China Devaluation Exposes Fragility of Globalized Economy


“If the U.S. doesn’t write the rules, China will write the rules,” is a slogan that President Obama has repeated endlessly to sell the Trans-Pacific Partnership (TPP). The president is in effect saying that the United States would force China into complying with a U.S.-preferred set of rules simply by setting them down in the TPP.

This claim is an analytically-free assertion if there ever was one, and completely unlikely even if China joined the TPP in the future. Yet the slogan was also mouthed mindlessly by Republican free-trade parrots during the congressional debate on Trade Promotion Authority (TPA), as though it had some credibility and thus application to reality.

The disconnect between Obama-Republican TPP propaganda and Chinese economic policy was on full display this week as China, in a surprise move, devalued its currency roughly four percent against the U.S. dollar, sending stock markets around the world into panic selling. Beijing announced its rationale after-the-fact: It was instituting a “new system” in which its currency would float more freely than it had in the past.

The key here is more “freely” because the Chinese are not by any means letting market forces value the yuan. No, they’re just taking into account the previous day’s pricing among several other factors in determining the value band in which they allow the yuan to trade.

So the upshot is that while the Obama-Republican coalition believes it can constrain Chinese behavior by relying on some legalistic “rule-writing,” China writes whatever “rules” it needs to accomplish its goals— and without much thought to American preferences or to the world economic system.

Nor is China confined only to its own economic rules. Its military island-building in the South China Sea, self-proclaimed Air Defense Identification Zone, other territorial island claims, computer hacking, and potential weaponization of space, all demonstrate that China will do what it wants to do, across the board.

Predictably, some “experts” argue that the “new” currency system was another great leap forward on the road to free markets — as though China’s leadership has any intention of following the Smith-Ricardo free-trade paradigm or any real interest in free markets and their efficiencies. The Chinese government is interested only in creating absolute advantage for its enterprises and a high standard of living for its people. And it achieves these objectives in part by keeping its currency undervalued. Even as the expert opinions were offered, the Chinese central bank apparently intervened in the “new, freer system” to prevent the yuan from sliding further downward, thus causing more turmoil in world markets and international political confrontation.

The International Monetary Fund (IMF) released a statement that accepts China’s stated rationale for the devaluation, i.e., Beijing is moving toward market-determined exchange rates. The IMF even says that China should achieve market-based rates in two to three years. Of course, implicit in the IMF’s observations is the fact that China currently has a manipulated currency, about which the IMF has done exactly nothing these many years. Nor have the last three U.S. presidential administrations — except, of course, to lecture the Chinese leadership on the benefits of free markets in their biannual meetings. The U.S. Treasury Department’s statement on the devaluation was more-of-the-same, signaling to Beijing that currency manipulation is a freebie, much as President Obama did in his misguided speech at Nike in May, declaring currency manipulation a “problem in the past.”

The underlying reason for China’s devaluation is that its economy is showing signs of weakness, decelerating from years of spectacular growth perhaps to a level below 7 percent. There is political danger for the Chinese communist party in slow growth. The ruling elite derive whatever legitimacy they enjoy at home from the high growth rates of the last 20 years. Devaluation can be a growth mechanism because it gives a country’s manufacturers a competitive advantage, thanks to lower prices for their goods relative to those of their trading rivals. Domestic American manufacturers lose market share, shed factories and jobs and suffer lower profitability in these circumstances.

Thus the devaluation, coming at a time when Chinese manufacturers need to boost their exports to spur growth, is immediately suspect as another battle in the “currency war” that China has been waging since its competitive devaluation of January 1, 1994 and its ongoing undervaluation of the yuan, even as the country has run large trade surpluses and accumulated massive foreign reserves. For America, the net result of this currency war has been the transfer of thousands of factories and millions of jobs to China.

Yet President Obama, USTR Michael Froman, and Treasury Secretary Jack Lew have refused to seek enforceable sanctions for currency manipulation — in the TPP, in its Trans-Atlantic counterpart, or in bilateral negotiations with known manipulators. Instead of following Congressional instructions contained in Trade Promotion Authority and proposing enforceable sanctions against currency manipulation in the most recent round of TPP talks in Maui, the administration tried to set up a consultative mechanism among Finance Ministers and Central Bankers, a sure-fire formula for inaction.

Those who claim that the devaluation puts China on the path to free markets should bear in mind China’s other interventionist, anti-market actions. The Chinese government has taken extraordinary steps to prop up its plummeting stock market, including limiting stock sales and tightly controlling futures trading. Recently, it ordered provincial governments and banks to continue lending to failing enterprises. It supports all manner of state-owned enterprises and has continued to push money to over-expanded export industries. Then there is the real estate bubble, with its ghost cities and funds wasted on apartments in which no one lives.

The point is that China is in no way moving to free markets that any common sense American would understand. Its government is highly interventionist, always trying to control economic outcomes on a scale unthinkable in the United States. Think of the Wall Street and Detroit bailouts on an ongoing, nation-wide scale. So the notion that China is evolving into a more market-oriented country is to impose a particularly American perspective on Chinese actions. That’s why the Obama-Republican “write-the-rules” slogan is so foolish.

Misunderstanding the nature of state capitalism in China and the mindset of the Communist leadership endangers the American economy and people. Should there be a larger crisis in the stock market, in housing, or in economic growth, there will be significant negative effects on the world economy. And the American economy, globalized by several decades of free-trade policy makers and politicians at the behest of multinational corporations, will hardly be immune.

Often one hears the pronouncement, “Globalization is here to stay. Get used to it.”

But globalization is not a law of physics. It is the result of a series of policy decisions on trade, investment, intellectual property, labor/human rights, food safety, environment, and many other areas. Some of these decisions can and should be reversed. And the mess does not have to be compounded by Congress’s agreeing to the TPP, especially now that the Chinese have debunked one of its main rationales with their currency devaluation.

America, with $18 trillion in debt, a declining manufacturing base, and a growing dependence on China, is a nation at risk. Our political class should learn from the devaluation scare and act to protect the country from future Chinese shocks.

Kevin L. Kearns is president of the U.S. Business & Industry Council (USBIC), a national business organization advocating for domestic U.S. manufacturers since 1933.