Washington’s designation of China as a “currency manipulator” on August 6th took many by surprise. Less than three months ago, the US Treasury Department concluded that China did not meet its criteria as a currency manipulator. Washington’s latest decision to hit China with this classification is the first time an American government has done so against the Asian power since 1994. This move came just hours after US President Donald Trump accused China of weakening its currency to create an unfair trade advantage.
Globally, the International Monetary Fund is the authority on foreign exchange policy. It monitors the economic and financial policies of its 189 member countries and regularly assesses their external positions. In its annual review of the Chinese economy that was released on August 9, the IMF noted that China’s current account surplus — a major measure of a country’s foreign trade — was reduced to 0.4 percent of its GDP in 2018. Moreover, the IMF expects the ratio to hover around 0.5 percent in 2019. It further confirmed that China’s external position in 2018 was broadly in line with fundamentals and desirable policies of the Chinese economy, and that since the beginning of 2019 the picture has not changed. In a rebuttal to the US’s assertion, the IMF’s report clearly shows that there is no evidence that China’s central bank had arbitrarily weakened the RMB.
Unlike other countries, the US has set up a system of its own with its own criteria to judge the foreign exchange policy of other countries. For a country to be qualified as a “currency manipulator” under the US system, it must simultaneously meet three conditions. First, the country must have a bilateral trade surplus with the US of at least $40 billion. Second, the country must have an overall current surplus of at least 2% of GDP. Third, the country must have accumulated foreign exchange reserves of at least 2% of GDP over the preceding six months. However, even by the US’s own criteria, China is far from being “qualified” as a currency manipulator. China meets only one of the three criteria. Thus, labelling China as a “currency manipulator” not only runs contrary to the consensus of the international community, but also breaches the US Treasury’s own guidelines.
The manner in which the US designated China as a currency manipulator was also nothing short of extraordinary. The move came just hours after the RMB-to-USD exchange rate fell to 7:1 — only 2 percent lower the previous trading date’s rate. The fluctuation was quite small compared with the movements of the currencies of Turkey, some Latin American countries, or Japan, all three of which had occasional volatility that exceeded that of the aforementioned RMB-USD change. Furthermore, by basing its decision on a single day’s movement, the Trump administration has exposed itself as being rash and absurd.
According to former US Secretary of the Treasury Laurence Summers, “the move down in the yuan on Monday was not artificial—it was an entirely natural market response to newly imposed U.S. tariffs.” As Mr. Trump’s threatened tariffs on Chinese goods upended a truce reached in June between Trump and his Chinese counterpart President Xi Jinping, pressure was being put on China’s already slowing economy, heightening market jittery. The market dynamics in turn depressed the value of the renminbi.
China does not consider significant depreciation of its currency to be in its interest as a weak renminbi would dent market confidence at a time when confidence is deemed more precious than gold. The nightmare of 2016 when loss of confidence in the renminbi spurred a massive outflow remains vivid in the memory of China’s central bankers.
In fact, China’s interventions in currency markets since mid-2014 have been to prevent its currency from depreciating too much or too rapidly, rather than driving it down. Consequently, the renminbi has priced stronger against its currency basket.
Governor Yi Gang of the People’s Bank of China – the country’s central bank - has indicated recently that the fall below seven renminbi to one dollar would not affect China’s commitment to “fundamental stability” for the renminbi. China’s central bank is thus expected to tightly manage exchange rate expectations and prevent the currency from depreciating significantly. As an evidence to its commitment, the central bank announced last week that it planned to issue $44 billion in renminbi-denominated bonds on August 14 in Hong Kong.
Many analysts speculate that the U.S. currency manipulation charge is part of its trade war strategy, designed to pressure China to accept its terms in the trade negotiations. Washington believes that a weaker yuan will help cushion the effects of the trade war on China, offsetting the impact of the punitive tariffs on Chinese goods.
But, instead of bringing China to its knees, the US’s new charge only heightened tensions between the two countries, putting more ice on the already frozen trade talks. The possibility of Washington following through with the threatened tariffs only perpetuates the one-year long trade war, throws the planned trade talk in September into greater uncertainty.
Moreover, by labeling China a currency manipulator, Washington has opened up another battle front in its hostility to China in an already complex war that includes tensions and disagreements over trade, technology, the South China Sea, and Taiwan. The trade war between the two countries is now on the cusp of morphing into a financial currency war. Washington’s latest provocation may be just an opening salvo of its all-out confrontation with China.
The US said that it intended to look for the IMF to vindicate its assertion, but it is highly likely that it will be disappointed by what it will receive from the organization. As evident in the IMF’s recent report, few in the organization share Washington’s position on China’s exchange rate policy, and even fewer agree with its approach.
While seeking the IMF’ endorsement, however, the US may take other financial measures against China. In its desperate attempt to keep China inferior to the US, the US may be unable to resist the temptation to capitalize on its dominant position in the international financial system. There is a growing concern that currency exchange market developments will become an excuse for more stringent restrictions on Chinese investment in the US and a ban on US companies’ investments in China. In addition, Washington may punish Chinese entities by placing them on the Specially Designed Nationals and Blocked Persons List. More importantly, Washington may weaponize CHIPS and SWIFT, trying to cut China off the global payment systems.
To be sure, such measures are nothing but extreme and radical. They are bound to wreck enormous havoc and cause major damage to both countries and the world. However, the concern is not entirely without reason. When fear triumphs over logic and rationale, nothing would be off limits for those advocating zero-sum games.