very large, a rapid
correction of this undervaluation is not optimal from either
the U.S. or the global perspective. A rapid appreciation would
likely lead to a deceleration of China's economic growth and
thus both impede global recovery and lead actually to a loss of
jobs in the United States.
This is very straightforward. If China's growth
decelerates, their imports will decelerate and will have
negative implication for jobs in the United States. So the
optimal path is to rather eliminate the undervaluation over a
period of years. This would add modestly to the growth of
employment in the United States as our economic recovery
continues. I think the problem is, as one reads estimates about
the number of jobs that might be created as a result of China's
appreciation, it is frequently not qualified by any discussion
about the timeframe over which that would be either likely to
occur or optimally should occur.
The fourth point is that, again, and Clyde mentioned this,
I think U.S. policy should not focus exclusively on the Chinese
exchange rate. Rather, policy should be set on a broader
framework that recognizes that reducing China's and keeping
China's external surplus small requires not only a more
flexible exchange rate, but also structural reforms within
China that would lead to more consumption-driven growth.
This is the savings-investment imbalance. This is
essentially, I think, the economic rebalancing agenda that has
been taken up in the economic component of the strategic and
economic dialog with China that is led by Treasury Secretary
Geithner. It is also a very important part of the G-20 process
that has emerged over the last year or so. In my judgment, it
is this more comprehensive approach that is most likely to
reduce global economic imbalances and thus contribute to a more
sustainable global economic recovery.
Thank you.
Chairman Brown. Thank you very much, Mr. Lardy.
Mr. Blum.
STATEMENT OF CHARLES H. BLUM, EXECUTIVE DIRECTOR, FAIR CURRENCY
COALITION
Mr. Blum. Thank you, Mr. Chairman. The Fair Currency
Coalition appreciates this opportunity to testify on what
action can and should be taken to remedy currency
undervaluation by China and others.
Almost 6 years ago, we sought a solution through
multilateral dispute settlement by filing a well researched and
argued Section 301 petition. It was summarily rejected by the
last Administration. Only then did we turn to legislation,
developing and refining what is now known as the Currency
Reform for Fair Trade Act, introduced by Senators Stabenow and
Bunning and by Representatives Tim Ryan and Tim Murphy. We
intend to continue to work on this problem until it has been
resolved on an effective and lasting basis.
Had the government acted on the Section 301 complaint in
2004, or had any version of our legislation passed the
Congress, the damage to American workers and industries would
have been reduced. Had the IMF or the WTO been up to their
task, the problem we face today would be less difficult to
manage. Unfortunately, none of that has happened.
Instead, China's trade surplus with the United States and
with the world, as well as its foreign exchange reserves, have
mushroomed over these last 10 years while U.S. manufacturing
employment has plummeted by one-third. A remedy delayed is a
remedy denied. The longer it is denied, the greater the
injustice.
The logical approach, as Mr. Prestowitz already has
mentioned, the logical approach is to deal with currency
undervaluation as a subsidy, using the WTO sanctioned remedies,
countervailing duties, to offset the unfair advantage on an
industry-by-industry basis. Undervalued currencies meet the
three legal tests for a subsidy finding.
The government established exchange rate, which is price
fixing on a broad scale, forces banks to pay the seller of an
internationally traded good or service extra units of the home
currency compared to its fair market value. That is a
government mandated financial contribution. The extra units of
currency constitute the benefit to the exporter. That benefit
creates an incentive to export. Currency undervaluation thus
seems to be a classic example of an export subsidy, a practice
that has been from the beginning prohibited under GATT rules.
Passage of legislation, such as S. 1027, the Stabenow-
Bunning bill, would distinguish actionable from nonactionable
forms of currency undervaluation. That is an important point.
Currency undervaluation is not a per se issue. It has to be
defined. There need to be conditions and terms. The legislation
does that.
S. 1027 would also provide clarity regarding the method of
calculating the subsidy, the source of data to be used in that
calculation, and other procedural matters. Clear guidance from
the Congress would facilitate the application of existing law
to a new area of economic activity, reduce the scope for
controversy, strengthen the hand of the government in the
ensuing litigation and negotiations, and provide helpful
guidance to trade practitioners, importers, exporters, and
foreign governments about the rules that will govern their
trade.
A new bill, the Currency Exchange Rate Oversight Act of
2010, S. 3134, has 18 cosponsors today, including the Chairman
and Senator Graham. It seeks to strengthen the Treasury's
negotiating leverage in its oversight of foreign government
currency practices, in part by explicitly authorizing the use
of trade law remedies in response to currency undervaluation.
The FCC welcomes this legislation and is working with the chief
cosponsors, Senators Schumer and Stabenow, to strengthen it as
much as possible.
In closing, let me invoke no less a free trader than Ronald
Reagan, for whom I worked in the 1980s. In the wake of the
1985-1986 realignment of currencies following the Plaza Accord,
he explained his trade policy in a radio address in three
simple concepts. First, he said, trade must be reciprocal. Free
and fair trade with free and fair traders is exactly what he
said. He didn't say free trade with the world. He didn't say
free trade with free traders. He said free and fair trade with
free and fair traders. A strict reciprocity is the first
principle. The second is that trade must be based on a mutual
respect for the rules. And third, policy must produce results.
Persistent currency undervaluation surely is a
protectionist practice. Tolerating such protectionism
undermines the global economy. Confronting it cannot be deemed
as protectionism so long as that is done within agreed rules.
Martin Wolf recently wrote in his column in the Financial
Times, ``The U.S. was right to give talking a chance. But talk
must lead to action.'' A sound trade remedy is the best
approach to action. It provides negotiating leverage without
overkill. Once it has accomplished its objective, each
countervailing duty remedy can be adjusted according to the
degree of revaluation, all the way down to zero. It is a carrot
as well as a stick.
In our view, legislation is the right thing to do. It is
the only thing we can do. It is the one thing we must do. It is
high time for the Congress to act by passing S. 1027 or
equivalent legislation.
Thank you very much.
Chairman Brown. Thank you, Mr. Blum.
Mr. Ikenson, welcome.
STATEMENT OF DANIEL J. IKENSON, ASSOCIATE DIRECTOR, CENTER FOR
TRADE POLICY STUDIES, CATO INSTITUTE
Mr. Ikenson. Thank you, Chairman Brown. I very much
appreciate the opportunity to be here with you today.
Many economists believe the Chinese currency is
undervalued, and I have no reason to disagree with that. But
the broad range of estimates of undervaluation, 10 percent to
40 percent, approximately, should remind us that the true value
of the Renminbi can only be determined if the currency is
allowed to float and the capital account is fully liberalized.
The world would probably be much better off if China did that,
as it would lead to more optimal resource allocations, although
a stronger RMB presents its own set of challenges to U.S.
producers and consumers.
A stronger RMB, for example, would lead to increased demand
in China for commodities and raw materials, which would bid up
the prices, increasing the cost of production to U.S.
producers, some of which would be passed on to U.S. consumers,
exacerbating the stress on their own budgets already felt by
the relative decline of their dollars against the RMB.
For many in Washington, though, it seems the issue is not
the Chinese currency per se but that the United States has a
large bilateral trade deficit with China, which is often
attributed to the undervalued RMB. A currency revaluation for
many policymakers is just a proxy for reducing the trade
deficit, which itself is seen as a proxy for creating jobs in
the U.S. economy.
But the relationship between currency values and trade is
not as straightforward as might have been the case before
globalization took hold. Because of the proliferation of
transnational production sharing arrangements, the effects of
currency value changes cut in many different ways. The last
period of RMB appreciation is instructive. As you heard
earlier, between July 2005 and 2008, the RMB appreciated by 21
percent against the dollar, from a value of 12.08 cents to
14.64 cents, but during that period, contrary to what the
textbooks predict, the U.S. trade deficit with China increased
from $202 to $268 billion, or by 33 percent.
U.S. exports to China increased, as predicted, and by $28
billion, or 69 percent. But there is a strong case to be made
that Chinese currency appreciation wasn't the most important
determinant of that export growth, and I refer you to the chart
in my submitted written testimony.
During that same period, U.S. imports from China increased
by $94 billion, or 39 percent. One reason for continued U.S.
consumption of Chinese goods, despite the relative price
increase, is that there may be a shortage of substitutes in the
U.S. market for Chinese-made goods. If that is the case, RMB
appreciation reduces Americans' real incomes, and any trade
sanctions imposed to approximate or compel that appreciation
can be seen as a regressive tax.
But the fact that a 21 percent increase in the value of the
RMB was met with a 39 percent increase in import value means
that the quantity of imports demanded after the price change
increased by nearly 15 percent. Higher prices met with greater
demand would seem to defy the law of demand, so something else
must have happened.
I think Chinese exporters must have lowered their RMB-
denominated prices to keep their export prices steady. That
would have been a completely rational response, enabled by the
fact that RMB appreciation reduces the cost of production for
Chinese exporters who rely on imported raw materials and
components. According to a growing body of research, somewhere
between one-third and one-half of the value of U.S. imports
from China is actually Chinese value added. The other half to
two-thirds reflects the costs of materials, labor, and overhead
from other countries, including the United States. China's
operations still tend to be low-value manufacturing and
assembly operations. Thus, much or most of the value of Chinese
exports was first imported into China.
RMB appreciation not only bolsters the buying power of
Chinese consumers, but it makes Chinese-based producers and
assemblers even more competitive because the relative prices of
their imported inputs fall. That reduction in cost can be
passed on to foreign consumers in the form of lower export
prices, which could mitigate entirely the effect desired by
many in Congress, which is to reduce U.S. imports from China.
That process might very well explain what happened between
2005 and 2008 and is probably a reasonable indication of what
to expect going forward. Factors such as income, savings
propensities, the availability of substitutes, and monetary and
fiscal policies have greater influence than currency movements
over trade flows, particularly when exporters are willing to
absorb the costs of those currency changes.
As to the claims that imports kill jobs, I would note that
U.S. producers themselves account for a majority of import
value year after year. The figure was 55 percent in 2008.
Fifty-five percent of U.S. importer value was imports conducted
by U.S. producers. Imports from China and elsewhere really,
therefore, support countless jobs up the value chain in the
United States.
During the quarter-century between 1983 and 2008, as the
value of U.S. trade increased more than fivefold in real terms,
U.S. employers added 46 million jobs to payrolls and real GDP
more than doubled to $14.5 trillion. That is 1.8 million net
new jobs per year, even as U.S. import value increased by 8
percent per year over that period.
Finally, yesterday, the U.S.-China Business Council
released a compilation of State-by-State export data which
revealed, among other findings, that in 2009, 19 U.S. States
exported more than $1 billion worth of goods to China, which is
our third-largest export market; that U.S. exports to China
were off by only 0.2 percent in 2009, while exports to the rest
of the world tanked by 19 percent; that 47 States have
experienced triple-digit export growth to China since 2000; and
that exports to China from Ohio grew from $292 million in 2000
to $1.9 billion in 2009. The undervalued RMB is apparently not
an insurmountable barrier to exports, as some have suggested.
Thank you for your time and attention.
Chairman Brown. Interesting. Thank you, Mr. Ikenson.
Mr. Lardy, you in some sense agreed, in some sense
contrasted your views with Mr. Prestowitz. One place where they
were more or less coincident was that it should be part of
whatever we do with adjusting currency. I think you wanted to
move probably more slowly than he would on adjusting currency,
but since he is not here to speak for himself, I won't do that
debate.
But you both talked about making this part of a larger
plan. He mentioned manufacturing policy and other things. You
mentioned using the talks, the strategic talks to urge some
kind of restructuring of China's relationship with us, economic
relationship with us. Would you talk that through a little
more, about what those talks should be and what you would
suggest we try to accomplish within China's economy and, I
assume, ours to deal with these disadvantages of currency and,
I assume, to deal with the trade deficit overall and our
economic relationship.
Mr. Lardy. Yes. I think the talks through the strategic
economic dialog deal with this broad rebalancing agenda, and I
think for China, that means several areas where there is room
for policy change beyond the currency. I am not minimizing the
currency.
Chairman Brown. I understand.
Mr. Lardy. The currency is a key part of it, but there are
other things that need to be done. Price reforms, for example,
are extremely important. China has tended to have undervalued
prices for energy, still has significantly undervalued prices
for electricity, for example. That provides a very substantial
advantage to producers of tradable goods, that is, exports and
import-competing goods. These are the firms that use most of
the electricity in China. So appropriate pricing of
electricity, water, a lot of other natural resource products.
I think Senator Graham also mentioned the environmental
protection. They need to introduce appropriate environmental
charges and fees. Again, that would tend to raise the cost of
producing exports. It would not impinge so much on the
production of services. A very big part of this rebalancing is
to get away from a totally manufacturing-driven growth process
and have the service sector play a larger role in growth.
Financial reform is another important part of this reform
of the banking system, which I believe is very important.
Primarily, the step that is needed is interest rate
liberalization. There has been a massive tax on the household
sector by very low deposit rates. That means households' income
growth has been inhibited compared to what it would have been
on a more liberalized interest rate environment.
The central government in China and the local governments,
as well, need to continue to build out the social safety net.
They have done a reasonably good job of accelerating that
process over the last few years, but more, much more needs to
be done. That would tend to reduce the household savings rate
and help to alleviate the saving-investment imbalance that
Clyde spoke of.
So there are some things in the pricing domain, the
financial sector, particularly interest rate reform, and
environmental charges and fees, and more of a social safety
net, which would affect individual choices on consumption
versus savings. All of those things would tend to reduce
China's very large--traditionally, over the last few years,
very large external surplus.
So, as I said, not just the currency. Other things need to
be addressed, as well. But the currency certainly should be
part of it.
Chairman Brown. What would you consider--and this is for
both Mr. Lardy and Mr. Blum--what would you consider a
meaningful step by the Chinese government? Forget our
legislation in terms of enactment. Think of it in terms of a
prodding, for instance, for now. What would you--and you have
said--I don't want to put words back in your mouth. What would
each of the two of you, and then I will get to Mr. Ikenson,
consider a meaningful step by the Chinese voluntarily on
currency? At what rate of appreciation? What step over time,
and what kind of timeframe?
Mr. Lardy. Well, my answer to that would have to be
conditional on some of the factors I alluded to earlier. That
is whether or not the U.S. growth continues to gain traction,
whether Europe joins in the recovery process sometime this
year.
I certainly agree with what the Central Bank Governor said
a number of weeks ago, that repegging to the dollar in the
summer of 2008 was a temporary measure undertaken with the
stress of the financial crisis and that it would be the--the
policy would be changed. I think there is enough evidence now
that global recovery is reasonably strong. I think they should
go back to allowing their currency to appreciate.
When their external surplus, though, has almost
disappeared, I would be very surprised if they would be willing
to appreciate more than three or 4 percent. Let us say, over
the balance of this year unless we get--if we got strong
European recovery and their surplus started to go up again--
then I would expect and hope that they would appreciate more
than that, maybe 5 percent or 10 percent. But I do think it has
to be somewhat--our expectations have to be somewhat
conditioned on what happens to the global recovery, the pace,
and also what happens to their own trade position, their global
trade position.
Chairman Brown. Mr. Blum, same question to you with the
addendum, do you agree with Mr. Prestowitz's contention--I
don't believe he said it today, but he has other times--that
increase in Chinese productivity basically canceled out the
appreciation of the Yuan in that 2- or 3-year period. So
address that, if you would.
Mr. Blum. Let me address that first.
Chairman Brown. Sure.
Mr. Blum. It is obviously true. The productivity of Chinese
workers is escalating rapidly. People are being taken off the
farm and being put in factories, and after a certain amount of
training, they become highly productive compared to what they
used to be. There is no question about that.
But there is something else, and it gets me to a comment I
wanted to make to Mr. Lardy's earlier point. A big part of the
problem, which I don't think, Nick, I heard you say, is that
the government is lavishing--the Chinese government is
lavishing cheap, even zero interest, effectively, zero interest
money on favored enterprises. They are almost always state-
owned enterprises.
So one reason--another reason, let us say--why the
appreciation during those 37 months didn't add up is that the
people who were investing for export were being given free
money. That nullified a big part of the effect of the
appreciation.
And in that connection, I think it is important to
recognize, Mr. Lardy has talked correctly about the thriftiness
of Chinese households. I know many Chinese people, how careful
they are with their money. They hate credit cards. They save
and pool their money to buy things. This is all true. But in
the last few years, the corporate savings have outpaced the
household savings. It is now a bigger factor. The latest
numbers I have, which are Chinese numbers, are that in 2007,
corporate savings reached the level of 22.9 percent of Chinese
GDP, while household savings, while still rising--well,
actually while fairly stagnant over a 15-year period, were at
20 percent.
So a big part of the consequence of the currency policy is
to put a lot of money in the hands of and at the control of
these state-controlled enterprises. They are the guys who
invest for export, sometimes nullifying the currency policy.
To answer your question directly, I will tell you honestly
what we have told the Treasury Department is, we don't have a
specific number of set of numbers, but we have told them that
the initial revaluation needs to be higher than the last time,
2.1 percent. The pace at which appreciation proceeds needs to
be faster than the last time, which produced--again, there are
two ways to measure it. So we get 17.5 percent if you use the
Renminbi to the dollar. You get a higher number if you use
cents per Renminbi.
Third, it has got to be sustained. I mean, last time, the
Chinese stopped when they found it convenient to stop, before
we had actually gotten any benefits. Part of the reason is it
was not backed up by all of the rest of the policies, and we
certainly endorse Treasury's effort to have a full-scale
understanding with the Chinese about what needs to be done on
their side and on our side to rebalance the economy.
So it is not an easy issue. It is not a magic number. It is
not a stable number. Forty percent happens to be a recurring
number, but a lot of things have changed. This will change with
both economies.
So what we need, I think, is a serious, sustained process
that will actually bring us reliably to some kind of
equilibrium.
Chairman Brown. Give me, if you would, a real short answer
on a pretty simple question, the two of you, Mr. Blum and Mr.
Lardy. Is Congressional pressure a necessary ingredient to
begin to fix this? Mr. Blum.
Mr. Blum. Yes.
Chairman Brown. Mr. Lardy.
Mr. Lardy. I used to be agnostic on this question, but in
the current environment, I think pressure either from the
Congress or from the executive branch is probably
counterproductive. This has become politically a very
contentious issue within China and I think the more external
pressure there is, the harder it is for them to change off the
peg.
Chairman Brown. OK. I understand that.
Mr. Lardy. I would--let me, just in response to your
earlier question, I would say it is very important to recognize
this productivity gain is very important, and this is one of
the things that I don't think is fully understood or adequately
understood in China. That is, the appropriate exchange rate is
a moving target. China has much higher productivity growth in
the export sector than its trading partners. Even if they moved
magically to an exchange rate that we would all agree on was
the right number within a relatively short period of time,
their competitiveness would have improved vis-a-vis their
trading partners and they would be heading back into a surplus.
So they need to have a steady pace of appreciation in order to
offset that productivity gain and not have larger and larger
imbalances.
Chairman Brown. Mr. Ikenson, listening to your comments and
looking at your testimony, I was going to ask you if the size
of the trade deficit with China, our bilateral trade deficit,
was of concern to you, but I guess I want to frame it in a
different way as I am listening to the comments of others.
A lot of us are concerned that, you know, as we wean
ourselves off foreign oil--and we all kind of think we should
do that in various degrees and various paths--that we do not
want to see us losing the opportunity to build a domestic clean
energy manufacturing capability. It is a concern particularly
of mine. I was critical of the Administration on the stimulus
dollars--regardless of what you thought about the stimulus
package, but the stimulus dollars going to build wind turbines
abroad and used in the United States. And I was critical of the
Administration, but I also was understanding in that we do not
necessarily have the industrial capacity to succeed, at least
in the short term, on doing that.
