On Wednesday, the House of Representatives is set to pass legislation that would allow trade sanctions to be imposed on China as compensation for its supposedly undervalued currency. This vote comes a week after President Obama, in a private meeting with Prime Minister Wen Jiabao, was reported to have made it very clear that the United States is, indeed, prepared to take forceful actions if China doesn’t budge on this critical issue. Unfortunately, forcing such a currency realignment would be a blunder of historic proportions.
In a recent meeting with Mr. Wen in New York, I framed the dispute between our two nations in a very different light. The gist of what I told him is this: The economic tensions between the United States and China arise because of two things we have in common.
First, there is our shared fixation on jobs. In the United States, we continue to struggle with high rates of unemployment and underemployment. In China, policymakers continue to worry about what they term “social stability” — that is, full employment, absorption of surplus rural labor and reduced inequalities consistent with their aspirations for a “harmonious society.”
Second, for both China and the United States, there are major imbalances in the percentages of gross domestic product devoted to exports, investment, consumption and savings.
These joint concerns have resulted in serious tensions that must be resolved. There are, however, two very different potential strategies to address these tensions: a major currency realignment, favored by many in the United States, or structural policies aimed at increasing China’s internal private consumption.
The currency fix won’t work. At best, it is a circuitous solution that would address only one of the many pressures shaping the imbalances between our two nations; at worst, it would lead to a trade war, or risk jeopardizing China’s understandable focus on financial and economic stability.
Besides, in a highly competitive world, there are no guarantees that currency shifts would be passed through to foreign customers in the form of price adjustments that might narrow trade imbalances. Similar fixes certainly didn’t work for Japan in the late 1980s, and haven’t worked for the United States in recent years. We’ve allowed the dollar to fall 23 percent — in inflation-adjusted terms — from its early 2002 peak, against all of our trading partners; we did this in the hopes that a weaker dollar would stimulate exports and domestic production. Yet America continues to struggle with high unemployment and stagnant wages, and now has trade deficits with 90 countries around the world.
This latter point underscores the danger in politicizing this debate. Contrary to accepted wisdom, America does not have a bilateral trade problem with China — it has a multilateral trade problem with a broad cross-section of countries.
And why do we have these deficits? Because Americans don’t save. Adjusted for depreciation, America’s net national saving rate — the sum of savings by individuals, businesses and the government sector — fell below zero in 2008 and hit -2.3 percent of national income in 2009. This is a truly astonishing development. No leading nation in modern history has ever had such a huge shortfall of saving. And to plug that gap, we’re left to borrow and to attract capital from lenders like China, Japan and Germany, which have surplus savings.
If Washington were to restrict trade with China — either by pushing the Chinese currency sharply higher or by imposing sanctions — it would only backfire. China could very well retaliate against American exporters, and buy goods from elsewhere (a worrisome development in what is now America’s third-largest export market). Or it could start to limit its purchase of Treasury securities.
The United States would then have to turn to some other nation or nations, at a higher cost, to finance our budget deficits and make up for our subpar domestic savings. The result would be an even weaker dollar and increased long-term interest rates. Worse still, as trade was redirected away from China, already hard-pressed American families would be forced to buy products that are noticeably more expensive than Chinese-made imports.
But Washington remains unwilling to address our unprecedented saving gap, and instead tries to duck responsibility by blaming China. Scapegoating may be good politics, but proposing a bilateral fix for a multilateral problem is just bad economics.
China should stay the course with its measured currency reforms, allowing the renminbi to continue to appreciate gradually and steadily over time. Contrary to the inflammatory rhetoric of China’s critics, this is not “manipulation.” It is a reasonable strategy to anchor the renminbi to the world’s reserve currency, the dollar, in an effort to maintain financial stability in an all-too-unstable world.
Nonetheless, China must address its role in fostering global imbalances. For China’s people and its trading partners, consumption has long been the missing link in an otherwise vibrant economy. China’s gross domestic saving rate is 54 percent of national income, the highest in the world for a major economy. But its consumption share of G.D.P. is only about 36 percent, the lowest for a major economy and about half the 70 percent ratio in the United States.
I would therefore urge China to opt for aggressive and immediate pro-consumption structural policies. Stimulating domestic consumer demand would be a far more direct — and potentially a far less destabilizing — way of reducing saving and trade imbalances than a currency realignment would be.
These policies should include an expanded social safety net, with a public retirement program, private pensions and medical and unemployment insurance. China should also provide major support for rural incomes through tax policy and land ownership reform, as well as enhanced initiatives to encourage rural-urban migration. And it should encourage the creation of service-oriented jobs in industries like retail and wholesale trade, domestic transportation, leisure and hospitality.
During our recent meeting, Mr. Wen openly agreed with these three pro-consumption initiatives. My hope is that such measures will be featured prominently in China’s 12th five-year plan, for 2011-2016, because they could provide an important impetus to Chinese employment, personal income and consumer purchasing power.
That would be a win-win for China and the broader global economy. After all, the import share of China’s G.D.P. is quite high — 28.5 percent in 2008, a figure that suggests the Chinese are predisposed to buy foreign goods. Any increase in Chinese consumption would therefore offer a potentially powerful opportunity for American-made goods and services.
China bashers are blind to these critical points. No nation has ever devalued its way to prosperity. A weaker dollar, or the mirror image of a stronger renminbi, would be no exception to that time-honored premise. America’s own economic miracle has long been defined by our ability to meet competitive challenges head on. And a China that starts to consume more would offer us precisely the opportunity we need to rise to that challenge again.
The Chinese leadership must now make the urgent choice about how to best deal with political and economic pressures coming from the United States and others. Congress has opted for the low road of misdirected currency bashing. China should take the high road by providing immediate and long-overdue stimulus to private consumption.
Stephen S. Roach, a senior fellow at the Jackson Institute for Global Affairs at Yale and the non-executive chairman of Morgan Stanley Asia.