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Consequences to Come for China's Currency Manipulation

Consequences to Come for China's Currency Manipulation

President Donald Trump has constantly stated that China is a currency manipulator and promised to label the country as so once in office. 

Last week, he expressed similar sentiments in a meeting with leaders from pharmaceutical companies.

“Every other country lives on devaluation…You look at what China’s doing, you look at what Japan has done over the years. They…play the money market, they play the devaluation market and we sit there like a bunch of dummies,” said Trump. 

Many experts agree that China manipulates it’s currency. 
 
“The country ties the value of its currency, the renminbi (also called the yuan), to the value of a weighted average of other currencies; it can only trade within a narrow band set by the government. If market forces try to push the yuan out of that range, the government trades in the foreign-exchange markets until the currency is back within its bounds,” writes Bloomberg.
 
Back in the 2000s, China’s currency was purposely being undervalued. This helped to balance the large trade deficit between the country and the U.S. Although the U.S. continued to get goods from China, America acquired a long list of IOUs. Not to mention, it hurt U.S. workers since inexpensive goods from overseas were readily available. 
 
Even though this was somewhat common knowledge, the U.S. hasn’t declared China as a currency manipulator since 1994.

“But in recent years, the situation has changed. The yuan is no longer undervalued. As China’s economy slows and its asset markets look shaky, capital is flowing out of the country. That pushes the value of the yuan down. China still manipulates its currency, but it’s now probably propping it up rather than holding it down. If China ends its manipulation, the yuan will probably get even cheaper, making its goods even cheaper in the U.S.,” writes Bloomberg.

 
China has relied heavily on foreign currency reserves, which are also dropping.

“China’s foreign exchange reserves unexpectedly fell below the closely watched $3 trillion level in January for the first time in nearly six years, though tighter regulatory controls appeared to making some progress in slowing capital outflows. China has taken a raft of steps in recent months to make it harder to move money out of the country and to reassert a grip on its faltering currency, even as U.S. President Donald Trump steps up accusations that Beijing is keeping the yuan too cheap” writes Forbes. 

So with all of this in mind, Trump is right about China.

Now experts from Deutsche Bank are saying the president will declare the country as a currency manipulator sooner than later.

“Some time in the next couple of weeks, we think it is likely that President Trump will declare China a currency manipulator and propose penalties if it does not enter into negotiations to lower its trade surplus with the US,” said Michael Spencer, chief economist at Deutsche Bank in a clients note, according to Business Insider. “This has been a consistent campaign promise and he has demonstrated since taking office his determination to deliver on his promises, however controversial.”

 
So what will the impact be? 

 
Forbes‘ writer, Adam Smith believes this will only hurt the U.S. 

“The general demand is that China stop manipulating the value of its currency. OK, so, let’s insist upon that. The value of the yuan will fall, Chinese exports to America will be cheaper and we might well then see an increase in the US trade deficit. Which isn’t really what the people complaining about manipulation want, is it? But it may well be what they’re about to get,” writes Smith for Forbes

 
While, Spencer predicts a somewhat different future. 
 
“In the trade policy realm, the authorities have signaled that they’ll respond with tariffs in proportion to the US move. So a sector-by-sector application of anti-dumping tariffs, for example, will likely be met by a similar response from China. An across-the-board tariff on all imports from China would likely be met by a similar response on the Chinese side,” the Deutsche Bank note read. “But we think China’s currency policy is unlikely to change materially in the event it is labeled a currency manipulator. We do not expect them to refrain from intervening and move to free float — which would likely lead to a large depreciation — nor would we expect a one-off devaluation. The authorities have had three years to allow a large sudden depreciation and even the modest 3% devaluation in August 2015 seems to have been too much volatility for them. At most, a controlled depreciation such as we observed in the first half of 2016 would be possible, in our view.”

 

Nonetheless, things are not looking good for China, even if Trump doesn’t label the country as an official currency manipulator. 
 
“Xi’s hands are tied: Propping up the value of the yuan is going to force him to use his dollar reserves or to raise interest rates in an already volatile market. The Chinese are getting to a place where manipulation will be a lot more difficult than it has been in the past’, writes John Mauldin for Forbes. 
 

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  1. Really? Your solution would be to send a bunch of nut-jobs to the border and just let them shoot all…