One, is that a major concern of yours? And, second, if it
is, what do we do to build this manufacturing capacity to lead
the world in at least--not lead the world, if we do not lead
the world, which we should do, but at least be a major player
in solar panels, wind turbines, biomass, fuel cells, all of
that?
Mr. Ikenson. Well, let me just back up and address what I
think is a myth that has been lingering for quite some time,
and that is, this myth of manufacturing decline. There is this
presumption that the Chinese have eaten our lunch, that we have
de-industrialized, that we do not produce anything anymore.
U.S. producers, U.S. manufacturers are still the world's most
prolific. We measure manufacturing output by value, not by
volume. In fact, about 22 percent of the world's manufacturing
value-added comes out of the U.S. factories; about 13 or 14
percent comes out of Chinese factories. We are not producing
the products that you see in retail stores anymore. We are not
producing baseball bats and sporting goods and hand tools and
clothes. We are producing pharmaceuticals and chemicals and
airplanes and technical textiles.
So we have moved up the value chain, and it seems to me
that these industries that you speak of are in the U.S.
manufacturing's bailiwick. We are occupying the higher value-
added portion of the value chain. China is still at the lower
value-added stages. It wants to get to where we are. It might
get to where we are. We can stay where we are and stay at the
top if we have the right policies, and I think those policies
are policies that attract investment, that attract human
capital, liberal immigration policies. And we need to recognize
that--you know, we used to talk about comparative advantage in
terms of one industry against another. Ricardo spoke of the
Portuguese wine maker and he English cloth maker producing and
exchanging surpluses. Today I think that applies to--
comparative advantage applies to functions on the supply chain,
and we need to maintain our position at the upper end.
If you speak to people at the National Association of
Manufacturers, they say their biggest problem is the dearth of
skills. People do not have the skills to take some of the jobs
that could lead these industries into the future. I think that
we should come up with some sort of an idea where manufacturers
subsidize or pay for workers to get these skills in exchange
for a commitment from workers to stick with them for a number
of years. I think manufacturers do not want to invest in these
skills knowing that people might take off.
So if there is some sort of an arrangement that can be
worked out like that, I think we could create the skill set and
the labor force necessary to excel in those industries.
Chairman Brown. Thank you. I would argue that Ricardo would
be perhaps surprised that both wool and wine would have very
possibly moved to Portugal, but that is a whole other issue.
I hear your arguments, and I have heard those before, and I
think there is great credence to major parts of it. It is clear
that we are a much more productive manufacturing sector. It is
clear that we produce more than we ever did, and our lost jobs
surely are ascribed in part to efficiency. But I also represent
a State--and I have looked at what has happened to my hometown
and so many others. Much of this manufacturing for a lot of
reasons has gone elsewhere.
Also, most disturbingly to me that 30 years ago
manufacturing was about a third of our GDP and finance was
about half that, and today it is almost the reverse of that,
and, you know, look where that got us. But that is, again,
another issue.
Let me ask a brief question. I hope you can give me a brief
answer on this. A bit off the subject, but not. Senator Graham
talked about the climate change legislation peripherally.
Putting aside your position on climate change itself, on
whether it exists, who is responsible if it does, and whether
and how we should address it, should we do a border adjustment?
Would you support some kind of border adjustment to apply to
those countries that do not follow significant environmental
rules that we would impose on our Government, on our industries
and utilities and transportation and homes, if you will? Would
you support some kind of a border adjustment which would be the
shape of a tariff or a payment or something like that? Mr.
Lardy.
Mr. Lardy. Well, I----
Chairman Brown. Fairly short if you can, but if you cannot,
I understand.
Mr. Lardy. I would support that if it was consistent with
the WTO.
Chairman Brown. OK. Mr. Blum.
Mr. Blum. Yes, well, I can say that the Fair Currency
Coalition has no position on that, but if you will allow me a
personal observation--and, again, I would hark back to Ronald
Reagan's reciprocity. If we play by one set of rules and our
trading partners play by another, we are going to hurt
ourselves.
Chairman Brown. OK. Mr. Ikenson.
Mr. Ikenson. No.
Chairman Brown. OK. That was a pretty short answer. That
was even shorter than ``yes'' by one letter.
Mr. Ikenson, at the risk of making an assumption where you
work and whom you might consider your personal and your think-
tank heroes might be, do you come down on the same place as Mr.
Blum in your interpretation of what Ronald Reagan would say
about this?
Mr. Ikenson. I think reciprocity is not necessary. I think
we can improve our lot through unilateral measures. We do not
need--if our trade partners want to engage in protectionism, if
they want to subsidize their producers, we can still improve
our lot and maximize our position by reducing our trade
barriers or eliminating them. Ronald Reagan is thought to have
been a free trader, but he engaged in a lot of protectionism as
well. But I would say we do not need reciprocity; we do not
need trade agreements. We can follow in the footsteps of the
countries that are leading us in this continent--Mexico and
Canada--by eliminating tariffs as a way to reduce costs for
U.S. producers. The Canadians and the Mexicans have cut tariffs
on a whole slew of products, industrial inputs. That is one way
to reduce costs for U.S. producers. We can do that
unilaterally.
Chairman Brown. Thank you. Great discussion, and all three
of you defended your positions articulately and very well, with
passion. Thank you to the three of you. Thanks.
I will call up the next panel, please. Thank you.
Jack Shilling is Executive Vice President of Corporate
Development and Chief Technical Officer (retired) of Alleghany
Technologies. He earned his Ph.D. in metallurgical engineering
from the University of Pittsburgh and for more than 30 years
oversaw the manufacture of high-technology specialty metals for
aerospace and defense markets and energy generation markets. We
need more people studying what you studied these days. Thank
you for joining us.
Mark Suwyn, Chairman of NewPage in Miamisburg, Ohio, his
previous positions with NewPage included Chairman and Chief
Executive Officer and Executive Chairman of the Board. He was
Chairman and Chief Executive Officer of the Louisiana Pacific
Corporation for 8 years, and as I said, NewPage is located in
Miamisburg, Ohio. That is the largest coated paper manufacturer
in North America with $3.1 billion in net sales.
Derek Scissors is a Research Fellow of the Heritage
Foundation. He focuses his studies on the economies of China
and India as Research Fellow for Economics in Heritage's Asian
Studies Center, and he has written extensively in Foreign
Affairs, the New York Times, and other publications.
Dr. Shilling, if you would begin. Thank you.
STATEMENT OF JACK W. SHILLING, RETIRED EXECUTIVE VICE PRESIDENT
AND CHIEF TECHNICAL OFFICER, ALLEGHANY TECHNOLOGIES
INCORPORATED, AND CHAIRMAN, SPECIALTY STEEL INDUSTRY OF NORTH
AMERICA
Mr. Shilling. Well, thanks so much for asking me to be
here.
My conviction, from all of my previous experience, some of
which was in China, actually, is that it is vitally important
for job creation, the overall economy, and national security--
particularly important for national security--that the United
States strengthen and extend its manufacturing base. An
integral part of this effort must be an international system of
exchange rates that reflect market fundamentals and that adjust
as those fundamentals fluctuate.
China's enforced undervaluation of its currency by pegging
the RMB to the dollar dates from 1994. Most estimates are that
the RMB remains misaligned by about 40 percent relative to the
U.S. dollar on a bilateral, real exchange rate basis, as large
today as the RMB undervaluation was before the Chinese
Government allowed the RMB to appreciate nominally by 17.5
percent between 2005 and 2008. Other countries have similarly
undervalued their currencies in an attempt to remain
competitive with China.
This sort of competitive currency depreciation is
protectionist in nature, as others have said this morning, and
a significant factor in the weakening of our U.S. manufacturing
base and in the increasing loss of skilled jobs and investment
in the United States. The RMB's protracted undervaluation also
facilitates exports from China into the U.S. and impedes
exports from the U.S. to China. The U.S. trade deficits with
China and China's hoard of foreign reserves will continue to
grow as long as the RMB remains undervalued.
In my written statement, I have discussed how the RMB's 40-
percent undervaluation affects purchasing decisions and the
prices of items traded between the U.S. and China. I have also
described what likely would happen if the RMB were effectively
revalued by 40 percent on a bilateral, real exchange rate basis
relative to the dollar. All other things being equal, price
becomes the dominant issue where exchange rates have a direct
and obvious impact.
I believe there are at least two principal lessons to be
drawn from this review. First, in my opinion, the primary
benefit of a meaningful 40-percent revaluation of the RMB would
be to have a positive impact on reducing imports into the U.S.
of subsidized products from China. This shift in turn would
mean that U.S. producers would have a greater ability to supply
a wide range of segments in the U.S. domestic market with a
broader range of products and in larger volumes than is
presently the case. There would be, in other words, a very
beneficial effect on the U.S. economy, U.S. jobs, investment,
and, again, national security.
Second, the effect of revaluation on exports from the U.S.
to China likely would be somewhat helpful, but not as much so
because it seems likely the Chinese Government would intervene
in the future in some manner other than an undervalued RMB to
prevent a significant disruption to the ability of Chinese
producers and labor to supply their own market.
I would emphasize that the 40-percent revaluation of the
RMB must be on a real exchange rate basis in accordance with
inflation-adjusted, trade-weighted exchange rates. The RMB's
appreciation between 2005 and 2008 was a nominal 17.5-percent
appreciation. And during that time, China's economy and ability
to supply the U.S. market grew rapidly and dramatically.
It seems clear that China is very unlikely to revalue
meaningfully on its own initiative, nor is the IMF in a
position to impose and enforce a solution. In the meantime, if
not countered, China's protectionist currency policy will
increasingly drain the United States of knowledge and
expertise, contribute to the demise of U.S. manufacturing, and
siphon off U.S. jobs, technology, and investment. That is not a
winning formula for the U.S. economy and national security.
It is critically important that we act now before the
situation deteriorates further. Competitive currency
depreciation on the unprecedented scale practiced by China is a
very destabilizing mercantilist monetary measure with far-
reaching and damaging effects on international trade. A first
step that can be taken by Congress and the executive branch is
legislatively confirming the legal right of U.S. industries to
countervailing and antidumping duties as a means of offsetting
injury caused by imports from any country with a fundamentally
undervalued currency. This approach would be a reasonable
implementation in U.S. domestic law of the WTO's provisions,
would timely help U.S. companies and workers, would act as a
deterrent, and would underscore that protracted currency
depreciation will not be tolerated.
Thank you.
Chairman Brown. Thank you very much, Dr. Shilling.
Mr. Suwyn, welcome.
STATEMENT OF MARK A. SUWYN, EXECUTIVE CHAIRMAN OF THE BOARD,
NEWPAGE CORPORATION, MIAMISBURG, OHIO
Mr. Suwyn. Thank you, Mr. Chairman. I appreciate the
opportunity to appear to discuss China's exchange rate policy
and imbalances. As you indicated, NewPage produces printing and
writing papers, including coated and uncoated free sheet and
groundwood papers. While headquartered in Miamisburg, we have
production facilities in Kentucky, Maine, Maryland, Michigan,
Minnesota, and Wisconsin, employing about 7,500 people.
Production of these papers is a multibillion-dollar industry in
the United States.
China's undervalued currency is a very significant problem
for the United States paper producers. The U.S. has a
significant competitive advantage over China in the production
of paper and paperboard used domestically for printing and
writing, a fact that has been confirmed regularly in various
market research studies. Paper producers in this country have
access to abundant, renewable, responsibly managed fiber
sources, and we have a plentiful supply of water required for
paper processing. We have a highly skilled workforce with
generations of experience producing paper and state-of-the-art
equipment. We have also the advantage of being close to the
bulk of our customers in the U.S. market since paper is a low-
margin, high--very heavy product that has very high, expensive
shipping charges.
Now, by contrast, the Chinese producers have to import the
vast majority of the fiber that they use. Most of that comes
from Latin America. They also lack an adequate water supply.
Wage rates are lower in China than they are in the U.S., but
paper manufacturing is pretty much automated so that the wages
are only about 10 percent of the total costs of producing the
product. Therefore, they do not gain a real significant
advantage from those lower wage rates.
They have state-of-the-art production equipment, such as we
do. But, finally, their producers are an entire ocean and half
a continent away from our customers in the Midwest, and paper
is very heavy and expensive to ship, and something has to cover
that.
Nonetheless, despite those disadvantages, Chinese paper
producers have been able to lower prices, increase exports, and
gain significant market share in the United States, all because
of the large subsidies provided by the Chinese Government,
their willingness to dump product in the U.S. market, and the
biggest subsidy of all, the 40-percent undervaluation of the
Chinese currency.
In September of last year, NewPage, along with other
members of the domestic industry and the United Steelworkers
Union, filed antidumping and countervailing duty petitions
covering certain types of coated paper from China and
Indonesia. In the countervailing duty petition covering Chinese
subsidies, we listed a host of subsidy programs that benefit
Chinese paper producers, including allegations covering China's
undervalued currency.
Now, as it has been pointed out earlier and in my written
testimony, we provided currency information that demonstrated
that there were legal requirements--all three legal
requirements for finding the existence of a countervailable
subsidy were met: the Chinese Government had provided a
financial contribution, it resulted in a benefit, and which was
specific to a particular industry in China.
Much to our disappointment, the Commerce Department did not
initiate an investigation into our allegation when we first
made it in September of last year, claiming that we had failed
to sufficiently allege that the receipt of the excess yuan is
contingent on export or export performance--in other words,
exactly how the subsidy was specific. But in January of this
year, we submitted a revised allegation, shown here, that gave
all kinds of details by a third-party economist, an independent
economist, that demonstrated that, based on the Chinese
Government's own data, 70 percent of China's foreign exchange
earnings were derived from the export of goods. Because Chinese
exporters garner the overwhelming share of benefits from the
undervaluation of the RMB, the subsidy benefit is de facto
specific to the exporters as a group.
As of today, the Department of Commerce has still not
announced whether it will initiate an investigation into
whether China's undervaluation of its currency confers a
countervailable subsidy. We believe, as do many Members of
Congress, that Commerce has a legal obligation to investigate
this practice. We hope an initiation occurs soon so that
Commerce will have sufficient time to fully analyze this
allegation.
China's undervalued currency, as well as the other
subsidies from which Chinese coated paper producers benefit,
has had a very significant impact on NewPage and other members
of the coated paper industry. The consequences are documented
in the preliminary unanimous injury determination by the
International Trade Commission, which was issued in November of
last year. They cited a number of things, but I will just
summarize that during this time period the increase in the U.S.
market share of imports from China--and Indonesia--rose from 15
percent to 26 percent during the first half of 2009. This came
by because of significant underselling by Chinese producers
that led to price depression across the whole industry. These
steps and these actions contributed to the closure by NewPage
and other coated paper producers of several mills over the past
several years, including two of our mills at Kimberly and
Niagara, Wisconsin; a mill in Muskegon, Maine; and in Columbus,
Mississippi, just a month or so ago. And we had also a
converting facility in Chillicothe, Ohio.
I estimate that about 2,500 direct jobs were lost, with
another 5,000 indirect jobs as suppliers, contractors, and
shippers lost business.
So what is the appropriate response to their undervalued
currency? We believe the best outcome, of course, would be for
China to allow its currency to float freely and reflect market
forces. However, we cannot wait 4, 5, 6, 8, 10 years for that
to occur. Whatever may be accomplished through long-term
negotiation, we believe that the Department of Commerce needs
to investigate China's undervalued currency as a
countervailable subsidy to the Chinese coated paper producers
and to ultimately impose countervailing duties to offset the
level of undervaluation. We believe this is required by the
U.S. countervailing duty law and is critical to prevent
material damage to the U.S. paper industry and the jobs and
local communities that rely on our industry.
Again, I appreciate the opportunity to appear before you
today and would welcome any questions that you have.
Chairman Brown. Thank you very much, Mr. Suwyn.
Dr. Scissors.
STATEMENT OF DEREK SCISSORS, RESEARCH FELLOW, ASIAN STUDIES
CENTER, THE HERITAGE FOUNDATION
Mr. Scissors. Thank you, Mr. Chairman, for the opportunity
to speak today. I am going to embrace two seemingly
contradictory themes. One is that China is, in fact, a
mercantilist trading state but, nonetheless, revaluation of the
yuan will not benefit the U.S.
The first step in reconciling those two themes is a
reminder of something that we tend to forget, and I have not
actually heard mentioned at this panel so far. The U.S. has a
much bigger economy than China. I do not mean that as a reason
for complacency. I mean that our policies and our behavior have
necessarily far more influence on the U.S.-China economic
relationship than China's policies and behavior. We are the
800-pound gorilla here, not them. That is the main reason that
there is no conventional relationship between the exchange
rate, whether measured in real or nominal terms, and the
bilateral trade gap--and, again, not just from 2005 to 2008,
but from 1994 to 2009.
When the U.S. economy expands, we pull in more Chinese
goods, regardless of the exchange rate, and when the U.S.
economy contracts, as it has in the financial crisis, we pull
in fewer Chinese goods, regardless of the exchange rate.
Putting it in rough terms, all Chinese policy and behavior
only explains about a fourth to a third of U.S.-China economic
relations. The weight is concentrated on our side, not theirs.
Our policies, I realize, are not the focus of this hearing, but
they are vital, and I can summarize a way to reduce the trade
gap, create jobs, and, as mentioned earlier, strengthen
national security in four words: Cut the budget deficit.
Back to the topical theme of Chinese mercantilism. There
have been multiple pieces of legislation in Congress calling
China a nonmarket economy. These are exactly correct. In fact,
it almost seems as if some members have forgotten how right
they are about China.
Why does that matter? If you pick a policy to change from a
nonmarket economy, it is not going to do any good. Even if the
exchange rate is important in influencing Chinese trade,
Beijing will just intervene in some other way to compensate,
because that is what happens in nonmarket economies.
As it happens, Beijing did not need new intervention the
last time the yuan appreciated against the dollar, and it will
not need it this time because the peg is really a minor factor
in Chinese trade. Much more important is that China heavily
subsidizes its state-owned enterprises. Mr. Blum in the last
round mentioned one of these subsidies, and he and I completely
disagree on the larger point, and we agree on this. China
provides basically free money to most of its state-owned
enterprises, and that is not the only subsidy. In the trading
hubs, where one-third of China trade goes through Shanghai,
Shenzhen, Xuzhou--three cities, one-third of the trade--land is
very expensive for understandable reasons. But all land is
owned by the state, so state firms can acquire land in the
trading hubs freely and quickly whenever it is necessary.
The biggest subsidy I want to point to, however, is
regulatory. State firms are sheltered from competition at the
national level for the big state firms and competition at the
local level for small state firms. The central government has
formally and explicitly reserved most of the economy for state
economic leadership and is formally and explicitly working to
consolidate major sectors, and by consolidate, they mean using
government intervention to create a small number of very large
firms, all of which are state owned.
The result is that relatively few state firms are
guaranteed the bulk of many major sectors in the economy. This
creates economies of scale, which makes state enterprises more
competitive in exports even though they are otherwise
inefficient. But the real harm to open trade and to the U.S. in
particular comes in imports. All imports from any country, all
nonstate domestic production, whether by local firms or foreign
firms based in China, are competing for a minority stake of
many sectors. Imports of goods and services are, thus, capped
regardless of the exchange rate.
I want to stress that. Whatever the exchange rate is, you
are still not capturing larger shares of the Chinese market
because they are reserved for the state.
