China-US Focus

By Rob Nichols

On October 11th, the Senate passed S.1619, “The Currency Exchange Rate Oversight Reform Act of 2011,” by a vote of 63 to 35, with 47 Democrats and 16 Republicans supporting.  The bill would allow “fundamentally misaligned” currencies of any trading partner to be labeled a subsidy and, therefore, subject to countervailing duties.

The clear target of the legislation is China.  Senators hope passage of the bill will increase pressure on China to accelerate the appreciation of yuan relative to the dollar.  China has allowed the yuan to appreciate by about 7 percent over the past year, but most analysts agree that the yuan remains significantly undervalued.  There has been no formal word yet as to when or whether the bill will be addressed by the House of Representatives.  House Speaker John Boehner has called efforts to punish China for its currency policies “wrong” and “dangerous.”  For its part, the Obama Administration has repeatedly said that any action taken in response to China’s undervalued currency must be consistent with international treaties and obligations.

There is no doubt that China needs to take more decisive action toward a more market-determined yuan.  As the world’s second largest economy, China’s aggressive management of the yuan’s value – and the associated distorting impact of that aggressive management on trade flows – is incongruent with China’s status as the world’s second largest economy.  Moreover, by pegging the value of the yuan to the dollar, China has effectively outsourced its monetary policy to the Federal Reserve.  For these and other reasons, a market-determined yuan would yield substantial benefits to both China and the global economy.

But legislative action by Congress to use anti-dumping rules and countervailing duties to address the currency issue is not the right approach.  Such punitive action might well entail significant negative trade-related consequences for the United States at a time of continued economic fragility.  China is now America’s third largest export market – with exports to China growing at six times the pace of our exports to the reset of the world.  Punitive action by the U.S. will only antagonize one of our largest, fastest growing, and most promising export markets.

A far wiser approach is to redouble efforts toward fostering a more constructive and productive dialogue between China and the United States.  The high-level Strategic & Economic Dialogue (S&ED) and other discussion frameworks such as the U.S.-China Joint Commission on Commerce and Trade (JCCT) are the appropriate mechanisms for pursuing faster and more significant progress with regard to China’s currency, further modernization of China’s financial system, and greater foreign participation in China’s economy.  An important first step toward enhancing these existing dialogues would be to restore the S&ED’s original focus on accelerating reform and modernization of China’s financial system, and restore the frequency of S&ED meetings to twice a year from the current annual schedule.

A more modern and effective financial system is essential if China is to achieve its stated objective of shifting from a manufacturing-for-export economic model to the more sustainable growth path of a more services-based and consumer-driven economy – an objective very much in the interest of the United States.  Fair and competitive access to China’s fast-growing middle class and business sector represents an enormous commercial opportunity for American manufacturers, services providers, and farmers.

Activating China’s 1.3 billion consumers is the surest pathway toward correcting, and even reversing, the current trade imbalance with China, as increased exports to China translate into jobs for Americans.  But successfully activating China’s 1.3 billion potential consumers requires the availability of financial products and services – savings and investment products, personal loans, credit cards, mortgages, pensions, insurance products, and retirement planning – that will facilitate consumption by eliminating the need for “precautionary saving” currently practiced by most Chinese households.  

The fastest way for China to acquire the modern financial system it needs to continue growing on a more sustainable basis, allow for a more flexible currency, and activate the Chinese consumer is to import it – that is, opening its financial sector to greater participation by foreign financial services firms.  Foreign financial institutions bring world-class expertise and best practices with regard to products and services, technology, credit analysis, risk management, internal controls, and corporate governance.  By helping to stimulate consumer and business demand within China, greater market access for U.S. financial services firms will also play an important role in doubling U.S. exports, promoting economic growth and creating jobs here in America.

The currency legislation passed by the Senate will accomplish little more than increase tensions, risk a destructive trade war, and dissuade China from further opening its enormous market to U.S. producers and services providers.  Active and persistent dialogue, while hard work and more often entailing incremental progress, has achieved a great deal over the past 25 years and is most consistent with building trust and emphasizing mutual interest between the United States and China.  While incremental progress can be frustrating at times, progress is far better than drift – or the backsliding that heightened hostility would likely lead to.  Given the importance of the U.S.-China relationship to both nations and to the global economy, we urge policymakers to recognize the significant progress achieved to date and to build on that progress by rejecting punitive legislation.

Rob Nichols is president and CEO of the Financial Services Forum, a nonpartisan financial and economic policy organization comprising the CEOs of 20 of the largest financial services institutions in the U.S.  Nichols also chairs “Engage China,” a coalition of 12 financial services trade associations united in support of high-level engagement with China with an emphasis on greater market-opening reform and financial services modernization.