PDF _ RL32165 - China’s Currency: Economic Issues and Options for U.S. Trade Policy
22-May-2008; Wayne M. Morrison and Marc Labonte; 55 p.

Update: Previous releases:
July 15, 2007
June 28, 2007

Abstract: The continued rise in China’s trade surplus with the United States and the world, and complaints from U.S. manufacturing firms and workers over the competitive challenges posed by Chinese imports have led several Members to call for a more aggressive U.S. stance against certain Chinese trade policies they deem to be unfair. Among these is the value of the Chinese yuan relative to the dollar. From 1994 to July 2005, China pegged its currency to the U.S. dollar at about 8.28 yuan to the dollar. On July 21, 2005, China announced it would let its currency immediately appreciate by 2.1% (to 8.11 yuan per dollar) and link its currency to a basket of currencies (rather than just to the dollar). Many Members complain that the yuan has only appreciated only modestly (about 6%) since these reforms were implemented and that China continues to “manipulate” its currency in order to give its exporters an unfair trade advantage, and that this policy has led to U.S. job losses. Numerous bills were introduced in the 109th Congress to address China’s currency policy, and these efforts have continued in the 110th session.

If the yuan is undervalued against the dollar (as many analysts believe), there are likely to be both benefits and costs to the U.S. economy. It would mean that imported Chinese goods are cheaper than they would be if the yuan were market determined. This lowers prices for U.S. consumers and dampens inflationary pressures. It also lowers prices for U.S. firms that use imported inputs (such as parts) in their production, making such firms more competitive. When the U.S. runs a trade deficit with the Chinese, this requires a capital inflow from China to the United States. This, in turn, lowers U.S. interest rates and increases U.S. investment spending. On the negative side, lower priced goods from China may hurt U.S. industries that compete with those products, reducing their production and employment. In addition, an undervalued yuan makes U.S. exports to China more expensive, thus reducing the level of U.S. exports to China and job opportunities for U.S. workers in those sectors. However, in the long run, trade can affect only the composition of employment, not its overall level. Thus, inducing China to appreciate its currency would likely benefit some U.S. economic sectors, but would harm others.

Critics of China’s currency policy point to the large and growing U.S. trade deficit ($233 billion in 2006) with China as evidence that the yuan is undervalued and harmful to the U.S. economy. The relationship is more complex, for a number of reasons. First, an increasing level of Chinese exports are from foreign-invested companies in China that have shifted production there to take advantage of China’s abundant low cost labor. Second, the deficit masks the fact that China has become one of the fastest growing markets for U.S. exports. Finally, the trade deficit with China accounted for 26% of the sum of total U.S. bilateral trade deficits in 2006, indicating that the overall U.S. trade deficit is not caused by the exchange rate policy of one country, but rather the shortfall between U.S. saving and investment. That being said, there are a number of valid economic arguments why China should adopt a more flexible currency policy. For a brief summary of this report, see CRS Report RS21625, China’s Currency: A Summary of the Economic Issues, by Wayne M. Morrison and Marc Labonte. This report will be updated as events warrant.

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Topics: Economics & Trade, International

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