The bottom line is, when you consider all the factors
involved, there is little role left in U.S.-PRC trade for the
value of the renminbi. China has a nonmarket economy, as
Congress has noted, and the U.S. has more weight in the
relationship and our policies matter more than theirs. The
stories you hear, as my fellow panelists have told, about the
RMB mattering works when you put the more important factors on
the sidelines, in particular, when you act as if China will not
adopt another policy to countervail a change in exchange rate
when we know China will because it is a mercantilist trading
state, as Congress has pointed out.
So I am not here to say the U.S. should do nothing. I am
here to say that real improvement in U.S.-China economic
relationships will require more difficult work than a renminbi
revaluation. We need to go after those subsidies. We are not
going to get rid of them entirely, and it will not be as simple
as saying, OK, let us have an exchange rate revaluation. But it
will actually work.
We have a couple of things in our favor. One thing was
mentioned by the Chairman in the last round. The U.S.-China
Strategic and Economic Dialogue should exist for just this
purpose. It is not for conventional trade discussions. That is
for the JCCT. It is so senior leadership can hash out major
change, which is what we are talking about right now.
Nick Lardy mentioned some changes on the Chinese side. I
want to focus my suggestions on changes that will directly
affect U.S.-China trade rather than fundamental reform within
China itself.
We should call for less harmful Chinese bank lending. Their
bank lending subsidizes their state firms. It is a distortion
of global economic trade and investment. There should be less
of it. We have something to do on our side that has exactly the
same effect. It is less of a U.S. budget deficit. Or we could
just cut the budget deficit from our own reasons and support
Chinese market reform. This was also mentioned in the last
panel.
The PRC has claimed for over a decade that it was going to
liberalize capital controls. They have not. Their lack of
progress is inconsistent with pledges to the U.S. And if they
liberalize capital controls, it will be much harder for them to
use bank loans to subsidize their firms.
The best thing we could do in the S&ED would be invoke WTO
principles concerning state dominance of all these sectors.
First of all, the lack of transparency, China will not tell us
exactly what state dominance means and what policies are to be
used to encourage state dominance. They will not commit to
anything. And the lack of transparency violates WTO principles.
It hampers market access and it hampers our negotiations over
market access.
If the WTO is insufficient as a tool to get the Chinese to
move on state dominance, we have the possibility of a bilateral
investment treaty, which we should not extend to China unless
we get progress on this issue, as well as the S&ED.
In sum, RMB revaluation is not going to accomplish much of
anything. When proponents are pressed, they understandably--and
you have heard repeatedly--point to additional issues that need
to be resolved, and they are right. But we would be much better
off skipping over RMB revaluation and going to what really
matters, which is state dominance of the economy in China and
the budget deficit in the U.S.
Thank you.
Chairman Brown. Thank you, Dr. Scissors. I appreciate that.
Dr. Shilling, my staff pointed out, I guess the humor
writers behind me, that if Dr. Shilling were more in geology
than metallurgy, we would have rock, paper, and scissors here,
but----
[Laughter.]
Chairman Brown. I know you have always heard jokes about
your name, Dr. Scissors, so this is the best we can do. Since
you laughed, that was actually my line. It wasn't theirs.
[Laughter.]
Chairman Brown. Dr. Shilling, you had said the IMF is not
in the position to, perhaps, to do anything here. Is there a
case to be made for bringing this dispute--dispute in my words,
Dr. Scissors might not call it that--but is there a case to be
made for bringing this dispute to the WTO in your mind?
Mr. Shilling. Well, I don't consider myself an expert in
that particular area. We have lots of other folks here who are.
I am a manufacturing guy and a technology guy. There is a case
for doing anything and everything we can do to reverse the
trend of lost U.S. manufacturing and technology. And if we
thought we could win a WTO case on any basis that Dr. Scissors
was talking about or Clyde talked about or anybody else, I am
all for doing it.
The country has got to get tough here because time is
running out. Every year that goes by that we don't do what we
need to do to create a level playing field for U.S.
manufacturers is a year lost. So whether there legally is a
case that we would win, that could be presented and won at the
WTO, I am not knowledgeable enough to answer it.
Chairman Brown. OK.
Mr. Shilling. I hope there is, and if there is, we should
definitely pursue it.
Chairman Brown. What would you do if--well, I mentioned the
wind turbines when I asked Mr. Ikenson earlier. The
Administration will say, and I think rightly, although I didn't
exactly agree with their emphasis and their focus on this
issue, they will say that we don't have the industrial capacity
to begin the scaling up of wind turbine production and some
other clean energy, and some other industrial capacity
generally. But your field is metals and you understand a lot of
this.
What should we be doing in terms of building the supply
chain, converting from other things, perhaps, so that we really
can benefit from this revolution, if you will, in clean energy?
I mean, granted, there are other issues. There is nuclear and
there are other things that we will likely pursue. But
especially in these new energy alternatives, where do we go?
How do we do this?
Mr. Shilling. Yes, that is a big question. Let me try to
give--I have worked on this for so long and think about it so
much, I will try to give you a real simple--because it is a
relatively simple--answer.
First of all, there are things we need to do besides
address currency misalignment, as has been pointed out by
others, to create a level playing field for investment in the
United States.
The next thing we should do is tax reform, because the U.S.
has a noncompetitive tax structure from a corporation
standpoint compared with the rest of the world, both in terms
of income tax and VAT tax, et cetera. We have got to look at
that and make that competitive.
We have got to look at our energy policies and how they
affect the costs of manufacturing. Energy is a big factor in
manufacturing costs and they have to be competitive, and we
have to look at regulatory issues and make sure we are
competitive there in a general sense.
But if we were to create a level playing field for
investment, I have always believed that the private sector can
handle picking winners and losers, and gradually, over time,
bring the manufacturing base back to this country. One of the
things that is very frustrating to me is to read statements
that ``those jobs are lost forever,'' that ``those industries
are lost forever,'' and that ``the U.S. can't compete in
that.''
We have to be innovative manufacturers of wind turbines. I
am all for alternative energy. I am all for doing everything we
can in those areas. But we have 300 million-plus people here.
We need to create employment opportunities across a large
segment of manufacturing and we should set very high
expectations in terms of what can be done. Labor costs are, as
has been pointed out, a small percentage of costs of many U.S.
manufacturers, particularly highly productive U.S.
manufacturers. But we are disadvantaging our U.S.
manufacturers, we are discouraging investment in U.S.
manufacturing because the playing field isn't level.
So I don't think the solution is to subsidize a
particularly bright idea like wind turbine manufacturing. That
will work temporarily, but it won't solve the bigger picture of
this tremendous loss of both manufacturing and technology. I
will stop there.
Chairman Brown. That is helpful.
Mr. Suwyn, why the resistance to petitions like yours from
our Government? It is not a political partisan thing. The Bush
administration was not particularly aggressive on these. The
Obama administration on some narrow issues has been a little
more aggressive, but generally has not been where a lot of us
think they should be. What is the resistance? Do you understand
this?
Mr. Suwyn. I don't, because we have been pushing on this
now for several years, particularly in this most recent
petition. I am not sure. I assume it is a political hot potato
and people are worried about that. It is obviously caught up in
the whole issue of our relationships with China, Senator.
But to me, it is--and I am a simple person--it is very
clear. They are subsidizing their operations significantly by
both the things that Mr. Scissors indicated, and we are seeing
all of that, and those things, we can go after. We are going
after those subsidies.
But one of the biggest ones, we can't go after, which is
the currency. And so we have asked, we have requested, we have
submitted documents like this to articulate why it is, in fact,
meets all the requirements. And what we have gotten so far is
nothing. It is like it is a blank wall. So we are not even
getting told why they won't. We are simply getting no response
at all on that. So I don't have an answer as to why.
Chairman Brown. Well, I am as perplexed as you are. I mean,
certainly the geopolitical issues of we need China's help with
Iran and North Korea, but it has puzzled me for a decade-and-a-
half.
Mr. Suwyn. Yes.
Chairman Brown. Your outspokenness and aggressiveness as a
major Ohio manufacturer is important to continue to weigh in.
Dr. Scissors, a last question, and then we are kind of
running out of time. Is the status quo on exchange rate
acceptable to you?
Mr. Scissors. Yes, and not because I am in love with the
status quo on the exchange rate but it is because it doesn't
matter. It is just not to where I would put U.S. energy in
negotiations with China. We just mentioned that there are these
political issues. I am an economics person. I think economics
is more important than politics. But even on economic issues, I
just wouldn't go with the exchange rate.
If somebody said, we are not going to do anything else,
then I would say, fine. Let us work on the exchange rate. If we
are not going to do anything else, then an exchange rate change
might be helpful. But it is not where I would put my first
priority, my second priority, or my third priority. So if
someone said, let us sit on the exchange rate and do other
things, I would say I would rather do that.
Chairman Brown. I thank you. I think there is agreement
from the three of you and the four on the previous panel that
it is bigger than exchange rate, that there are many things to
do. I mean, many of us agree with Mr. Suwyn that the exchange
rate should be a central focus of this, though.
Well, thank you all. The record will be open for an
additional 7 days. If you have other answers that you wish you
had given or if you have another rock, scissors, and paper
joke, you could expand on that, or if you have anything else
that you want to submit to the Subcommittee, we would
appreciate that.
The testimony of all seven of you was very, very helpful
today. So thank you, and the Subcommittee is adjourned.
[Whereupon, at 11:47 a.m., the hearing was adjourned.]
[Prepared statements, responses to written questions, and
additional material supplied for the record follow:]
PREPARED STATEMENT OF CLYDE PRESTOWITZ
President, Economic Strategy Institute
April 22, 2010
Chairman Dodd, Ranking Member Shelby, and Members of the
Subcommittee on Economic Policy, thank you for the opportunity to speak
to you this morning. My name is Clyde Prestowitz, President of the
Economic Strategy Institute.
The Subcommittee has asked for answers to specific questions with
respect to China's currency policy. I would like to address these
questions in brief now, and then go into greater detail as to the scope
of this issue and what we must do to address it.
To What Extent Is China's Currency Misaligned?
Estimates of this misalignment range from 10 to 50 percent. The
majority of analysts put the undervaluation of the Chinese RMB at 25-40
percent.
What Is the Effect of This on the U.S. Trade Deficit and on U.S.
Employment?
The undervaluation of the RMB tends to increase both the U.S. trade
deficit and U.S. unemployment. Nobel Prize winning economist Paul
Krugman has estimated that proper RMB valuation could result in an
increase of as many as 1.4 million U.S. jobs. That suggests a trade
deficit reduction of over $100 billion using standard estimating
parameters.
But these are only representative figures because many factors
other than exchange rates influence both the trade deficit and the
level of employment. No one can say for sure at any particular moment
exactly what amount of trade deficit or unemployment is due to currency
undervaluation. But neither can anyone deny that such undervaluation
distorts trade and ways that are negative both for the undervaluing
country and its trading partners.
Moreover, the impact is not only on trade. It is also on
investment. If global companies anticipate that a major country's
currency will be chronically undervalued, they will tend to move
investment and production to that country and away from other locations
which might be better suited for the production in terms of their
actual factor endowments. Thus the market distortion is not only of
trade, but of the whole composition of production and structure of the
economy. For instance, the fact that China undervalues the RMB is
displacing production not only from the United States, but also from
Mexico, Indonesia, the EU and other locations. The whole global economy
is being distorted, in other words.
What Sectors of the Economy Would Increase Employment in the Wake of an
RMB Revaluation?
Again, we must note that many factors in addition to exchange rates
influence employment levels. But certainly an RMB revaluation would
push in the direction of higher U.S. employment. This would be in a
wide variety of sectors ranging from furniture production to textiles,
semiconductors, machine tools, aircraft parts, tires, and many, many
other sectors. Actually, it would be more or less across the board
because a rise in one sector tends to stimulate a rise in others.
What Happened When China Allowed RMB Appreciation in 2005-2007 and Why
Did the Trade Deficit Not Decline Then?
First, the appreciation was quite small in nominal terms being only
about 20 percent over 2 to 3 years. Since China' productivity was
growing very rapidly and at a greater rate than the currency
appreciation during that period, in real terms, the RMB was actually
depreciating. So a much greater appreciation over a shorter period of
time would have been necessary to have significant impact on trade
deficits and surpluses.
Second, many other things were occurring at this time in addition
to the change in currency values. The U.S. economy was in the midst of
its real estate bubble and China's exports were being subsidized in a
number of ways in addition to currency undervaluation. So these factors
acted to compensate for the effect of the currency revaluation.
What Is the Appropriate Appreciation for the RMB at This Point?
The question is appropriate for whom. For China, a slow gradual
appreciation of 4-5 percent a year is advantageous. For the United
States a revaluation of 15 percent annually over 2 to 3 years would be
helpful.
What Are the Options?
A negotiated deal between the G-20 countries for a wide reaching
set of currency adjustments would be the most preferable solution.
Indeed, ultimately, it is the necessary solution. Ideally, such a
solution would not only adjust currencies but would also begin a
process of creating a new global financial framework in which the role
of the dollar would be reduced and that of other currencies increased
and in which eventually there would evolve one global currency. To
drive toward this goal, it might be necessary for the United States to
invoke the clauses of the WTO and to take necessary measures to offset
the damage being done to its economy.
To more thoroughly address the question of whether or not China is
manipulating its currency, the answer is, of course, that it is doing
so by intervening constantly in currency markets to maintain the
nominal value of the Renminbi (RMB) at a fixed rate to the dollar. Such
action does not make China unique. A number of other countries (Saudi
Arabia for example) also peg their currencies to the dollar and also
intervene from time to time in currency markets to maintain those pegs,
and their actions do not attract much attention.
What makes the China case such an important issue is the same
factor that made Japan's currency policies so contentious in the 1980s.
The currency manipulation is only one aspect of an economic development
strategy that emphasizes export led growth. Countries that pursue this
strategy attempt to achieve the economies of scale beyond those arising
from supplying their domestic markets by expanding production capacity
to supply foreign markets as well. The strategy typically entails
strong incentives and even compulsory measures to assure high savings
rates, high rates of investment in so-called ``strategic, export
industries'' (typically steel, machinery, electronics, aerospace,
chemicals, textiles, and autos), a variety of subsidies for exports,
currencies that are kept undervalued in order to provide an indirect
subsidy to exports, and various constraints on imports and foreign
participation in domestic markets. The objective of these strategies is
not only to achieve strong exports, but also to realize continuous
current account surpluses and to accumulate large dollar reserve
holdings. These policies typically result in huge global imbalances and
are essentially ``beggar thy neighbor'' in their impact on other
countries. It is important to understand that it is this latter element
that leads to discontent, international friction, and demands for a
response. Commentators often discuss the trade deficits and attribute
trade frictions to the size and chronic nature of such trade deficits.
But the truth is that we have trade deficits with countries (like the
oil producers) with whom we have no trade frictions. It is not the
deficits, per se, that are the problem. Rather it is market distortions
and predatory displacement of industries that arise in strategic trade
situations that give rise to dissatisfaction and complaints. And this
would be true even if we had trade surpluses with China and other
strategic trading countries. The issue is not imbalances. Rather, it is
strategic trade or what some might call mercantilism.
A large majority of analysts and commentators agree that China has
long been pursuing strategic trade and globalization policies and that
part of this has been and is an effort to keep the RMB undervalued as a
subsidy to exports. It is further agreed that this currency
undervaluation has proved economically beneficial to China's export
industries while also proving harmful to the economies of a number of
other countries including that of the United States. Our trade balance,
our international debt, the continuing erosion or our industrial
output--these are all important economic issues that can be in some way
at least partially linked to China's currency manipulation and its
broader strategic export and development strategies. Interestingly, the
Japanese example indicates that these policies are eventually likely to
be harmful to China as well. . China is still a developing country, and
needs to cultivate domestic demand and promote sustainable growth. The
continued policy of an artificially devalued yuan is not in China's
best interests. Greater exchange rate flexibility will help reinforce a
shift in the composition of growth, and allow them to weather
fluctuations in global supply and demand.
The problem, however, is far bigger than China's currency, and
let's be clear that China is not the only one in this game. Many of the
East Asian countries are managing their currencies to facilitate their
export competitiveness into the U.S. market. But currency is just the
tip of the iceberg. We've all been engaging in a huge charade. We in
the United States have been acting on the basis of the presumption that
in a world of globalization, with a majority of countries being IMF and
WTO members, that all countries are playing the same globalization
game. And that it is a game of win-win free trade. This has never been
true and is increasingly less true. In fact, the world is divided--some
important countries (the U.S., the U.K., a few others) are more or less
free traders, but many other countries are neo-mercantilists pursuing
export-led growth strategies guided by elaborate industrial policies.
We've seen this movie before. We've seen Japan pioneer the export-led
growth strategy, followed by the Asian Tigers, and now we're seeing the
last tiger, or perhaps the first dragon, perfecting the model. A model,
it should be noted, that is not unique to Asia. Indeed, we see Germany
pursuing accumulation of chronic trade current account surpluses and
insisting that it can never buy more of the products of its partners in
the EU.
That this is being discussed now is due in large part to the
semiannual Treasury report due this April 15th on the exchange rate
policies of foreign countries. What complicates the issue is the fact
that the report necessitates a presidential action fraught with
considerations far beyond the narrow sphere of currency devaluation.
Moreover, the report is structured such that it puts the United States
in an accusatory position, labeling China as being unfair. Not
surprisingly, the possibility of such an accusation by the United
States leads Chinese leaders not to want to appear to be submitting to
U.S. pressure, even if the U.S. position is on the issue is correct.
On the other hand, a large majority of economists and informed
observers agree that China is manipulating its currency, intervening in
currency markets, accumulating huge reserve surpluses, and harmfully
distorting markets, including its own. If the President doesn't declare
China to be doing what everyone knows it is doing, he will lose face
and appear weak. It will look like he is being dishonest, and kowtowing
to China. When we consider some scenarios that may emerge, the picture
does not improve. For instance, there has been much talk of late that
China will soon allow some small degree of revaluation. While that may
appear to be a mutually beneficial outcome that would save faces all
around, the truth is that a nominal revaluation is not a solution to
the problem. Only a major revaluation over a relatively short period
can have the necessary impact. If China were to make a token move--say,
three or four percent--that is not a gesture we should view as
significant. Though small enough to prevent the Chinese leadership from
losing face at home, yet appear to us as though they are capitulating
to our concerns, such a minor change will have no significant impact.
It is not enough for the Chinese to make token gestures in order to
appease us diplomatically--real change must be accomplished. We cannot
fall into the trap of being satisfied with occasional nominal
adjustments.
Rather than making this a bilateral issue, it is clearly preferable
that some multilaterally negotiated arrangement be achieved, perhaps in
the G-20 or in the WTO or even in the IMF. Another option is
negotiating with China in a multilateral context, such as the G-20 or
the WTO. But if that can't be achieved in some reasonable period of
time, countries, including the United States, will be obliged to defend
their interests in whatever way they deem appropriate, unilaterally or
as a coalition of concerned countries. A difficulty is that the global
institutions and many of their key underlying concepts such as most
favored nation and national treatment are not cognizant of the present
structural realities and not adequate to deal with the problems of a
world that is half neo-mercantilist/strategic trade and half free
trade. How laughable is it that countries put enormous effort into the
WTO to lower tariffs while ignoring exchange rates which can easily
move by a magnitude greater than the value of the tariffs the WTO
system has reduced, or that the IMF can discuss currency values and
exchange rates without reference to trade and investment? Yet they do.
