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Knee-jerk critics of the WTO might have overlooked an intriguing exchange that took place in Geneva on June 11. If I understand it correctly, the China flipped and the US flopped.

The exchange arose in the course of the annual trade policy review of the United States conducted this week. China challenged the US to explain the “causal link between dollar depreciation and food price hike, and possibly global wide inflation,” according to a text used by the Chinese representative at the June 11 session.

The US took an obdurate stance in response. First, the dollar exchange rate is “wholly market determined.” China didn’t challenge this.

Second, the USTR-led delegation would not comment on activities of the Federal Reserve, referring the Chinese to the Fed’s Web site. The Chinese understandably found this irritating. The spokesman carped: “it has been the practice of the Review Mechanism that leading agency of a Member would coordinate with and seek response from all other relevant authorities, including those in charge of monetary policies.” That seems not only reasonable but essential to any sort of meaningful policy discussion.

Third, China says the US took the position that “international discussion of these topics would occur in the IMF and the WTO is not the appropriate forum to discuss the US monetary policy.” On this point, the Chinese took great umbrage. They noted that “a continuous depreciation of the US dollar … would obviously affect economy and trade of other [WTO] Members, particularly the developing ones.”

Recalling our comment on Steve Hanke’s analysis of the dollar/rice nexus, that point seems entirely fair. But then the Chinese unloaded on the American “double standard,” noting that at last month’s review of Chinese trade policies, the US had insisted repeatedly on tying to draw China into a defense of its currency policy. The US position, he chided, seemed to be that the “WTO is an appropriate forum to discuss monetary policies of other Members including China, but not of the US.” Ouch!

The WTO’s predecessor was sometimes derided as the Gentlemen’s Agreement to Talk and Talk. The Trade Policy Review Mechanism is one of the best features of the Uruguay Round reforms of the GATT. It forces each country to expose itself periodically to world public opinion. That’s not legally binding, of course, but it does have its uses.

In this case, it has helped China abandon its unreasonable position that exchange rates are “internal matters” that “fall within a country’s sovereignty.” Now, perhaps playing to the developing country majority in the WTO, Beijing takes the sounder position that exchange rates do affect commodity prices and trade and as such fall within the purview of the WTO. That is, exchange rates are a trade as well as a monetary issue. The Treasury would be wise to seize on this opening – whether completely sincere or not-- and convene a closed door meeting with China and other countries with undervalued currencies. An acceptable solution can only be found through negotiation. China’s new position has cracked open the door to real progress. Will the US be pragmatic enough to respond positively?

Charles Blum

Labels: China, Currency

In an interesting op ed piece (“The Fed and the Price of Rice”) in today’s Wall Street Journal, Steve Hanke and David Ranson, aptly concluded that the “rice-price problem is a weak dollar problem.” They added: “Until the dollar strengthens, the nominal dollar prices of rice and other commodities will remain elevated.” This is not a new phenomenon, as they deduce from data dating back to 1949.

Meanwhile, Chinese spokesmen are railing against the weak dollar, suggesting that we ought to do something about it. Sun Zhenyu, China’s WTO ambassador, jabbed his American counterparts with these sarcastic words: "We hope the U.S. will not tell us this time as they did in the early 1970s to the Europeans, to say that ‘it is our currency, but it is your problem.’"

Perhaps the ambassador was surprised this morning when share values in Shanghai and Shenzhen fell by more than 8 percent. The steep decline was attributed to investor concerns the rising prices of food and oil, among other worries. Yet China’s cheap renminbi problem only compounds the problems caused by the weak dollar. As the lower greenback pushes commodity prices up, Chinese importers are forced by their government’s currency policy to pay extra RMB for each extra dollar in the international price. Is it any wonder that that China has an inflation problem?

In just two months, someone in Beijing will proclaim: “Let the Games begin.” On currency, the (blame) game is already underway. There is no individual gold medal in this game, however. In the long run, managing the world monetary system is a team sport in which there are only winners or only losers. Debating points are no substitute for real solutions.

Charles Blum

Labels: China, Currency

In a thoughtful op-ed piece in the weekend Wall Street Journal, Bob McTeer, former president of the Federal Reserve Bank of Dallas, echoed St. Augustine in wishing for a strong dollar – but not just yet. See Valuing the Dollar.

McTeer makes a strong case that a weaker dollar is part of a solution for the unbalanced US and global economies: “My preference,” he stated, “would be for dollar depreciation to reduce the [U.S.] current account deficit and slow the accumulation of dollar assets abroad. That process has already begun.” He concludes by warning: “A premature strengthening of the dollar would slow needed foreign trade adjustment and neutralize foreign trade as a source of domestic demand as we try to avoid a severe recession.”

This argument is a useful antidote to some of the confused economic logic that often beclouds the vision of Washington decision-makers. Experts are quick to bemoan “unsustainable” imbalances in the world economy, the low US savings rate, and our 35-year propensity to consume more than we produce. Their solution seems to be – get this! – coaxing the American consumer to spend more!

McTeer’s argument is a reminder that the default setting for a market economy such as ours is that persistent imbalances will be corrected through market forces. That’s what the depreciating dollar is doing. It will bring with it higher interest rates, higher exports and – contrary to what McTeer hints at – lower, not higher consumption. McTeer also glosses over the negative consequences of a dollar depreciation for those fools – overwhelmingly American citizens – who continue to hold American assets.

Cheapening the dollar may lead to a fire sale of American assets as foreign holders of dollars cash them in for something of real value at historically low process.

So, if the dollar depreciation runs its course without a major shift in American macroeconomic policy, America’s younger generations can inherit a reduced debt burden – hooray! – accompanied by a lower standard of living, reduced purchasing power, and increased foreign ownership of America’s most valuable assets.

That’s a high price to pay just because America’s political leadership does not take seriously the structural problems of the American economy. For starters, let’s adopt a consumption tax at a rate comparable to those in the rest of the world (say, an 18 percent value added tax). Use the proceeds principally to finance a fundamental restructuring of the rest of the tax system – much lower taxes on corporations and individuals and the elimination of a dozen or more nuisance taxes. Crucial to this is to expense – immediately write off – investments in production capacity.

Unless we change the structure of the American economy so that we can produce more than we consume, the market will achieve that end, however brutal and unfair the process might be. Our longstanding structural problems cry out for effective leadership. If the best that the presidential candidates can do is to argue whether the Bush tax cuts should be made “permanent,” our structural problems just might go on forever and along with it a succession of dollar crises.

Labels: Currency