President-elect Donald Trump famously vowed to label China a “currency manipulator” on his first day in the White House. 650 days and four semi-annual reporting cycles later, President Trump has yet to fulfil that promise. And with good reason. The yuan is not undervalued; on the contrary, it trades in foreign exchange markets at a price that the International Monetary Fund (IMF) recently concurred is broadly in line with fundamentals. Even by the U.S. Treasury Department’s rules on currency manipulation and misalignment, which are less demanding than the IMF’s rules on the subject, China is no “currency manipulator.” And, indeed, it should not even be placed on the Department’s ‘Monitoring List’ – as it has for the past five reporting cycles - as per Treasury’s own objective determination standards.
On October 17, three months into Donald Trump’s unilateral and illegal imposition of Section 301 tariffs on China, his Treasury Department released the latest edition of its semi-annual evaluation of the Macroeconomic and Foreign Exchange Policies of Major Trading Partners. As per the U.S. Treasury’s determination standards, a foreign trade partner is deemed to be engaging in unfair currency practices to gain a competitive advantage in international trade if it satisfies three thresholds. These are: first, a bilateral trade surplus larger than $20 billion to confirm a finding that it is significant; second, a current account surplus larger than 3%t of that economy’s GDP to find that it is material; and, third, repeated net purchases of foreign currency to the tune of 2% or more of its GDP over the prior twelve month period to find guilt of persistent one-sided intervention.
Should the trading partner satisfy all three criteria, it is to be subjected to an “enhanced bilateral engagement” process with meaningful penalties attached. Should the trading partner satisfy two of three criteria, it is to be placed on a ‘Monitoring List’ and kept under close watch.
As per the latest edition of the Currency Report, China ran a modest current account surplus of 0.5% of GDP, a vast improvement from a peak of almost 10% of GDP in 2007; as such, the surplus was not material. Parenthetically, China’s current account surplus is far smaller than its East Asian peers - Japan, South Korea and Taiwan’s surpluses as a proportion of GDP are many multiples larger. Next, despite the yuan’s 7% weakening since the imposition of Trump’s tariffs in July, the People’s Bank of China’s net intervention in currency markets was by-and-large neutral; as such, there was no evidence of persistent one-sided intervention. Parenthetically, the yuan on a real effective basis remains more than 20% above its 20-year average and 40% above where it stood in July 2005. Finally, China’s goods trade surplus with the U.S. at $390 billion over the past four quarters vastly exceeds the $20 billion threshold; as such, it was judged to be significant.
Having satisfied just one of three thresholds, Beijing should not have been placed on the ‘Monitoring List.’ Consistent with the previous reports issued by the Trump Administration however, China was placed on the ‘Monitoring List’ because of its “disproportionate share of the overall U.S. trade deficit.”
Secretary Steve Mnuchin’s leadership at the Treasury Department on the currency issue nevertheless needs to be acknowledged. Of the various executive branch economic actors (Commerce Department, National Economic Council, United States Trade Representative, Office of Trade and Manufacturing Policy), the Treasury Department has played the least-irresponsible role in prosecuting the Administration’s trade and technology fight against China. The assessment factors which guide the criteria to determine ‘manipulation’ ($20 billion bilateral trade surplus; 3% of GDP current account surplus; net purchases of foreign currency in excess of 2% of GDP) were devised by Barack Obama’s senior Treasury officials. Given the ‘Anything but Obama’ fixation of the Trump Administration, Secretary Mnuchin could easily have fiddled with these factors to conveniently find, and thereafter label, China a “currency manipulator” (or prepared the ground to do so in the Spring 2019 reporting cycle.)
Worse, he could have borrowed the stained playbook of USTR Robert Lighthizer and, without confirming any breach by Beijing of the U.S.’ currency-related international legal rights, recommended that countervailing duties be imposed on China to offset the margin of ‘subsidy’ conferred on China’s exports due to the yuan’s recent (market-driven) devaluation. To be clear, such duties would violate the WTO’s Agreement on Subsidies and Countervailing Measures. A currency’s value cannot be treated as a prohibited and hence countervailable export subsidy. Fidelity to international economic treaty law is not known to be one of the Administration’s stronger points however. Flagrant violation of the WTO’s foremost two treaty articles did not deter USTR Lighthizer from recommending (and President Trump from imposing) his Section 301 tariffs, which now ensnare a quarter trillion dollars of bilateral trade.
On both counts, Secretary Mnuchin has displayed more principle and integrity than the entire White House economic crew combined.
In late-August, China’s soft-spoken ambassador to the U.S., Cui Tiankai, categorically ruled out that China could be made to swallow a second Plaza accord, akin to the one imposed on the Japanese in the mid-1980s. The Plaza Accord of September 1985 saw the yen skyrocket in value from 242 to the dollar to 120 by 1988. More broadly, the yen appreciated from 242 at the time of the accord to as high as 81 to the dollar in April 1995. Yet appreciation did nothing to correct the large U.S.-Japan trade imbalance but did assist in heaping stagnation and deflation on the Japanese economy. Worse, the threat to fuel yen appreciation became a handy implement in the toolkit of American trade negotiators as they bid to foist unpalatable market opening demands on Tokyo. The People’s Bank of China has undoubtedly internalized the searing lessons learnt by the Bank of Japan in placing international currency coordination (for trade rebalancing purposes) above domestic monetary and financial stability considerations. The U.S. should not hope for a second Plaza Accord to remedy its trade imbalance with China.
It is encouraging to note in this regard that in an Administration otherwise frozen in its view of Asian practices from the 1980s and which seems determined to resurrect the anachronistic trade enforcement toolkit of that day, there are voices of sanity and reason within. With Donald Trump having launched a multi-front trade war since April 2018, there could have been no better time to label China a ‘currency manipulator’ (evidence be damned) and slap additional duties on imports from China Secretary Mnuchin and his team at Treasury deserves credit for preventing this. For the next six months at least, the trade war will not be broadened to the currency front. By then, hopefully, President Trump and President Xi will have laid an emerging pathway out of their mutually destructive trade and technology policy quarrel.