We should recognize and use this opportunity to begin establishing 21st
century institutions for the 21st century. The first step is to
recognize the realities.
While the WTO has instituted rules about national treatment and
most-favored nation status, application varies by country. Although we
have created a trade regime that works in theory, we need to be
addressing not just trade but the issues that are inextricably linked
to it, including exchange rates. What we need is not the trade regime
we've developed, but a globalization regime. Can we really have deep
economic integration between authoritarian, strategically guided
economies and democratic/laissez faire economies? This is one example
of the dichotomy between mythology and reality. While China's currency
is part of the bigger problem and must be honestly dealt with, by
itself it won't solve the problems we face unless we deal with the
other aspects of the issue as well. Investment incentives (capital
grants, tax holidays), antitrust policies or lack thereof, industrial
targeting policies, structures of distribution and so forth. We have a
WTO, but what we really need is a world globalization organization.
Negotiations similar to those of the Plaza Agreement of 1985 should
be launched immediately to coordinate a substantial (40 to 50 percent)
revaluation of a number of managed Asian currencies versus the dollar
and the euro over the next 2 to 3 years. This would also have to entail
an agreement to halt strategic currency management activities. A second
longer term objective of the deal would be a reversal of savings and
consumption patterns in the United States and Asia. Once the current
recession is behind us, Washington would promise to balance the Federal
budget over the business cycle and to reform poorly targeted
consumption incentives like the tax deductibility of interest on home
equity loans, while key Asian and oil producing countries and Germany
would undertake to increase domestic consumption. China could upgrade
its social safety net, and a true liberalization of Japan's housing and
consumer credit markets might do wonders. The oil countries also need
to improve social safety nets and greatly upgrade their infrastructure.
After this initial deal, the IMF or a new body representing the
major currencies (dollar, euro, yen, and yuan) must continue to
coordinate policy and manage appropriate currency adjustment. Its
mission must be to push the global system toward balance. To this end
it should effect a transition to a more stable global currency system.
One possible option would be a basket of currencies. Indeed, the IMF's
Special Drawing Rights (SDRs) already represent a currency basket and
an exchange of dollars for SDRs (China has actually suggested something
like this recently) might be used as a device to get away from
excessive reliance on the dollar. Regardless of how it is done, the end
result must be a system that makes neomercantilist currency management
and U.S. abuse of the privilege of printing the dominant currency
impossible.
If starting such discussions proves difficult, the United States in
concert with other affected countries could initiate unfair trade
actions under their domestic laws and also under the antisubsidy and
nullification and impairment provisions of the WTO. It could also
formally call for official consultations by the IMF with certain of its
members regarding their currency management practices. This, of course,
would be strong medicine, but it would surely stimulate discussion, and
it is all perfectly legal and in keeping with both the rules and spirit
of open, rules based trade.
Over the longer term, the currently prevailing half-free trade,
half-mercantilist system of globalization must be replaced by the
establishment of a one economy-one system regime. To do this the WTO
will have to be completely revamped with new standards, rules, and
authority. Most Favored Nation and National Treatment standards are no
longer sufficient. There must be just one kind of WTO Treatment in all
economies. Global rules must be created to break up and regulate
cartels. Distribution and marketing channels must be equivalently open
in all markets not only de jure but de facto. It must be possible to
appeal on such issues not just to national courts but to objective
international dispute settlement bodies. Sovereign investment funds and
state controlled enterprises must be subject to international scrutiny
and to transparency and rules that assure they are operating completely
outside the political realm. Likewise, tax holidays, capital grants,
and other financial incentives used to bribe global corporations with
regard to location of plants, labs, and headquarters must be subject to
common WTO and IMF discipline. Nor should the WTO and other
international bodies wait for complaints to address these issues.
Rather, they should maintain continuous monitoring of real market
developments and apply discipline wherever and whenever necessary.
Again, it may be difficult to obtain agreement on negotiating such
rules. Therefore, the United States and other interested countries
should not hesitate to file WTO and IMF complaints and take the actions
allowed by international law against measures and policies that distort
globalization. Financial investment incentives targeted to particular
industries and companies can be attacked under the antisubsidy rules
while toleration of cartels and favored positions for state related
enterprises can be attacked under the nullification and impairment
rules. Again, the U.S. authorities should not wait for complaints.
Because of their greater sensitivity to authoritarian regimes than to
democracies, global corporations will hesitate to bring complaints for
fear of retaliation from authoritarian neo-mercantilist regimes.
Therefore, U.S. and other affected officials should monitor conditions
proactively and self-initiate appropriate actions. Again, these are
sure to stimulate negotiations.
Of course, if negotiations are not possible, then we will be forced
to defend our own interests as best we can unilaterally.
Attachment 1
TIME TO COOL CHINA, U.S. TEMPERS
Business Times, Saturday, March 20, 2010
A failure may result in another economic recession, and perhaps even a
new cold war, from which no side would be able to decouple.
By Leon Hadar, Washington Correspondent
Members of a bipartisan coalition of U.S. lawmakers are accusing
the Chinese of a plot to manipulate the value of its currency in order
to boost its exports and make American imports harder to sell in China.
And the lawmakers have introduced legislation that would force the
U.S. Treasury to impose stiff penalties against China and other
countries that are engaged in such unfair currency manipulation.
In the House of Representatives 130 members of the House of
Representatives signed a letter protesting China's manipulation of its
currency while in the Senate, a group of 14 Democrats and Republicans
are pressing the Obama administration to act against the Chinese.
The senators, led by liberal Democrat Charles Schumer from New York
and conservative Republican Lindsey Graham from South Carolina, are
arguing that past U.S. administrations, worried about the rising
economic power of China, had refrained from identifying Beijing as a
`currency manipulator' which would then have required Washington to
impose duties on Chinese imports. But with unemployment rate remaining
high and as the U.S. trade deficit with China--its second largest
trading partner--keeps growing, American lawmakers are responding to
public anger by blaming China for using its currency to gain a trade
advantage.
The senators want to ensure that the U.S. Treasury's semi-annual
report on foreign exchange rate practices that is scheduled to be
released next month will, indeed, label China as a `currency
manipulator' and force the Administration to come up with `remedial'
legislation that would supposedly compel China to revalue its currency.
Their Bill--`Currency Exchange Rate Oversight Act'--was introduced
following a war of words between the U.S. and China in recent days over
the allegedly misaligned Chinese currency, the yuan, as well as other
policy issues, including the meeting between President Barack Obama and
the Dalai Lama at the White House, the U.S. decision to sell arms to
Taiwan as well as complaints from American companies about Chinese
trade practices and Sino-American disagreements over climate change.
And while the American economy has just started recovering from a
painful recession and is showing some growth, the World Bank this week
has upped its forecast for China's 2010 GDP growth to 9.5 percent after
it grew at 8.7 percent last year.
American lawmakers say that some of this impressive export driven
economic growth has been achieved in part through Chinese currency
manipulation.
The Chinese policies amount to `cheating', according to Democratic
Senator Debbie Stabenow which represents Michigan, a State whose
manufacturing sector, including a struggling car industry, has been
devastated by the Great Recession and where the official unemployment
rate is around 15 percent (and among African-Americans, close to 50
percent).
She and her colleagues are complaining that the Chinese government
is essentially subsidising its exports by keeping its currency value
low and want Washington to stop talking and to finally walk the walk.
The Obama administration needs to pull `the trigger on (currency)
manipulation,' explains Mr. Graham, whose own State of South Carolina
has been experiencing an unemployment rate of more than 13 percent.
He told reporters that ``we're all living in fear of what China
might do'' since ``we borrow way too much money from them,'' adding
that ``we need to break that fear and do what's right.''
China has approximately U.S.$2.4 trillion of accumulated foreign
reserves which explains why many economists believe that the yuan is
undervalued as a result of a calculated policy pursued by China's
financial authorities. They buy U.S. dollars and sell their own yuan, a
policy that helps to keep the greenback's exchange rate fixed to their
own currency. The result is a distortion of trade flows--cheap Chinese
exports to the U.S. continue while imports from the U.S. into China
remain expensive.
But since the Chinese do not allow their currency to float freely,
the same economists also disagree over the degree to which the Chinese
undervalue their currency. Economists also differ in estimating the
extent to which the appreciation of the Chinese currency will lead to
the narrowing of the U.S. trade deficit with China. After all, reducing
that deficit seems to be the main rationale for the proposed
legislation on Capitol Hill.
In fact, according to the Cato Institute's trade analyst Dan
Ikenson, from 2005 to 2008, at a time when the yuan was appreciating
against the U.S. dollar, the U.S. trade deficit with China actually
increased from U.S.$202 billion to U.S.$268 billion. Thus, the think
tank's analyst suggests, the level of the U.S. deficit is determined by
many factors other than just the value of the Chinese currency.
For example, Mr. Ikenson points out that the yuan was growing
stronger between 2005 and 2008, U.S. imports from China increased by
U.S.$94.3 billion, or 38.7 per cent. He suggests that one reason for
continued U.S. consumption of Chinese goods despite the relative price
increase may have been the shortage of or even the lack of substitutes
for Chinese-made goods in the U.S. market.
Moreover, only somewhere one-third and one-half of the value of
U.S. imports from China is actually Chinese value-added, with the other
half to two-thirds reflecting costs of material, labour and inputs from
other countries.
Hence, a stronger yuan actually makes imported inputs cheaper for
Chinese producers, who may respond by reducing their prices for export,
which means that the currency appreciation may lead to a rise--not a
reduction--of American imports from China.
Unfortunately, much of this economic common sense is probably not
going to counter the political pressure from Congress on the
Administration to `do something' that is fuelled, in turn, by America's
economic distress and the ensuing populism that makes China such an
easy target.
A key Chinese official responded to this pressure from Congress by
saying that his government has become a convenient scapegoat for
America's trade problems. But this official needs to recognise that
that kind of behaviour is a mirror image of sort of the way that some
members of the Chinese communist establishment have been exploiting
anti-American nationalist sentiment as part of a strategy to mobilise
public support for the regime in Beijing.
In a way, scapegoating the `other' seemed to have become the
favourite political weapon by both Americans and the Chinese.
The problem is that the back and forth sniping between Washington
and Beijing over China's currency policy is more than just a `normal'
economic dispute between two countries that has been exploited by
politicians on both sides.
Indeed, the global financial imbalances between the U.S.
(consumption that created deficits) and China (savings that produce
surpluses) helped create the conditions for the financial melt-down.
And unless the two sides take steps to deal with these imbalances,
the global financial system could experience more disasters in the
future.
From that perspective, China's massive trade and foreign exchange
surpluses--reflecting the huge surpluses of exports over imports and
saving over investment--should be seen not so much as a challenge to
American economic interests but as a threat to the entire global
economy, and eventually to China itself.
The Americans need to cut their consumption and borrowing. But that
could only take place if the U.S. dollars in China's government-
controlled banks are being spent to buy American products as opposed to
its debts. And if and when that happens, the appreciation of the
Chinese currency would be inevitable.
In the meantime, a Chinese refusal to revalue its currency is bound
to bring about retaliatory action by Washington and ignite a
destructive economic war between the two nations.
And the situation is only going to be aggravated if China continues
to respond in a somewhat frantic way to not-very-unusual actions by the
Obama administration (meetings with the Dalai Lama or arms sales to
Taiwan).
If anything, China's rising economic and diplomatic power require
it to embrace a more nuanced, if not refined, diplomacy that one
expects from a great power, especially when it is dealing with the more
accommodating Administration in Washington.
More important, there is no reason why China and the U.S. should
not be able to settle their differences over currency in the same
amicable way that the U.S. and Japan were able to during the 1980s.
A failure to do that would be a recipe for another economic
recession and perhaps even a new cold war from which no side would be
able to decouple.
Copyright 2010 Singapore Press Holdings Ltd. All rights reserved.
______
PREPARED STATEMENT OF NICHOLAS LARDY
Anthony Solomon Senior Fellow, Peterson Institute for International
Economics
April 22, 2010
China and the United States each contributed massively to the large
global economic imbalances that emerged in the middle of the last
decade. China was far and away the largest global surplus country by
the middle of the decade. Its current account surplus reached an
astonishing 11.0 percent of GOP in 2007 and for the 4 years from 2005
through 2008 China accounted for about a fifth of the total global
surplus. China's emergence as a large surplus country reflects the rise
of domestic savings relative to investment over this period.
The United States was far and away the world's largest deficit
country in recent years, hitting a peak of 6 percent of GOP in 2006.
For the same 4-year period the United States accounted for almost 60
percent of the total global deficit. These very large U.S. deficits
reflected our low national savings relative to our national investment.
The imbalances in both countries contributed to the global
financial crisis, though lax financial regulation in the United States
was undoubtedly a more important underlying cause.
But this situation has changed significantly over the past 2 to 3
years. The external imbalances of both the United States and China have
declined dramatically. From its 2007 peak China's current account fell
by almost half to 6.1 percent of GOP in 2009 and in the first quarter
of this year was running at an annual rate of only 1 percent of GDP.
Similarly, the pace of official intervention, which prevents the value
of the renminbi from appreciating, fell by three-fifths in the first
quarter of this year compared to last year. The U.S. current account
imbalance also has fallen sharply; the deficit fell to only 2.9 percent
of GOP last year, about half the level of 2006.
Given these developments it may appear that the renewed focus by
the U.S. Congress on China's currency and its external imbalance is
misplaced. In China the Ministry of Commerce now argues that the
collapse of China's trade surplus shows that its currency is no longer
undervalued and thus appreciation is not warranted. However, I believe
that this conclusion is not well founded since the decline in China's
external surplus in large part was caused by three factors that are
likely to be transitory or already have been reversed.
First, China was the first globally significant economy to begin to
recover from the global recession. China's growth bottomed out in the
fourth quarter of 2008 and then accelerated very strongly starting in
the first quarter of 2009. Thus China's recovery predates that of the
United States, its largest trading partner, by half a year and predates
European recovery by an even longer period. China's early growth
resurgence compared to the rest of the world boosted its imports
relative to its exports, cutting the external surplus. But this factor
will wane if the U.S. recovery gains traction and Europe begins to
recover.
Second, China's terms of trade have deteriorated dramatically over
the past year, reflecting a sharp rise in commodity prices. Since China
is the world's largest importer of a number of key commodities, sharply
rising prices for these goods have added substantially to China's
import bill, thus reducing its external surplus. This is unlikely to
continue to be such a major factor going forward.
Third, the renminbi appreciated 15-20 percent in real effective
terms from late 2007 through the first quarter of 2009. This was a
major factor contributing to the sharp reduction in China's surplus in
2008 and 2009. But since the first quarter of 2009 the renminbi has
depreciated in real effective terms by about 5 percent. This factor is
likely to contribute to a rise in China's surplus, probably beginning
in the second half of 2010.
Thus I disagree with those who argue that China's currency is no
longer undervalued. It seems more likely that China's external surplus
will turn upward and that China's contribution to global economic
imbalances should continue to be a focus of U.S. policy.
However, the extraordinarily sharp and unexpected reduction in
China's current account surplus over the past year surely suggests that
there is substantial uncertainty surrounding most estimates of the
degree of renminbi undervaluation. Moreover, we should recognize that
the virtual disappearance of China's trade surplus, even if only
temporary, means that within China it will be politically difficult for
the government to quickly resume a policy of appreciation vis-a-vis the
U.S. dollar. It also means that if this policy is adopted we are likely
to see a slow pace of appreciation, at least until the global recovery
strengthens and China's external surplus widens significantly.
Furthermore, even if the degree of undervaluation of the RMB is
very large, a rapid appreciation of the renminbi is not optimal from
the Chinese perspective and probably not from the U.S. perspective
either. With about fifty million people employed in China's export-
oriented manufacturing, the Chinese government will eschew rapid
appreciation since that would result in a sharp fall in the output of
these industries and eliminate many of these jobs. Their optimal
strategy will be a gradual appreciation that would eliminate the growth
of China's trade surplus and thus tend to stabilize the output and
employment of these industries. In 2008, when my colleague Morris
Goldstein and I believed the renminbi was very substantially
undervalued, we argued the optimal time frame for eliminating currency
undervaluation would be 4 to 6 years. \1\ Our colleague, Michael Mussa,
points out that a very rapid elimination of China's currency
undervaluation would not be desirable from the perspective of the
United States since it would likely ``disrupt China's economic growth
in ways and to an extent that could not plausibly be offset by other
policy adjustments.'' \2\ A rapid deceleration in the growth of the
world's second largest economy is not likely to enhance global economic
recovery, nor would it likely contribute to the recovery of employment
in the United States. Indeed, the opposite is more likely.
---------------------------------------------------------------------------
\1\ Morris Goldstein and Nicholas R Lardy, ``China's Exchange Rate
Policy: An Overview of Some Key Issues'', in Morris Goldstein and
Nicholas R. Lardy, editors, Debating China's Exchange Rate Policy
(Peterson Institute for International Economics, 2008), pp. 54-55.
\2\ Michael Mussa, ``Global Economic Prospects for 2010 and 2011:
Global Recovery Continues'', April 8, 2010. Available at http://
www.petersoninstitute.org.
---------------------------------------------------------------------------
Ultimately reducing imbalances, whether in the United States or
China, requires structural reforms that reduce the gap between national
rates of savings and investment. The exchange rate is an important
factor that can contribute to this process. But without supporting
reform policies in both countries, the results of exchange rate
adjustment alone are likely to be disappointing.
In China, some progress has been made over the last couple of years
to advance this broader rebalancing agenda. This progress is spelled
out in greater detail in the attached Policy Brief, which was
distributed by the Peterson Institute in March. The government has
taken steps to reduce some of the factor market distortions that have
artificially subsidized the production of export goods and goods that
compete with imports and at the same time have inhibited the output of
services, which are largely consumed at home. In 2009 the government
raised the prices of some important inputs, notably fuels, which are
predominantly consumed in the industrial sector. This reduced the bias
of investment toward manufacturing, contributing to a larger increase
in investment in services than in industry in 2009. This is a reversal
from the pattern that had dominated Chinese investment for many years.
Similarly the government continued to accelerate its build out of the
social safety net by massively increasing expenditures on health,
education, and pensions. This should contribute to a reduction in
households' precautionary demand for savings and thus a reduction in
China's large savings surplus. Finally, bank lending to consumers grew
dramatically last year, facilitating a remarkable increase in household
consumption expenditures.
In addition to allowing its currency to appreciate, the Chinese
government should adopt a number of other policy reforms to insure a
sustained reduction in its global current account surplus and a
successful transition to more consumption-driven growth. Low interest
rates on bank loans continue to favor manufacturing (tradable goods)
over services and thus contribute to China's external surplus. To
address this problem China's central bank should end its policy of
imposing a broad range of deposit and lending rates in favor of
allowing supply and demand in the market to determine interest rates.
Further price reforms would also contribute to sustaining the reduction
in China's global current account surplus. For example, while the
government last year raised the prices of gasoline and diesel fuel,
electric power remains underpriced, continuing to provide an advantage
to China's exports. And, after years of discussion, the government
should introduce realistic environmental taxes and fees, which would
help to level the playing field between industrial growth and exports
versus services and consumption.
PREPARED STATEMENT OF CHARLES H. BLUM
Executive Director, Fair Currency Coalition
April 22, 2010
On behalf of the members of the Fair Currency Coalition (FCC), \1\
I thank the Subcommittee for this opportunity to testify on what action
the United States can and should take to remedy the persistent problem
of currency undervaluation by China and other countries. The FCC and
its antecedents have worked on this problem continuously for 7 years.
In 2003-4, we developed a well researched and argued petition filed
under Section 301 of the Trade Act of 1974 that was summarily rejected
by the last Administration.
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\1\ See, Attachment 1 for the FCC's list of members.
---------------------------------------------------------------------------
Only then did we turn to a legislative solution, developing and
refining the legislation currently known as the Currency Reform for
Fair Trade Act, introduced by Senators Stabenow and Bunning in the
Senate (S. 1027) and by Reps. Tim Ryan and Tim Murphy in the House
(H.R. 2378). \2\ We will continue to work on this problem until it has
been resolved on an effective and lasting basis.
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\2\ As of April 20, 2010, S. 1027 has eight cosponsors, and H.R.
2378 has 102 cosponsors.
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A Remedy Delayed Is a Remedy Denied
Currency misalignment is not a new problem, nor is it limited to
the Chinese renminbi (RMB). On the contrary, it is a perennial problem
for reasons that we will address in this testimony and one that
continues to grow in severity.
Consider the data contained in Attachment 2. They show that over
the 10 years since China's accession to the World Trade Organization
(WTO), the U.S. trade deficit with China has mushroomed, as have
China's global trade surplus and its stockpile of official foreign
exchange reserves. At the same time, U.S. manufacturing employment has
plummeted by one-third.
We do not suggest that the undervalued RMB is the sole cause of the
loss of American manufacturing jobs, though the two clearly are
related. Our point is simply that the long delay in our response to
this persistent problem has allowed it to grow to the detriment of
American workers and industries. Moreover, what would have been a more
easily managed problem--had we acted on the Section 301 complaint in
2004, the first version of our legislation in 2005, the improved
version in 2007, or even the latest version introduced last year--has
become an enormous problem.
A remedy delayed is a remedy denied. The longer it is denied, the
greater the injustice. History suggests that the currency problem will
become even larger and harder to manage in the future unless we act
now.
Let's look at the options for near-term solutions.
Multilateral Rules Provide No Solution to Currency Misalignment
For understandable reasons, many would prefer to find a solution in
the multilateral rules and institutions that are supposed to provide a
framework for settling monetary disputes among nations. Indeed,
repeated attempts have been made to address the problem through these
channels. By now it should be clear that existing multilateral rules
and institutions are woefully inadequate to deal with the problem of
currency misalignment per se. The problem lies not in the degree of
effort by our government but rather in the weakness and imprecision of
the rules themselves and the excessive length of multilateral dispute
resolution processes.
Consider the following the sorry performance of the International
Monetary Fund:
International Monetary Fund Article IV--the most relevant
international law on exchange rate practices--obligates members
to ``avoid manipulating exchange rates or the international
monetary system in order to prevent effective balance of
payments adjustment or to gain an unfair competitive advantage
over other members.'' \3\ The overriding aim of Article IV is
``sound economic growth'' and the correction of imbalances that
threaten it.
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\3\ IMF, Article IV, Section (1).
As part of its exchange rate surveillance mandate, the IMF
holds annual consultations with each of its members under
Article IV. Repeatedly, the IMF has in careful, diplomatic
language suggested that China should revalue the renminbi. Such
moral suasion is the only tool the IMF has, and it has never
been enough to persuade China to end its mercantilist currency
policy. Indeed, China has taken the extraordinary step of
blocking the release of the IMF's reports for 2007, 2008 and
---------------------------------------------------------------------------
2009, presumably because it does not like the conclusions.
The weakness of its rules and the lack of any credible
enforcement power makes the IMF useless for all practical
purposes in addressing the problem of currency misalignment.
Consider next the problem of addressing currency misalignment
through the rules of the World Trade Organization:
Article XV provides that WTO members ``shall not, by
exchange action, frustrate the intent of the provisions of this
Agreement nor, by trade action, the intent of the provisions of
the Articles of Agreement of the International Monetary Fund.''
\4\
---------------------------------------------------------------------------
\4\ General Agreement on Tariffs and Trade, Article XV, Section 4.
Such broad language might conceivably form the basis for
action under WTO rules. A legal argument clearly exists that
undervalued misalignment of a currency constitutes an export
subsidy, a practice prohibited on manufactured goods by GATT
Article VI. In addition, it can be argued that undervaluation
constitutes a de facto additional levy on imports, nullifying
and impairing the tariff bindings under GATT Article II.
Indeed, such allegations were among those made by the
Coalition's Section 301 complaint in 2004, and we continue to
---------------------------------------------------------------------------
believe that they have legal and economic merit.
While there is little question that an undervalued currency
has those deleterious effects on key elements of the basic
trade contract among WTO members, it is far less clear what
action the WTO might take in response to a complaint brought by
the United States or a group of countries.
Novel issues pose substantial problems for the WTO's ad hoc
dispute settlement panels and the standing Appellate Body.
Panelists are drawn from the trade policy establishment around
the world. Their knowledge and experience vary, of course, but
few of them have any grounding in monetary affairs. As a
consequence, it is difficult to anticipate how they would
analyze, much less resolve, disputes centering on IMF standards
and concepts.
Most importantly, the WTO arguably lacks a clear mandate to
deal with these issues on its own. Instead, GATT Article XV,
paragraph 2 requires the WTO to ``consult fully with the
International Monetary Fund'' in cases dealing with ``monetary
reserves, balances of payments or foreign exchange
arrangements.'' Worse yet, the WTO is obligated by that same
paragraph of Article XV to ``accept the determination of the
Fund as to whether action by a contracting party in exchange
matters is in accordance with the Articles of Agreement of the
International Monetary Fund.''
Thus, the WTO must rely on the impotent IMF to decide the
issue, that same IMF that can't even find a way to convince the
Chinese to agree to the release of three annual consultation
reports that have no legal or practical consequences.
In addition, the filing of a case by the U.S. government
under the WTO has other potential pitfalls. First, as the
plaintiff in the case, the burden of proof would be on the
United States to prove that action on currency manipulation
falls within the ambit of WTO rules. Thus, the United States
would be forced to meet a higher evidentiary threshold than the
defending country, likely China. Second, the adjudication and
remedy implementation process of WTO appellate panels is
painfully slow. Not only is the outcome difficult to predict,
it will take years to render and implement any decision--time
American producers facing subsidized import competition do not
have.
This brief analysis helps explain why chances of any timely
solution arising from the existing rules on currency manipulation or
misalignment are for all practical purposes zero.
Multilateral Rules Cannot Be Upgraded in the Foreseeable Future
Others have proposed that the solution lies in updating the
existing multilateral rules to render them relevant to the realities of
this century rather than the last. The most direct approach is that
proposed by Arvind Subramanian of the Peterson Institute for
International Economics and Aaditya Mattoo of the World Bank. They
suggest that WTO rules be amended so as to prohibit currency
undervaluation. They choose the WTO over the IMF because undervaluation
has clear trade effects and because the IMF has no enforcement powers,
especially when it comes to large creditor nations--just the ones who
might benefit most from an undervalued currency.
Theoretically, this concept seems direct and sensible. As a
practical matter, however, there is little chance whatsoever that the
WTO could be amended this way and no chance at all that it could be
done expeditiously.
For the foreseeable future, we are stuck with the multilateral
rules as they are in dealing with this urgent and still growing
problem.
Trade Remedies Are the Only Effective Tool for Addressing Currency
Misalignment
Thus, by a process of elimination, we come to national trade laws
as the only basis for effective legal action to counter currency
misalignment. The FCC has long believed that the most effective,
readily available tool is the countervailing duty law, the means
authorized by WTO rules for any member to neutralize injurious
subsidies.
Under U.S. law and the WTO rules, there are three requirements for
a determination of subsidy: (1) a financial contribution by or at the
direction of the foreign government that (2) confers a benefit upon the
recipient and that (3) is not generally available. In the case of
undervalued currencies, the government-established rate--price fixing
on a broad scale--forces banks to pay to the seller of an
internationally traded good or service extra units of the home currency
compared to the fair market value of the currency. The extra units of
currency constitute the benefit. That benefit creates an incentive to
export. Currency undervaluation thus seems to be a classic example of
an export subsidy. Under GATT rules, export subsidies have been
prohibited since the 1940s because they are inherently distortive of
trade flows. Implementing the multilateral rules through the U.S.
countervailing duty law thus seems to be a reasonable reliance on
established international law.
In our opinion, the Department of Commerce already has the
authority to investigate currency subsidies. \5\ Determining it to be
an export subsidy would seem to comport well with established Commerce
practice and U.S. law. Until now, the Department has not agreed,
although its position seems to have shifted at least once. That
suggests that the Department would benefit from passage of legislation
that clarified the status of currency subsidies under the
countervailing duty law by distinguishing actionable from nonactionable
forms. The Department would also benefit from clarity regarding the
method of calculating the subsidy, the source of data to be used in
that calculation, and other procedural matters.
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\5\ This opinion is shared by the 130 members of the House of
Representatives who signed a letter to Commerce Secretary Gary Locke
and Treasury Secretary Timothy Geithner dated March 15, 2010. Fifteen
members of the Senate wrote to Secretary Locke on February 26, 2010,
arguing that Commerce had sufficient authority under existing law to
initiate a full investigation of alleged currency subsidies. Both
document are available at http://www.faircurrency.org.
---------------------------------------------------------------------------
The clear expression of Congressional intent would facilitate the
application of existing law to a new area of economic activity, reduce
the scope for controversy, strengthen the hand of the government in the
litigation that inevitably will follow, and provide helpful guidance to
trade practitioners--importers, exporters and foreign governments--
about the rules that will govern their trade.
Recently, another significant legislative proposal emerged in the
Senate, the Currency Exchange Rate Oversight Act of 2010 (S. 3134). The
chairman of this subcommittee and Senator Graham are among the 18
cosponsors. The bill seeks to update the Treasury Department's
oversight of foreign government currency practices. An important part
of the bill is the attempt to provide Treasury with credible
negotiating leverage by authorizing the use of trade law remedies in
response to currency undervaluation. The FCC welcomes this legislation.
We have concerns about some of the current provisions, especially as
they relate to countervailing duty remedies, and are working with the
chief cosponsors, Senators Schumer and Stabenow, to strengthen them as
much as possible. We do so in the firm belief that countervailing
duties are the best available remedy to currency undervaluation.
Responsible Use of Trade Remedies Is Not Protectionism But Supports
Free Trade
In closing, let me deal with the standard argument that any use of
our trade laws is inherently protectionist. No less a free trader than
Ronald Reagan explained his trade policy in a radio address to the
Nation in the summer of 1986. Coincidentally, he did so shortly after
the Plaza Accord led to a substantial realignment of major currencies.
Reagan made three points: first, trade must be reciprocal--``Free
and far trade with free and fair traders'' was his motto; second, trade
must be based on a respect for the rules; and third, trade policy must
produce results.
Reciprocity. Respect for rules. Results. Those are three
touchstones that should continue to guide U.S. trade and currency
policy.
As Martin Wolf wrote recently in the Financial Times, ``The U.S.
was right to give talking a chance. But talk must lead to action.''
Legislation is the right thing to do. It is the only thing we can do.
It is the one thing we must do. It's high time for the Congress to act
by passing S. 1027.
PREPARED STATEMENT OF DANIEL J. IKENSON
Associate Director, Center for Trade Policy Studies, Cato Institute
April 22, 2010
Chairman Brown, Ranking Member DeMint, and Members of the
Subcommittee, I am Daniel Ikenson, associate director of the Center for
Trade Policy Studies at the Cato Institute. I appreciate the invitation
to share my thoughts about the Chinese currency, its relationship to
the bilateral trade deficit, the impact on U.S. jobs, and what, if
anything, Congress should consider doing. The views I express are my
own and should not be construed as representing any official positions
of the Cato Institute.
Introduction
Many economists believe that the Renminbi is undervalued, but there
is disagreement about the magnitude. Disagreement is to be expected.
After all, nobody can know the true value of the RMB unless, and until,
it is allowed to float freely and restrictions on China's capital
account are removed. \1\ Short of that, economists produce estimates of
undervaluation--and those estimates vary widely. So that begs a
practical question: How will we know when we are there?
---------------------------------------------------------------------------
\1\ To float its currency and let markets determine the value,
China would have to remove restrictions on its capital account, so that
investment can flow in and out of the country freely. If China did
this, it is not entirely clear that the value of the RMB would
appreciate. It is possible that there would be more capital flight than
inflow, as domestic savings are able to pursue investment options
outside of China. This capital flight would have a depreciating effect
on the value of the RMB.
---------------------------------------------------------------------------
That question is important because Congress is once again
considering legislation to compel the Chinese government to allow RMB
appreciation under the threat of sanction. Regardless of whether
sanctions take the form of an across-the-board surcharge or are the
product of a countervailing duty investigation or are manifest in
exchange rate conversions in antidumping calculations, a precise
estimate of the market value of the Renminbi would have to serve as the
benchmark. But respected economists from reputable institutions have
produced a range of undervaluation of approximately 10 to 40 percent.
So what should be the benchmark?
Of course the sanctions approach is fraught with dangers. Not only
would it amount to a tax on U.S. producers and consumers--felt
particularly acutely by lower- and middle-income families--but it could
spark retaliation from China and run afoul of U.S. World Trade
Organization obligations at a time when the Obama administration is
planning to hold our trade partners more accountable to their own WTO
commitments, as part of its National Export Initiative.
Many in Washington blame the undervalued Renminbi for the trade
deficit with China, and blame the deficit for U.S. job losses. But
those relationships are weak. Before doing something unnecessary or
counterproductive, Congress should consider whether, and to what
extent, RMB appreciation would even lead to more balanced bilateral
trade. Recent evidence casts plenty of doubt.
Laser-like Focus on the Trade Deficit
For many in Washington, it seems the issue is not that the Chinese
currency is undervalued per se, but that the United States has a large
bilateral trade deficit with China, which is popularly attributed to
the undervalued RMB. \2\ Currency revaluation for many policymakers is
just a proxy for reducing the trade deficit to zero--or better still,
turning it into a surplus. There should be little doubt that many will
take the position that the RMB is undervalued as long as U.S. imports
from China exceed U.S. exports to China.
---------------------------------------------------------------------------
\2\ Of course, there are many other important determinants of the
trade account besides relative currency values.
---------------------------------------------------------------------------
Leaving aside the question of whether bilateral deficit reduction
should even be an explicit objective of policymaking in the first
place, there is reason to be skeptical that currency revaluation would
have the ``desired'' effect. It is assumed that Americans will reduce
their purchases of Chinese products and that the Chinese will increase
their purchases of American products if the value of the RMB increases
against the dollar. But whether those trends would work to reduce the
U.S. deficit with China depends on the extent to which consumers in
both countries are responsive to the relative price changes.
What matters for the trade account is how much Americans reduce
their purchases of Chinese goods and how much the Chinese increase
their purchases of U.S. goods. Import value equals price times
quantity, so if the percent increase in price (appreciation of the RMB)
exceeds the percent reduction in quantity of imports consumed (in
absolute value), then import value will increase. For example, if the
RMB appreciates by 25 percent and U.S. consumers reduce consumption of
Chinese imports by only 10 percent, then the value of U.S. imports from
China will be greater than before (adding to the trade deficit). The
same 25 percent increase in RMB value, however, should lead to an
unequivocal increase in U.S. exports to China because the dollar price
charged (the price used to measure U.S. exports) remains the same,
while the quantity sold to China increases because Chinese consumers,
by virtue of RMB appreciation, face lower relative prices, and demand
more goods. Thus, RMB appreciation should unambiguously increase U.S.
export value, reducing the trade deficit. But its effect on U.S. import
value is ambiguous.
Whether the aggregate change in U.S. import and export value
results in a lower trade deficit depends on the relative responsiveness
(price elasticity) of American and Chinese consumers to the price
changes they face. If U.S. consumers are responsive (they reduce the
quantity of their purchases by a percentage greater than the price
increase), then the trade deficit will decline, regardless of the
degree of Chinese responsiveness. If U.S. consumers are not responsive
(they reduce the quantity of their purchases by a smaller percentage
than the price increase), then import value will rise and Chinese
consumers would have to increase their purchases of American goods by a
large enough percentage to offset the increased U.S. import value, if
the U.S. trade deficit is to be reduced. \3\
---------------------------------------------------------------------------
\3\ There is also an ``income effect'' from the change in currency
values. When the dollar declines in value, U.S. consumers experience a
decline in real income, which affects their consumption choices. Even
though Chinese imports might be relatively more expensive than they
were before the currency rise, they may still be less expensive than
the alternatives. Accordingly, U.S. consumers with lower real incomes
might be inclined to purchase more Chinese imports.
---------------------------------------------------------------------------
Weak Link Between Currency Values and Trade Flows
Recent evidence suggests that RMB appreciation will not reduce the
U.S. trade deficit and undermines the common political argument for
compelling China to revalue. Between July 2005 and July 2008, the RMB
appreciated by 21 percent against the dollar--from a value of $.1208 to
$.1464. \4\ During that same period (between the full year 2005 and the
full year 2008), the U.S. trade deficit with China increased from $202
to $268 billion.
---------------------------------------------------------------------------
\4\ Federal Reserve Board, Federal Reserve Statistical Release
G5.A, Foreign Exchange Rates (Annual), release dates January 4, 2010
and January 2, 2009. Since July 2008, the value of the Yuan against the
dollar has not changed measurably.
---------------------------------------------------------------------------
U.S. exports to China increased by $28.4 billion, or 69.3 percent.
But how much of that increase had to do with RMB appreciation is very
much debatable. The nearby chart shows that U.S. exports to China were
already on an upward trajectory, increasing by $3 billion in 2001, $3
billion in 2002, $6.2 billion in 2003, and $6.1 billion in 2004, when
the exchange rate was consistently at 8.28 RMB per dollar. Natural
sales growth from the confluence of market penetration and cultivation
of Chinese demand was already evident.
In 2005--the first year in which there was a slight RMB
appreciation--the value of exports increased by $6.8 billion. Exports
jumped another $12.5 billion in 2006, a year in which the RMB
appreciated by 2.8 percent. But in 2007, despite an even stronger 4.7
percent RMB appreciation, the increase in exports was only $9.3
billion. And in 2008, the RMB appreciated by a substantial 9.5 percent,
but the increase in exports fell to $6.8 billion. If currency value
were a strong determinant, then export growth should have been much
more robust than it was in 2007 and, especially, in 2008. Other
factors, such as Chinese incomes and Chinese savings propensities, must
have mitigated the lower relative price effects.
On the import side, recent experience is even more troubling for
those who seek deficit reduction through currency revaluation. The
evidence that an appreciating RMB deters the U.S. consumption of
Chinese goods is not very compelling. During the period of a
strengthening RMB from 2005 to 2008, U.S. imports from China increased
by $94.3 billion, or 38.7 percent. Not only did Americans demonstrate
strong price inelasticity, but they actually increased their purchases
of Chinese imports. One reason for continued U.S. consumption of
Chinese goods despite the relative price increase is that there may be
a shortage of substitutes in the U.S. market for Chinese-made goods. In
some cases, there are no domestically produced alternatives. \5\
Accordingly, U.S. consumers are faced with the choice of purchasing
higher-priced items from China or foregoing consumption of the item
altogether.
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\5\ The dearth of substitutes is probably a function of retailers
not wanting to incur the costs of having to reconfigure their supply
chains. If the cost of reconfiguring and sourcing products from other
countries is similar to the cost of maintaining Chinese suppliers with
their exchange-induced higher prices, then retailers may be more likely
to stick with the status quo and pass on their higher costs to
consumers.
---------------------------------------------------------------------------
It is doubtful that members of Congress, who support action to
compel Chinese currency appreciation, would proudly announce to their
constituents that they intentionally reduced their real incomes. But
that is the effect of relative dollar depreciation.
Globalization Mutes the Effect of Currency Changes
Something else is evident about the relationship from those 2005 to
2008 data. The fact that a 21 percent increase in the value of the RMB
was met with a 38.7 percent increase in import value means that the
quantity of Chinese imports demanded after the price change increased
by nearly 15 percent. \6\ Higher prices being met with greater demand
would seem to defy the law of demand.
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\6\ Assume that the price of imports is $1 and the quantity
demanded is one unit. The import value is then $1. If a 15.2 percent
increase in price leads to a 38.7 percent increase in value, then
quantity must increase by 20.4 percent because: (1.152 x price) x
(1.204 x quantity) = 138.7.
---------------------------------------------------------------------------
Chinese exporters must have lowered their RMB-denominated prices to
keep their export prices steady. That would have been a completely
rational response, enabled by the fact that RMB appreciation reduces
the cost of production for Chinese exporters--particularly those who
rely on imported raw materials and components. According to a growing
body of research, somewhere between one-third and one-half of the value
of U.S. imports from China is actually Chinese value-added. \7\ The
other half to two-thirds reflects costs of material, labor, and
overhead from other countries. China's value-added operations still
tend to be low-value manufacturing and assembly operations, thus most
of the final value of Chinese exports was first imported into China.
---------------------------------------------------------------------------
\7\ Robert Koopman, Zhi Wang, and Shang-Jin Wei, ``How Much of
Chinese Exports Is Really Made in China? Assessing Foreign and Domestic
Value-Added in Gross Exports'', U.S. International Trade Commission,
Office of Economics, Working Paper no. 2008-03-B, March 2008.
---------------------------------------------------------------------------
RMB appreciation not only bolsters the buying power of Chinese
consumers, but it makes China-based producers and assemblers even more
competitive because the relative prices of their imported inputs fall,
reducing their costs of production. That reduction in cost can be
passed on to foreign consumers in the form of lower export prices,
which could mitigate entirely the effect desired by Congress, which is
to reduce U.S. imports from China. That process might very well explain
what happened between 2005 and 2008, and is probably a reasonable
indication of what to expect going forward.
A 2006 Cato paper on the topic of exchange rates and trade flows
found that despite considerable dollar depreciation between 2002 and
2005 against the Canadian dollar, the Euro, the Japanese yen, the
Korean won, and the Brazilian real, the U.S. trade deficit expanded
during that period with Canada, Europe, Japan, Korea, and Brazil. \8\
Factors other than currency movements, such as income and the
availability of substitutes, influence trade flows, particularly when
exporters are willing to absorb the costs of those currency changes.
---------------------------------------------------------------------------
\8\ Daniel J. Ikenson, ``Currency Controversy: Surplus of
Controversy, Deficit of Leadership'', Cato Free Trade Bulletin no. 21,
May 31, 2006.
---------------------------------------------------------------------------
In a recently published paper from the U.S. International Trade
Commission, economist Cathy L. Jabara observes a weak relationship
between exchange rates and U.S. import prices, particularly with
respect to imports from Asia. Exchange rate pass-through is quite low
because exporters often ``price to market'' to absorb costs and
maintain market share. She notes that the economic literature supports
her findings of low exchange rate pass-through, particularly for
consumer goods. Ironically, she also notes that economist Paul Krugman,
who is among the most outspoken advocates of U.S. intervention on the
currency issue, was one of the first to explore and describe the
potential for exchange-rate pass-through to mitigate the impacts on
trade flows. \9\
---------------------------------------------------------------------------
\9\ Cathy L. Jabara, ``How Do Exchange Rates Affect Import Prices?
Recent Economic Literature and Data Analysis'', U.S. International
Trade Commission, Office of Industries Working Paper no. ID-21
(revised), October 2009.
---------------------------------------------------------------------------
Economic Benefits
Although it may be fashionable to think of China as the country to
which the U.S. manufacturing sector was offshored in exchange for
tainted products and a mountain of mortgage debt, the fact is that the
bilateral relationship has produced enormous benefits for people in
both countries, including most Americans. China is America's third-
largest export market, and has been our fastest-growing market for a
decade, providing 20.2 percent annual sales growth for U.S. businesses
between 2000 and 2008, when overall annual export growth to all
countries stood at just 6.8 percent. \10\
---------------------------------------------------------------------------
\10\ U.S. Department of Commerce, Bureau of the Census, Foreign
Trade Statistics, http://www.census.gov/foreign-trade/balance/
c5700.html#2009. China was the fastest-growing market among America's
top 25 largest export markets between 2000 and 2008. In 2009, overall
U.S. exports declined 12.9 percent, but exports to China held steady,
declining by just 0.23 percent.
---------------------------------------------------------------------------
American businesses, portfolio investors, and 401(k) participants
also have benefited handsomely from China's high rate of sustained
economic growth. Likewise, American consumers have benefited from their
access to Chinese goods. Imports from China have helped keep prices in
check, raising real incomes and easing the strain on family budgets.
What is perhaps less well known--because they are often portrayed
as victims--is that large numbers of American producers and workers
benefit from the bilateral relationship, as well. This is the case
because the U.S. economy and the Chinese economy are highly
complementary. U.S. factories and workers are more likely to be
collaborating with Chinese factories and workers in production of the
same goods than they are to be competing directly. The proliferation of
vertical integration (whereby the production process is carved up and
each function performed where it is most efficient to perform that
function) and transnational supply chains has joined higher-value-added
U.S. manufacturing, design, and R&D activities with lower-value
manufacturing and assembly operations in China. The old factory floor
has broken through its walls and now spans oceans and borders.
Though the focus is typically on American workers who are displaced
by competition from China, legions of American workers and their
factories, offices, and laboratories would be idled without access to
complementary Chinese workers in Chinese factories. Without access to
lower-cost labor in places like Shenzhen, countless ideas hatched in
U.S. laboratories--which became viable commercial products that support
hundreds of thousands of jobs in engineering, design, marketing,
logistics, retailing, finance, accounting, and manufacturing--might
never have made it beyond conception because the costs of production
would have been deemed prohibitive for mass consumption. Just imagine
if all of the components in the Apple iPod had to be manufactured and
assembled in the United States. Instead of $150 per unit, the cost of
production might be multiple times that amount. \11\
---------------------------------------------------------------------------
\11\ Production of Apple iPod's is the quintessential example of
the benefits of transnational production and supply chains. The degree
of international collaboration embedded in the value of an iPod has
been described in a few other Cato publications, including: Daniel
Ikenson, ``Made on Earth: How Global Economic Integration Renders Trade
Policy Obsolete,'' Cato Trade Policy Analysis no. 42, December 2, 2009.
---------------------------------------------------------------------------
Consider how many fewer iPods Apple would have sold; how many fewer
jobs iPod production, distribution, and sales would have supported; how
much lower Apple's profits (and those of the entities in its supply
chains) would have been; how much lower Apple's research and
development expenditures would have been; how much smaller the markets
for music and video downloads, car accessories, jogging accessories,
and docking stations would be; how many fewer jobs those industries
would support; and the lower profits those industries would generate.
Now multiply that process by the hundreds of other similarly ubiquitous
devices and gadgets: computers, Blu-Ray devices, and every other
product that is designed in the United States and assembled in China
from components made in the United States and elsewhere.
The Atlantic's James Fallows characterizes the complementarity of
U.S. and Chinese production sharing as following the shape of a
``Smiley Curve'' plotted on a chart where the production process from
start to finish is measured along the horizontal axis and the value of
each stage of production is measured on the vertical axis. U.S. value-
added comes at the early stages--in branding, product conception,
engineering, and design. Chinese value-added operations occupy the
middle stages--some engineering, some manufacturing and assembly,
primarily. And more U.S. value-added occurs at the end stages in
logistics, retailing, and after-market servicing. \12\ Under this
typical production arrangement, collaboration, not competition, is what
links U.S. and Chinese workers.
---------------------------------------------------------------------------
\12\ James Fallows, ``China Makes, the World Takes'', Atlantic,
July/August 2007, http://www.theatlantic.com/doc/200707/shenzhen.
---------------------------------------------------------------------------
Economic Frictions
Despite the enormous benefits of the bilateral relationship,
Americans are more likely to be familiar with the sources of friction.
Americans have heard that underhanded Chinese policies have had a
deleterious impact on U.S. manufacturing. They have been told that
China manipulates its currency to secure an unfair trade advantage;
``illegally'' dumps and sells government-subsidized products in U.S.
markets; maintains policies that discriminate against imports and favor
domestic industries; steals American intellectual property; treats its
workers poorly; degrades the environment; sells us tainted products;
and even caused the U.S. financial crisis by lending America too much
money. \13\
---------------------------------------------------------------------------
\13\ It is particularly ironic to hear this last accusation from
spendthrift members of Congress who overlook the fact that their own
profligacy is what brought China to the U.S. debt markets in the first
place.
---------------------------------------------------------------------------
There is some truth in some of those claims. But there is also a
good deal of exaggeration, misinformation, and hypocrisy in them. Some
ring hollow because the U.S. government--usually at the behest of the
same interests clamoring for action against China--commits the same
sins.
Manufacturing the Myth of Decline \14\
Nefarious Chinese trade practices are often blamed for the decline
of U.S. manufacturing. But the first problem with that presumption of
causation is that U.S. manufacturing is simply not in decline. Until
the onset of the recent recession (when virtually every sector in the
economy contracted), U.S. manufacturing was setting new performance
records year after year in all relevant statistical categories:
profits, revenues, investment returns, output, value-added, exports,
imports, and others. In absolute terms, the value of U.S. manufacturing
has been growing continuously, with brief hiccups experienced during
recessions over the past several decades. As a percentage of our total
economy, the value of manufacturing peaked in 1953 and has been
declining since, but that is the product of rapid growth in the
services sectors and not--as evidenced by its absolute growth--an
indication of manufacturing decline.
---------------------------------------------------------------------------
\14\ For more comprehensive treatments refuting the myth of
manufacturing decline in the United States, see, Daniel Ikenson,
``Thriving in a Global Economy: The Truth About Manufacturing and
Trade'', Cato Trade Policy Analysis no. 35, August 28, 2007; Daniel
Ikenson and Scott Lincicome, ``Audaciously Hopeful: How President Obama
Can Help Restore the Pro-Trade Consensus'', Cato Trade Policy Analysis
no. 39, April 28, 2009, pp. 12-16; and Daniel Griswold, ``Trading Up:
How Expanding Trade Has Delivered Better Jobs and Higher Living
Standards for American Workers'', Cato Trade Policy Analysis no. 36,
October 25, 2007.
---------------------------------------------------------------------------
The preponderance of Chinese and other imported goods on retail
store shelves may give the impression that America does not make
anything anymore. But the fact is that American factories make lots of
things--in particular, high-value products that are less likely to be
found in retail stores--like airplanes, advanced medical devices,
sophisticated machinery, chemicals, pharmaceuticals, and biotechnology
products. American factories are, in fact, the world's most prolific,
accounting for 21.4 percent of global manufacturing value-added in
2008, while China accounted for 13.4 percent. \15\ The main reason for
continued American industrial preeminence is that the U.S.
manufacturing sector has continued its transition away from labor-
intensive industries toward higher value-added production.
---------------------------------------------------------------------------
\15\ United Nations Industrial Development Organization,
``National Accounts Main Aggregates Database, Value Added by Economic
Activity'', (2008 data are the most recent available), http://
unstats.un.org/unsd/snaama/resQuery.asp.
---------------------------------------------------------------------------
Regardless of manufacturing's operating performance, the metric
that matters most politically is the number of jobs in the sector. That
figure reached a zenith of 19.4 million jobs in 1979 and has been
trending downward along roughly the same trajectory ever since. China's
entry into the WTO and the subsequent increase in bilateral trade did
nothing to accelerate the decline. Manufacturing job loss has very
little to do with trade and a lot to do with changes in technology that
lead to productivity gains and changes in consumer tastes. China has
also experienced a decline in manufacturing jobs. In fact, many more
jobs have been lost in Chinese manufacturing and for the same reasons--
productivity gains. According to a 2004 study published by the
Conference Board, China lost 15 million manufacturing jobs between 1995
and 2002, a period during which 2 million U.S. manufacturing jobs were
lost. \16\
---------------------------------------------------------------------------
\16\ Yuan Jiang, Yaodong Liu, Robert H. McGuckin, III, Matthew
Spiegelman, and Jianyi Xu, ``China's Experience With Productivity and
Jobs'', Conference Board Report Number R-1352-04-RR, June 2004, http://
www.conference-board.org/publications/describe.cfm?id=809.
---------------------------------------------------------------------------
Policymakers in Washington have been citing a figure from the
Economic Policy Institute that attributes 2.4 million manufacturing job
losses between 2001 and 2008 to the bilateral trade deficit with China.
But that figure approximates job gains from export value and job losses
from import value, as though there were a straight line correlation
between the figures. And it assumes that imports do not create or
support U.S. jobs. But U.S. producers--purchasing raw materials,
components and capital equipment--account for more than half of the
value of U.S. imports annually, according to the U.S. Bureau of
Economic Analysis. Those imports support U.S. jobs in a wide range of
industries.
Furthermore, according to the results from a growing field of
research, only a fraction of the value of U.S. imports from China
represents the cost of Chinese labor, materials and overhead. Most of
the value of those imports comes from components and raw materials
produced in other countries, including the U.S.
In a 2006 paper, Stanford University economist Lawrence Lau found
that Chinese value-added accounted for about 37 percent of the total
value of U.S. imports from China. \17\ In 2008, using a different
methodology, U.S. International Trade Commission economist Robert
Koopman, along with economists Zhi Wang and Shang-jin Wei, found the
figure to be closer to 50 percent. \18\ In other words, despite all the
hand-wringing about the value of imports from China, one-half to nearly
two thirds of that value is not even Chinese. Instead, it reflects the
efforts of workers and capital in other countries, including the U.S.
In overstating Chinese value by 100-200 percent, the official U.S.
import statistics are a poor proxy for job loss.
---------------------------------------------------------------------------
\17\ Lawrence J. Lau, et al., ``Estimates of U.S.-China Trade
Balances in Terms of Domestic Value-Added'', working paper no. 295
(Palo Alto, CA: Stanford University, October 2006; updated November
2006).
\18\ Robert Koopman, Zhi Wang, and Shang-jin Wei, ``How Much of
Chinese Exports Is Really Made in China? Assessing Foreign and Domestic
Value-Added in Gross Exports'', U.S. International Trade Commission,
Office of Economics, working paper no. 2008-03-B, March 2008.
---------------------------------------------------------------------------
The fact that China surpassed Germany to become the world's largest
exporter last year--a milestone that prompted a string of ``end-of-
Western-civilization'' newspaper commentaries--says less about Chinese
economic might than it does about the extent of global economic
integration. The global division of labor enabled by intricate
transnational production and supply chains still assigns to China
primarily lower-value production and assembly operations. \19\ That
alone speaks to the complementary nature of the U.S. and Chinese
economies, underscores the meaninglessness of bilateral trade
accounting, and magnifies the absurdity of predicating policy on the
goal of reducing a bilateral trade deficit.
---------------------------------------------------------------------------
\19\ For a more comprehensive treatment of this topic, see, Daniel
Ikenson, ``Made on Earth: How Global Economic Integration Renders Trade
Policy Obsolete'', Cato Trade Policy Analysis no. 42, December 12,
2009.
---------------------------------------------------------------------------
Despite occasional fireworks, both governments have mutual interest
in harmonious economic relations. Our economies are extremely
interdependent. U.S. economic performance will continue to be a
determinant of Chinese economic performance--and vice versa--and
barring destructive policies, the pie should continue to grow larger.
Much more can be done to cultivate our areas of agreement using carrots
before seriously considering the use of sticks.
Less Provocative Alternatives
Another reason the Chinese government worries about RMB
appreciation is that Chinese investors owns about $800 billion of U.S.
debt. A 25 percent appreciation in the RMB would reduce the value of
those holdings to approximately $640 billion. That's a high price for
China to pay, especially in light of the fact that U.S. inflation is
expected to rise in the coming years, which will further deflate the
value of those holdings (and ease the burden of repayment on U.S.
taxpayers). Likewise, mass dumping of U.S. government debt by Chinese
investors--the much ballyhooed ``leverage'' that China allegedly holds
over U.S. policy--would precipitate a decline in the dollar as well,
which also would depress the value of Chinese holdings. The assertion
that China holds U.S. debt as a favor to America, and would withdraw
that favor on a whim, is a bit far-fetched.
China, it seems, is guilty of a failure to heed the first law of
investment: it failed to diversity its portfolio adequately. The
overwhelming investment focus on U.S. public debt has left China
exposed to heavy losses from dollar inflation and RMB appreciation. The
fact that the inflation rate is in the hands of U.S. policymakers makes
China even more reluctant to allow large-scale or, at least,
precipitous, RMB appreciation.
As of the close of 2008, Chinese direct investment in the United
States stood at just $1.2 billion--a mere rounding error at about 0.05
percent of the $2.3 trillion in total foreign direct investment in the
United States. That figure comes nowhere close to the amount of U.S.
direct investment held by foreigners in other big economies. U.S.
direct investment in 2008 held in the United Kingdom was $454 billion;
$260 billion in Japan; $259 billion in the Netherlands; $221 billion in
Canada; $211 billion in Germany; $64 billion in Australia; $16 billion
in South Korea; and even $1.7 billion in Russia. \20\
---------------------------------------------------------------------------
\20\ Bureau of Economic Analysis, ``Foreign Direct Investment in
the United States: Selected Items by Detailed Industry of U.S.
Affiliate'', 2004-2008, http://www.bea.gov/international/xls/
LongIndustry.xls.
---------------------------------------------------------------------------
If it is desirable that China recycle some of its estimated $2.4
trillion in accumulated foreign reserves, U.S. policy (and the policy
of other governments) should be more welcoming of Chinese investment in
the private sector. Indeed, some of China's past efforts to take equity
positions or purchase U.S. companies or buy assets or land to build new
production facilities have been viewed skeptically by U.S.
policymakers--and scuttled--ostensibly over ill-defined security
concerns.
A large inflow of investment from China would have a similar impact
as a large increase in U.S. exports to China on the value of both
countries' currencies, and on the level of China's foreign reserves. In
light of China's large reserves and its need and desire to diversify,
America's need for investment in the real economy, and the objective of
creating jobs and achieving sustained economic growth, U.S. policy
should be clarified so that the benchmarks and hurdles facing Chinese
investors are better understood. Lowering those hurdles would encourage
greater Chinese investment in the U.S. economy and a deepening of our
mutual economic interests.
To reduce bilateral tensions and foster greater cooperation from
China with respect to market access, intellectual property theft, and
other legitimate U.S. concerns, the United States should offer to
reform its punitive trade remedies practices toward China. Ending the
practice of treating China as a nonmarket economy in antidumping cases
would probably do more to improve bilateral economic relations than
just about any other possible reform.
China has made no secret of its desire to be designated a market
economy. In essence, China's NME status is an asset to U.S.
policymakers--but a rapidly depreciating one. In accordance with the
terms of its WTO accession, China's economy cannot be treated as an NME
after 2016, so U.S. policy will have to change in 6 years anyway. If
U.S. policymakers want anything of value from China in exchange for
designating it a market economy, that designation has to come soon. The
longer this inevitable reform is delayed, the less valuable it becomes.
Short of graduating China to market economy status, U.S.
policymakers could reduce bilateral tensions by addressing another
systemic, methodological problem that results in Chinese exporters
being penalized twice for the same alleged infraction. Since the
Commerce Department resumed applying the countervailing duty law to
nonmarket economies in 2007 (after a 22-year moratorium), it has failed
to account for the problem of ``double-counting'' in cases where
imports are subject to both the antidumping and countervailing duty
laws.
Under NME methodology, a Chinese exporter's U.S. prices are
compared to a surrogate value based on costs in a third country, such
as India. Any difference between the U.S. price and that surrogate
accounts for both the dumping and subsidy margin because the surrogate
represents a nondumped, nonsubsidized price. However, U.S. practice has
been to treat that difference as reflecting only the margin of dumping,
while calculating an additional margin to reflect the subsidy only.
Both the dumping margin (which already reflects the amount of the
subsidy) and the subsidy margin are applied as duties on Chinese
imports, resulting in a double counting of the countervailing duty.
Some Hypocrisy in U.S. Allegations
Claims are numerous that China maintains discriminatory policies
that impede imports and foreign companies. Indeed, some of those claims
have been substantiated and remedied. Others have only been
substantiated. And still many more have been merely alleged.
The United States maintains formal and informal channels of
communication with the Chinese government through the Strategic and
Economic Dialogue, the Joint Commission on Commerce and Trade, and
other venues, through which sources of economic and trade friction are
discussed and often defused. On eight occasions, the United States
decided that bilateral process alone was insufficient, and lodged
official complaints with the WTO Dispute Settlement Body about various
Chinese practices. Outcomes in two of the cases are still pending, but
six of the eight cases produced satisfactory outcomes from the
perspective of the U.S. government: either China agreed during
consultations to change its rules or practices, or a dispute panel
affirmed most of the U.S. complaints and issued opinions requesting
that China bring its practices into conformity with the relevant WTO
agreements.
It is difficult to find merit in the suggestion that U.S. trade
policy toward China should change tack and become more unilateralist or
provocative, when the WTO dispute settlement system has worked well as
a venue for resolving U.S. complaints. The United States has brought 19
cases against Europe in the WTO, but there is not much talk about
adopting a more strident trade policy toward the EU.
The fact is that China has made substantial progress since
beginning its reforms to join the WTO. Nevertheless, some trade
barriers and subsidy programs still exist or have emerged that, if
challenged, likely would be found to violate China's various WTO
commitments. And China should be held accountable to its market
liberalizing commitments. Still, it is up to the USTR, in conjunction
with other stakeholders, to evaluate the evidence and weigh the costs
and benefits before deciding whether and when to lodge official WTO
complaints.
One of the costs of bringing cases against Chinese market barriers
or policies that favor domestic firms would be the exposure of U.S.
hypocrisy. The U.S. government subsidizes chosen companies and
industries, too. The past 18 months is littered with examples, such as
General Motors and Chrysler. Though the U.S. business community is
concerned about the emergence of technical market barriers in China
favoring local companies, the U.S. government maintains opaque
technical barriers in a variety of industries, which hampers and
precludes access to the U.S. market for foreign food products, in
particular. Mexican trucks cannot even operate on U.S. highways. There
is an element of the pot calling the kettle black in U.S. allegations.
By and large, though, the Office of the U.S. Trade Representative,
in its December 2009 report to Congress about the implementation of
China's WTO commitments, strikes the right tone and reassures that the
economics can and should be shielded from the vicissitudes of politics:
China has taken many impressive steps over the last 8 years to
reform its economy, while implementing a set of sweeping WTO
accession commitments that required it to reduce tariff rates,
to eliminate nontariff barriers, to provide national treatment
and improved market access for goods and services imported from
the United States and other WTO members, to protect
intellectual property rights, and to improve transparency.
Although it still does not appear to be complete in every
respect, China's implementation of its WTO commitments has led
to increases in U.S. exports to China, while deepening China's
integrations into the international trading system and
facilitating and strengthening the rule of law and the economic
reforms that China began 30 years ago. \21\
---------------------------------------------------------------------------
\21\ United States Trade Representative, 2009 Report to Congress
on China's WTO Compliance, December 2009, p. 4.
---------------------------------------------------------------------------
Conclusion
The world would be better off if the value of China's currency were
truly market-determined, as it would lead to more optimal resource
allocations. The impact on the bilateral trade account--meaningless as
that statistic is in a globalized economy--would be impossible to
predict. But compelling China to revalue under threat of sanction could
produce adverse consequences--including reductions in Americans' real
incomes and damaged relations with China--leaving us all worse off
without even achieving the underlying policy objectives.
For now, it would be better to let the storm pass and allow China
to appreciate its currency at its own pace.
______
PREPARED STATEMENT OF JACK W. SHILLING
Retired Executive Vice President and Chief Technical Officer, Alleghany
Technologies Incorporated, and
Chairman, Specialty Steel Industry of North America
April 22, 2010
I am grateful to participate in today's hearing. My conviction,
based upon my previous experience--most recently as Executive Vice
President, Corporate Development and Chief Technical Officer of
Allegheny Technologies Incorporated and as Chairman of the Specialty
Steel Industry of North America--is that it is vitally important for
job creation, the overall economy and national security that the United
States strengthen and expand its manufacturing base. An integral part
of this effort must be an international system of exchange rates that
reflect market fundamentals and that adjust as those fundamentals
fluctuate.
I. To What Extent Is China's Currency Misaligned?
For the past 16 years, China has engaged in the protectionist
policy of currency depreciation by effectively pegging the renminbi
(RMB) to the U.S. dollar, and other countries have compounded this
problem by undervaluing their currencies in an attempt to remain
competitive with China.
There is a broad consensus that the RMB is substantially
undervalued. The Peterson Institute estimates that the renminbi remains
misaligned by about 25 percent on an overall, real-effective-exchange-
rate basis and by about 40 percent relative to the U.S. dollar on a
bilateral, real-exchange-rate basis. This 40-percent undervaluation
vis-a-vis the U.S. dollar is as large today as it was 6 years ago
before a modest revaluation and nominal appreciation of the RMB by
China between July 2005 and July 2008. China's intervention in the
exchange markets is now approximately $30-$40 billion per month, and
China's foreign reserves are estimated to be at least $2.4 trillion and
possibly as much as $3 trillion. \1\ These numbers are staggering and
contribute to a huge, artificial and competitive advantage for China in
various ways.
---------------------------------------------------------------------------
\1\ See, Fair Currency Coalition, ``Fact of the Week--China's
Record Reserves'', (Jan. 26, 2010), available at, www.faircurrency.org.
---------------------------------------------------------------------------
II. What Effect Does the RMB's Undervalued Misalignment Have on the
Trade Deficit and U.S. Employment?
A. Background
The U.S. manufacturing base has been eroding for a long time, while
manufacturing capability in China has been increasing dramatically over
the same time period. This shift has been well documented by others.
The large and growing trade imbalance with China is one confirmation of
this situation.
Loss of our domestic manufacturing base presents serious economic
and national security problems as documented recently in the
President's Framework for Revitalizing American Manufacturing. These
problems include a significant loss of more highly compensated
employment opportunities for our citizens. There are many factors
affecting the competitiveness of U.S. manufacturers that are far more
important than labor rates, which are often cited incorrectly as the
reason for this loss of competitiveness.
One of the most important and most easily understood factors
undermining U.S. competitiveness is the impact of exchange rates, and
particularly the actions of the Chinese government to prevent the RMB
from appreciating relative to the U.S. dollar. In order to understand
the importance of exchange rates to competitiveness and, therefore, to
the U.S. trade imbalance with China and loss of American jobs, it is
helpful to understand how products are generally sold and then to apply
that knowledge to both imports and exports in various market segments.
Some examples are provided below.
B. How Products Are Sold
The following factors come into play when a decision is made by a
supplier and a customer to enter into a purchasing agreement: (1) price
and its impact on profit margin; (2) availability; (3) supply chain
management issues; (4) quality; (5) product capability; (6) short-and
long-term customer-supplier relationships; and (7) strategic
considerations. All other things being equal, price becomes the
dominant issue where exchange rates have a direct and obvious impact.
However, in order to understand a specific purchasing decision, it is
often necessary to consider some or all of the other factors just
mentioned.
C. Imports From China Into the United States
A 40 percent undervalued RMB has a dramatic impact on imports. When
a product made in China is sold in the United States, the invoice is
paid in dollars and then converted to RMB in China to pay the Chinese
producer. If the Chinese product is sold for $100 in the United States,
approximately 683 RMB are provided to the supplier in China under the
current exchange rate between the RMB and the U.S. dollar. If the costs
of manufacturing are 500 RMB in China, the Chinese producer's operating
profit is 183 RMB.
If, on the other hand, the RMB were allowed to appreciate to market
rates, 40 percent higher in value, only 409 RMB would be generated in
China, resulting in an operating loss of 91 RMB. The net result would
be an unwillingness by the Chinese producer to export that product to
the United States at the original price of $100, and the Chinese
producer's export price would rise, making U.S.-origin products more
competitive.
Note that the Chinese producer's export price to the United States
would not necessarily rise by 40 percent. The specific price increase
would depend upon the degree to which costs could be lowered in China
and the minimum profit margin that would be acceptable to the Chinese
producer. The Chinese producer's price increase would also depend on
some of the other factors mentioned above, such as product availability
from U.S. domestic suppliers and strategic considerations, including
the ability of the Chinese supplier to decrease prices over time
through cost reductions, the Chinese producer's ability to supply other
products of interest to the U.S. purchaser, and the perceived long-term
importance of the business to the Chinese supplier and U.S. customer.
Importantly, a 40 percent revaluation of the RMB could have a
significant favorable impact on a Chinese producer's costs. A central
consideration is the benefit the Chinese producer would realize when
purchasing raw materials or energy in U.S. dollars with a more valuable
RMB. For instance, over 50 percent of the value of stainless steel is
in inputs such as nickel, chromium, molybdenum, and natural gas that
are priced globally based on U.S. dollars. With reference to the
previous illustration, if 50 percent or 250 RMB of the Chinese
producer's total costs of 500 RMB were in U.S. dollar commodities, with
a 40 percent revaluation of the RMB the Chinese producer's costs would
decrease by 100 RMB to 400 RMB, and the loss of 91 RMB after
revaluation of the RMB that was postulated above would become a small
operating profit of 9 RMB. Nevertheless, such a large revaluation would
still have a substantial, unfavorable effect on profitability even
after taking such purchasing benefits into consideration.
To summarize, above all else a long-term, chronic undervaluation of
the RMB has led and will always lead to the gradual loss of American
manufacturing competitiveness, particularly when the undervaluation is
so large. The larger the exchange-rate misalignment, and the longer in
time that this misalignment is allowed to persist, the more price will
become the determining factor and allow the Chinese producer time to
resolve all other issues at least to parity with the U.S. domestic
producer. In addition, the longer this misalignment is allowed to
persist, the higher the probability is that U.S. competitors will cease
to exist when the misalignment is corrected.
D. Exports to China From the United States
The same logic that applies to imports into the United States from
China, as discussed above, also applies to exports by the United States
to China. In this case, the important issue is how many U.S. dollars a
U.S. producer will receive when the U.S. product is sold in China in
RMB and the RMB are then converted back into U.S. dollars. If the price
in RMB doesn't change and the RMB-U.S.$ exchange rate is allowed to
appreciate by 40 percent, a U.S. producer in the abstract should
receive an effective price increase of over 60 percent in U.S. dollars.
\2\
---------------------------------------------------------------------------
\2\ If the unit price in China remained at 100 RMB for a U.S.
producer's product, for instance, the U.S. producer would receive only
U.S.$14.64 at the current exchange rate of 6.83 RMB/U.S.$1, but would
receive U.S.$24.45 at the revalued exchange rate of 4.09RMB/U.S.$1, an
increase of 67 percent.
---------------------------------------------------------------------------
Such a huge revenue increase would be expected to significantly
improve U.S. competitiveness and result in U.S. producers quoting on
business in China that otherwise would produce inadequate margins.
However, it is unlikely that such success would be completely realized.
One reason relates to cost reductions that would occur for Chinese
producers associated with dollar-denominated purchases of input
materials and energy, as discussed above. In addition, it is critically
important to the Chinese government that China be able to maintain a
large GDP growth rate. If it is assumed that current prices produce
acceptable profit margins to Chinese producers, many of whom have
significant ownership by the Chinese government, it seems very likely
the Chinese government would intervene in the future in some manner
other than an undervalued RMB to prevent a significant disruption to
the ability of Chinese producers to supply their own market. In other
words, price has not been, nor will it be, the only factor considered
in purchasing decisions made in China. We can all speculate on how
China would accomplish this, but it seems highly likely that following
a significant currency realignment, e.g., by 40 percent, action can and
would be taken by the Chinese government to protect China's ability to
continue to grow its own GDP and keep its citizens employed.
Because of its impact on jobs and national security, it is my
opinion that the impact of Chinese currency manipulation on imports
into the United States from China and the resulting inability of U.S.
domestic manufacturers to supply their own U.S. market is a much larger
problem than a lost opportunity to export products from the United
States to China, although both are important.
E. Example 1: Specialty Metals
1. Titanium Condenser Tubing--This is a high-tech product used for
seawater cooling in conventional and nuclear power plants. The
important issues to understand here are (a) this product is critical to
the functioning of these systems and (b) China has not had the
capability to supply their own market with acceptable quality product.
In situations like this, China has been unable to export product and
depends on imports. Pricing relative to Chinese competition has not
been a factor, and therefore the exchange rate has not been an issue.
Orders are frequently quoted in U.S. dollars, and the currency risk
(although there is none if the exchange rate is pegged) is assumed by
the purchaser.
However, as China builds this ability over time (as it is
attempting to do today), most likely using foreign technology, pricing
will become a factor for both imports and exports of this product as
discussed above, and exchange rates will become very important. So, as
we look to the future, it is very important that we act now to help
preserve the technology advantage that currently exists with high-tech
products like titanium condenser tubing produced by U.S. manufacturers.
2. Grain-Oriented Electrical Steel (GOES)--This steel also is a
high-tech specialty metal product critical to the efficient
distribution of electricity in any advanced or emerging economy.
Electrical power is generated in power plants. In order to use this
electricity, it must be distributed widely to all sectors of the
economy. These distribution systems employ many large transformers, and
GOES is critical to their efficient operation.
Ten years ago, the story of GOES in China was much the same as the
titanium condenser tubing story. But over the intervening time period,
China has added sufficient capacity using foreign technology for the
most part so that Chinese producers can now supply their own market.
The Chinese government recently implemented antidumping and
countervailing duties claiming trade agreement violations by U.S.
producers of GOES. The U.S. industry feels these decisions are
unjustified and is considering its options.
During the last 5 years or so, imports of this product into the
United States from China have not been significant, because China did
not have an adequate domestic supply. Exports from U.S. producers to
China, however, have occurred because of inadequate supply in China. As
China increased capacity over this time period, exchange rate issues
became more of a factor. With large import duties now imposed due to
China's trade cases against the U.S. producers, exchange rate issues
are of significant importance. If and when these duties are removed,
exchange rates will remain important to future U.S. exports of GOES to
China and will be critically important to the ability of U.S. producers
of GOES to supply their own domestic market assuming increasing imports
into the United States of Chinese product.
3. Commodity Stainless Steel Sheet and Strip--This product is
considered a commodity product, because world-wide competition uses
very similar technology. Highly productive processes have been
developed that make labor costs less important relative to other cost
components such as energy and raw materials. In addition, China has
built significant capacity over the last 10 years using foreign
technology. Major suppliers in China are government-owned, and in that
sense, return-on-investment issues are most likely of lesser importance
than is true for a normal, free-enterprise company.
Over the last decade, U.S. producers have been unable to sell
significant quantities of this commodity product in China, whereas
China has become one of the largest exporters of stainless steel sheet
and strip to the United States. See, Attachment 1. If the Chinese
currency were revalued by 40 percent, one would expect imports of this
product into the United States to be significantly reduced. However, it
is unlikely in my opinion that U.S. exports of commodity products to
China would increase as much for the reasons discussed above. China
would be expected to intervene in some manner to prevent this from
happening.
F. Example 2: Consumer Products
Gas grilles are an instructive example of how the RMB's enforced
undervaluation affects trade between China and the United States in
consumer products. Most gas grilles sold in big box stores were
developed originally in the United States. But now, virtually all of
these products are made in China and imported into the U.S. market.
These gas grilles are sold strictly on the basis of price. Were the
exchange rate allowed to appreciate by 40 percent, it is highly likely
that imports from China would be reduced over time as U.S.
manufacturers restored capacity allowing significant production to
return to the United States. Not only would such a transition benefit
the U.S. producers of gas grilles, but a significant benefit would
accrue as well to the U.S. domestic manufacturers of gas grilles'
component parts and raw materials, such as commodity stainless steel.
At the same time, it is unlikely that U.S. exports to China would
increase to nearly the same extent for the reasons discussed above
along with the fact that significant Chinese capacity now being used
for the U.S. market would need to be diverted to the Chinese market.
G. Economic Segments
The charts and tables in Attachment 2 set forth data with respect
to major segments of products traded between China and the United
States from 2000 through 2009. During those years China far and away
exported more products to the United States in these segments than the
United States exported to China. Further, China's exports to the United
States have covered a wide diversity of products in terms of technology
and sophistication and met a broad spectrum of basic needs for the U.S.
economy. In addition, China's exports to the United States during this
period generally expanded and grew over time, particularly in the
segment of computer and electronic products. U.S. exports to China, in
contrast, have been far less. These overall trends are underscored when
specific products are analyzed. Considering the discussion above, it
seems most likely that significant currency realignment would have the
best chance of improving the trade balance between the U.S. and China
by reducing imports over time in the following segments: Computer and
Electronic Products; Apparel and Accessories; Electrical Equipment;
Appliances and Components; Furniture and Fixtures; and Fabricated Metal
Products.
III. What Happened When China Allowed the RMB To Appreciate From 2005-
2008? Why Did the U.S. Trade Deficit Not Narrow During This
Time?
Between July 2005 and July 2008, the Chinese government allowed the
RMB to appreciate nominally relative to the U.S. dollar by 17.6
percent, from 8.28 RMB/U.S.$1 to the current rate of 6.82 RMB/U.S.$1.
During those 3 years, China's foreign reserves rose from $711 billion
to $1.8 trillion, and the U.S. trade deficit and number of jobs lost
likewise increased substantially. There are two basic reasons why China
gained ground and the United States lost ground despite this
appreciation of the RMB during those 3 years.
First, the time between July 2005 and July 2008 was one in which
China's economy was growing rapidly, and China's ability to supply the
U.S. market was increasing dramatically, both in terms of manufacturing
costs and product capability. Moreover, as seen in the examples above,
as Chinese producers have become more self-sufficient there has been
less reason for China to import from the United States. Each of these
influences contributed to a more pronounced trade deficit by the United
States with China.
Attachment 3 gives a graphic picture of total trade between China
and the United States from 2000 through 2009 and shows the extent of
the increasing trade deficit by the United States with China over that
time. As depicted in Attachment 3, the U.S. trade deficit worsened
considerably during the period of 2005 through 2008, and the largest
trade deficit incurred by the United States with China occurred in
2008.
Second, the RMB's appreciation between July 2005 and July 2008 was
in nominal terms, but then as now the RMB's undervaluation relative to
the U.S. dollar was around 40 percent on a bilateral, real-exchange-
rate basis. What was needed then, in other words, was a meaningful
revaluation of the RMB in that amount in accordance with inflation-
adjusted, trade-weighted exchange rates. The same is true today. \3\
---------------------------------------------------------------------------
\3\ Morgan Stanley has said that it expects China will permit the
renminbi to appreciate to 6.54 RMB/U.S.$1 by the end of 2010 and to
6.17 RMB/U.S.$1 by the end of 2011. Morgan Stanley, ``China Economics--
Renminbi Exit from USD Peg: Whether, Why, When, How'', at 1 (Apr. 5,
2010). Yet that nominal appreciation from the current rate of 6.83 RMB/
U.S.$1 would be only 9.7 percent, about the same pace over the next 21
months as the pace China set between July 2005 and July 2008. That pace
of nominal appreciation will be no more effectual than the RMB's
nominal appreciation was between July 2005 and July 2008.
---------------------------------------------------------------------------
IV. If China Were To Allow for a Currency Revaluation, What Is an
Appropriate Appreciation? What Tools Should Congress Consider
To Remedy This Imbalance? What Are the Multilateral Policy
Options?
What is needed is for China to revalue the RMB relative to the U.S.
dollar by 40 percent on a bilateral, real-exchange-rate basis. But what
should we do if this does not happen in a timely manner? Unfortunately,
while the International Monetary Fund for the last 5 or 6 years
especially has been sounding the alarm about China's undervaluation of
the renminbi, the IMF's authority is so limited under its Articles of
Agreement that China has been able to block publication of the IMF's
2007, 2008, and 2009 reports on China's currency policy. It is apparent
that a strengthening of the multilateral rules on protracted currency
depreciation is imperative.
In the absence of unilateral action by China to appropriately
revalue its currency, a first step that can be taken by Congress and
the Executive Branch against this protectionist practice is to
authorize the imposition of countervailing or antidumping duties
against imports from any country with a fundamentally undervalued
currency. This approach would be a reasonable implementation in U.S.
domestic law of the World Trade Organization's provisions, would assist
materially injured U.S. industries and workers, would act as a
deterrent, and would underscore that protracted currency depreciation
will not be tolerated.
V. Conclusions
Currency manipulation by the Chinese government has significantly
affected the bilateral trade deficit of the United States with China,
primarily through its effect on the levels of imports into the United
States from China. From 2002 to 2009, the United States ran a
cumulative trade deficit of nearly $5.4 trillion for All Merchandise,
including a deficit of almost $1.6 trillion with China. China's share
of the U.S. trade deficit in All Merchandise rose from 22 percent in
2002 to 45.3 percent in 2009. \4\
---------------------------------------------------------------------------
\4\ See, Fair Currency Coalition, ``Fact of the Week--RMB Peg
Fuels China Trade Surpluses, Undercuts U.S. Recovery'', (Feb. 23,
2010), available at, www.faircurrency.org.
---------------------------------------------------------------------------
This deficit has resulted in a significant loss in the United
States of important manufacturing capability and its higher-paying jobs
that would have been used to supply the U.S. market at realistic
prices. Prices of Chinese imports are artificially low due to the
effective subsidization associated with the undervalued Chinese
currency vis-a-vis the U.S. dollar. As the Economic Policy Institute
reported in a study last month, the RMB's substantial undervaluation
has been a major reason for the United States' imbalanced trade with
China, the loss of 1.6 million manufacturing jobs in the United States
between 2001 and 2008, and depressed and lower wages for many more
millions of U.S. workers. \5\
---------------------------------------------------------------------------
\5\ Robert E. Scott, ``Unfair China Trade Costs Local Jobs'',
(Economic Policy Institute, Mar. 23, 2010).
---------------------------------------------------------------------------
As devastating to the United States as these trends are, the
longer-term prognosis if China persists in its behavior is even more
troubling. In addition to further trade deficits and lost jobs, the
renminbi's undervalued misalignment is an important factor in making
investment in China more attractive and feasible than investment in the
United States. It is not necessary or even desirable to stop investment
overseas by multinational companies, but it is critical that the
protectionist policy of China's enforced undervaluation of the RMB
should not be tolerated. If not countered, that policy will
increasingly drain the United States of knowledge and expertise,
continue to contribute to the demise of its basic manufacturing
capability, as well as jobs and revenue, by weakening companies in
areas such as the U.S. specialty metals industry, which are constantly
developing new technology that has essential applications to the U.S.
economy and national defense.
The major benefit associated with China allowing the RMB to
appreciate by 40 percent to market levels, or otherwise mitigating this
problem, will be to allow U.S. manufacturers to recapture the U.S.
market that has been lost or will be lost to Chinese imports. Less
benefit to exports of U.S. products into China is anticipated, because
the Chinese government's emphasis on large increases in GDP each year
will almost certainly be reflected in other measures that favor Chinese
domestic production and sales, thereby compensating in part for any
meaningful revaluation of the RMB.
Virtually all segments of the U.S. economy should benefit, but
major sectors representing high levels of imports into the United
States from China would be advantaged the most. As indicated by the
charts and tables in Attachment 2, these segments include computer and
electronic products, primary metal manufacturing, textile mill
products, apparel and accessories, plastics and rubber products,
electrical equipment, appliances, and components, furniture and
fixtures, and other fabricated metal products.
The importance of this issue, and its potential impact, is directly
proportional, or perhaps even geometrically proportional, to the
magnitude of the currency misalignment and its remediation. Current
estimates of 40 percent misalignment are enormous in this context.
Likewise, token efforts to reduce this misalignment will be generally
ineffective.
It is critically important that we act now. Pushing the problem
ahead will only produce a bigger problem in the future as U.S. GDP
weakens and U.S. manufacturing and technology capability is lost. In
the absence of unilateral action by China to appropriately revalue its
currency, a first step that can be taken by Congress and the Executive
Branch is to authorize the imposition of countervailing or antidumping
duties against imports from any country with a fundamentally
undervalued currency.
PREPARED STATEMENT OF MARK A. SUWYN
Executive Chairman of the Board, NewPage Corporation, Miamisburg, Ohio
April 22, 2010
Mr. Chairman, Mr. DeMint, and Members of the Subcommittee, I
appreciate the opportunity to appear on this panel to discuss China's
exchange rate policy and trade imbalances. My name is Mark Suwyn and I
am Chairman of NewPage Corporation. NewPage was founded in 2005, when
the company purchased certain paper operations of MeadWestvaco. NewPage
produces printing and writing papers, including coated and uncoated
free sheet and groundwood papers and paperboard, newsprint,
supercalendered paper, and specialty paper. NewPage is headquartered in
Miamisburg, Ohio, and has production facilities in Kentucky, Maine,
Maryland, Michigan, Minnesota, and Wisconsin. NewPage has about 7,500
employees, and is the largest producer of coated printing and writing
papers and paperboard in North America. Production of these papers is a
multibillion dollar industry in the United States. Today, I would like
to speak about how the U.S. paper industry has been impacted by China's
exports of coated paper and paperboard, and in particular about the
large and distortive subsidy that Chinese paper producers benefit from
as a result of China's undervalued currency.
China's undervalued currency is a very significant problem for U.S.
paper producers, as it is for many other U.S. manufacturers that
compete with imports from China. The United States has a significant
competitive advantage over China in the production of paper and
paperboard used domestically for printing and writing, a fact that has
been confirmed regularly in market research studies. Paper producers in
this country have access to abundant and renewable fiber sources, and
we have a plentiful supply of water required for paper processing. We
have a highly skilled workforce with generations of experience
producing paper, and state-of-the-art paper equipment. And we have the
advantage of being close to our customers in the U.S. market. By
contrast, the Chinese producers have to import the vast majority of the
virgin fiber they use to produce paper, much of it from Latin America.
They also lack an adequate water supply. And although wage rates are
lower in China than they are in the United States--paper manufacturing
is not very labor intensive, accounting for only about 10 percent of
the cost of producing paper--the Chinese do not gain any real advantage
from having lower wage rates. The Chinese use comparable state-of-the-
art production equipment that U.S. producers use. Finally, Chinese
producers are an entire ocean and half a continent away from our
customers in the Midwest. Nonetheless, Chinese paper producers have
been able to lower prices, increase exports, and gain market share in
the United States, all because of large subsidies provided by the
Chinese government and their willingness to dump their product in the
U.S. market. And the biggest subsidy of all is the 40 percent
undervaluation of the Chinese currency.
In September of last year, NewPage, along with other members of the
domestic industry and the United Steelworkers Union, filed antidumping
and countervailing duty petitions covering certain types of coated
paper from China and Indonesia. In the countervailing duty petition
covering Chinese subsidies, we listed a host of subsidy programs that
benefit Chinese paper producers, including an allegation covering
China's undervalued currency.
Our currency allegation provided information demonstrating that all
three legal requirements for finding the existence of a countervailable
subsidy were met: (1) that the Chinese government had provided a
financial contribution, which (2) resulted in a benefit, and (3) which
was specific to a particular industry or group of industries in China.
With respect to the financial contribution, we explained that by
requiring foreign exchange that is earned from export activities to be
converted into Chinese yuan at a rate that is set by the Government, a
rate which is universally recognized to be about 40 percent below its
true value, Chinese exporters reap an enormous windfall. Specifically,
Chinese exporters get 40 percent more yuan for every dollar that they
exchange than they otherwise would absent Chinese government
intervention in the foreign currency markets. This provides an
enormous, continuing benefit to those exporters, and allows them to
significantly under-price U.S. producers. We also alleged and
documented that this subsidy was specific to exporters in China,
because it is directly linked with exports and creates a powerful
incentive for Chinese producers to export their products to the United
States, rather than sell them at home.
The Chinese currency is clearly undervalued. A January 2010 policy
brief by Dr. Lardy's colleagues at the Peterson Institute estimates
that China's currency is undervalued by 41 percent on a bilateral basis
against the dollar. Other estimates are within this range.
Much to our disappointment, the Commerce Department did not
initiate an investigation into our allegation when we first made it in
September of last year, claiming that we had failed to sufficiently
allege that the receipt of the excess yuan is contingent on export or
export performance--in other words that we had not shown how the
subsidy was specific. But in January of this year, we submitted a
revised allegation, this time providing an expert report from an
independent economist which demonstrates that based on the Chinese
government's own data, 70 percent of China's foreign exchange earnings
from Current Account transactions and from long-term Capital and
Financial account transactions were derived from the export of goods.
The study concluded that no other category of foreign exchange inflows
comes close to matching the $1.4 trillion foreign exchange earnings of
Chinese exporters. Because Chinese exporters garner the overwhelming
share of benefits from the undervaluation of the RMB, the subsidy
benefit is de facto specific to exporters as a group.
As of the preparation of this written statement, the Department of
Commerce has not announced whether it will initiate an investigation
into whether China's undervaluation of its currency confers a
countervailable subsidy. We believe, as do many Members of Congress,
that Commerce has a legal obligation to investigate this practice. We
hope an initiation occurs soon, so that Commerce will have sufficient
time to fully analyze this allegation.
China's undervalued currency, as well as the other subsidies from
which Chinese coated paper producers benefit have had a significant
negative impact on NewPage and other members of the U.S. coated paper
industry. These consequences are documented in the preliminary
unanimous injury determination by the International Trade Commission
(ITC), which was issued in November of last year. Among other things
the ITC noted:
The increase in the U.S. market share of imports from China
(and Indonesia) which rose from 15.3 percent in 2006 to 25.7
percent in the first half of 2009.
The large increase in the supply of low-priced subject
imports in the first half of 2009 was accompanied by a decline
in prices for the domestic product in the first half of 2009.
The domestic industry faced increasing pressure to lower
prices or lose market share, particularly in the first half of
2009 as a result of the pervasive underselling by subject
imports.
Significant underselling by Chinese producers led to price
depression during the first half of 2009.
Imports from China led to decreases in U.S. producer's
production, shipments, and employment in 2009.
NewPage and others in the domestic industry have had to
close many mills and converting facilities over the past 4
years, including mills in Kimberly and Niagara, Wisconsin;
Muskegon, Michigan; and Columbus, Mississippi, and a converting
facility in Chillicothe, Ohio.
The U.S. industry's financial condition deteriorated in the
first half of 2009 as the U.S. industry was forced to reduce
prices in order to compete with substantially increasing
imports, with operating losses of $17.2 million in the first
half of 2009 compared with operating profits of $44.3 million
in the first half of 2008.
The impact of Chinese subsidies on the U.S. coated paper industry,
including currency undervaluation, is well-document in the ITC
determination. It is notable that the deterioration in our industry
accelerated in the first half of 2009, which coincides with the time
when China halted its gradual appreciation of the yuan in November of
2008. However, the impact goes beyond the borders of the United States.
Despite the fact that we have had some success in the past year in
increasing our exports to other markets, we have not been able to
export paper products to China. The severe undervaluation of China's
currency effectively imposes a 40 percent tax on any potential exports
from our U.S. mills. This affects not only exports to China, but also
exports to other third markets where we compete with the Chinese.
So what is the appropriate response to China's undervalued
currency? We believe that the best outcome would be for China to allow
its currency to float freely and reflect market forces. This would be
the most favorable outcome for all U.S. manufacturers. I would note,
however, that past efforts to negotiate with China either bilaterally
or multilaterally through the IMF, have thus far produced no result.
Whatever may be accomplished through long term negotiation, we believe
that the Department of Commerce needs to investigate China's
undervalued currency as a countervailable subsidy to Chinese coated
paper producers, and to ultimately impose countervailing duties to
offset the level of undervaluation. We believe this is required by the
U.S. countervailing duty law, and is critical to prevent material
damage to the U.S. paper industry and the jobs and local communities
that rely on our industry.
Again, I appreciate the opportunity to appear before you today, and
would welcome any questions you might have.
PREPARED STATEMENT OF DEREK SCISSORS
Research Fellow, Asian Studies Center, The Heritage Foundation
April 22, 2010
RESPONSES TO WRITTEN QUESTIONS OF SENATOR VITTER
FROM DANIEL J. IKENSON
Q.1. Article IV, Section 1 of the Articles of Agreement of the
International Monetary Fund (IMF) commits member countries to
``avoid manipulating exchange rates or the international
monetary system in order to prevent effective balance-of-
payment adjustment or to gain unfair competitive advantage over
other member countries.'' Moreover, the principles and
procedures for implementing the Fund's obligation (in Article
IV, Section 3) ``to exercise firm surveillance over the
exchange rate policies of members'' call for discussion with a
country that practices ``protracted large-scale intervention in
one direction in exchange markets.'' Would it be incorrect to
state that China's exchange rate policy violates most relevant
international norms and standards?
A.1. China's exchange rate policy is no doubt frustrating to
policymakers who believe--or who want their constituents to
believe--that the undervalued Yuan is a major cause of the
bilateral trade deficit, and that the bilateral trade deficit
is a major cause of unemployment in the U.S. manufacturing
sector. Although those causal connections are extremely weak,
the Chinese currency is more than likely undervalued. That
undervaluation has a positive effect on some Chinese and
American interests, and a negative effect on other Chinese and
American interests. Accordingly, it is crucial that
policymakers consider the broader effects of Chinese currency
appreciation--its impact on U.S. prices, global commodities
prices, the costs of production for U.S. manufacturers that
rely on imported raw materials and components, et cetera--
before pulling the trigger on legislation designed to compel
Chinese revaluation.
Despite all of the media and political hype, it would be
difficult to convince an objective jury that China's exchange
rate policy ``violates most relevant international norms and
standards.'' Why? For starters, China is only one of 58
countries in the world that pegs the value of its currency to
the value of another currency or to the value of a basket of
other currencies. Nearly one-quarter of the world's sovereign
nation-states engages in overt currency manipulation. So, in
that sense, China's behavior is not extraordinary.
The standard articulated in Article IV, Section I of the
Articles of Agreement of the International Monetary Fund (IMF)
to ``avoid manipulating exchange rates or the international
monetary system in order to prevent effective balance-of-
payment adjustment or to gain unfair competitive advantage over
other member countries'' is a difficult one to meet. How does
one prove that ``prevent[ing] effective balance-of-payments
adjustment'' or ``gain[ing] unfair competitive advantages over
other member countries'' is the motive for currency
manipulation, as opposed to some other more benign motive? It
is quite plausible that the Chinese government is worried about
the effect of Yuan appreciation vis-a-vis the U.S. dollar
because its investment portfolio includes nearly $1 trillion of
U.S. government debt. A 25 percent depreciation of the dollar
amounts to a loss of $200 billion of those debt holdings. Thus,
protecting the value of those holdings may be an important
motive for keeping the exchange rate stable.
At the end of the day, though, China stands out among the
group of 58 countries that peg their currencies to the value of
another. China is the largest economy among them and its
enormous volume of trade and investment flows require a much
higher level of intervention in currency markets, which has
resulted in the accumulation of nearly $2.5 trillion in foreign
currency reserves. China and the world would be better off if
the value of the Yuan were market determined, and if those
foreign reserves were reinvested around the world, where
capital is most needed and can be deployed most productively
and efficiently.
But it would be a reflection of political expedience and
economic mismanagement if sanctions were imposed to compel
China to revalue or float its currency because such actions
would likely generate even greater costs for the U.S. economy
and have more serious consequences for the bilateral
relationship.
Q.2. Given that China refuses to use nominal appreciation to
rebalance the Chinese and global economies, assuming currency
manipulation and protectionism are not the root cause, what is
the economic rationale for China's insistence on a stable RMB?
A.2. The desire for stability, as opposed to uncertainty,
explains the Chinese government's commitment to a currency peg.
Investors like certainty; planners like predictability. Within
that framework, I believe the Chinese government knows it is in
China's best interest, eventually, to allow supply and demand
to determine the value of its currency. The government
recognizes that the Chinese economy will have to become less
reliant on exports and more reliant on domestic consumption to
fuel its economy, which is a transition that is fostered by an
appreciating currency. But at the same time, the government is
worried about disrupting the double-digit annual economic
growth it has experienced nearly without interruption for three
decades. China's reluctance on the currency issue is a
reflection of the government's aversion to tinkering with a
model that has been hugely successful.
Does China's insistence on currency intervention harm U.S.
interests? It carries adverse consequences for some interests
and benefits for other, just as appreciation of the Yuan will
carry benefits for some and costs for others. The undervalued
currency probably suppresses, somewhat, the sales of U.S.
exporters, which, incidentally, have been rising by 20 percent
each year since China joined the World Trade Organization in
2001. But the effect of an undervalued Yuan on import-competing
U.S. producers is less clear. The cheaper Yuan artificially
inflates the costs of production in China, where one-half to
two-thirds of the value of Chinese exports is first imported
into China as raw materials and components. Yuan appreciation
will reduce the cost of production by making those inputs
cheaper, enabling Chinese producers to lower their prices for
export to the United States.
Finally, currency stability acts as a buffer that supports
the value of China's nearly $1 trillion holding of U.S.
government debt. Yuan appreciation against the dollar will
reduce the value of those holdings, which is already exposed to
devaluation that would result from inflationary U.S. monetary
policy. Since the rate of U.S. inflation is purely in the hands
of U.S. monetary authorities, China is reluctant to relinquish
its control of the exchange rate.
If the U.S . Congress were more responsible with the
taxpayers' money, and did not insist on spending beyond its
means, there would be no need to borrow from the Chinese or any
other government. And the corresponding interest of those debt
holders in a strong dollar would be mitigated.
Additional Material Supplied for the Record
LETTER FROM DAMON A. SILVERS, POLICY DIRECTOR AND SPECIAL COUNSEL, AFL-
CIO
LETTER FROM ERIK O. AUTOR, VICE PRESIDENT, INTERNATIONAL TRADE COUNSEL