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Washington Not China Is the Real Currency Manipulator Here

Currencies / Market Manipulation Apr 13, 2010 - 06:22 AM GMT

By: Money_Morning

Currencies

Best Financial Markets Analysis ArticleKeith Fitz-Gerald writes: SHANGHAI, People's Republic of China - China just posted its first monthly trade deficit in nearly six years, a $7.24 billion shortfall for March that essentially torpedoes Washington's argument that the Asian giant is a "currency manipulator" of the worst kind.


The Obama administration's assertion that China is artificially keeping the yuan undervalued to gain a global competitive advantage isn't just misguided: It actually demonstrates that Washington lacks even a basic understanding of global economics. Given that the same U.S. leaders who have been pushing to hang this manipulator label on China and impose sanctions are the same ones who tried to end the financial crisis by creating a river of debt that will haunt us for years, I can't say that I'm surprised.

As the U.S. argument goes, pegging its currency to the dollar gives China a distinct advantage when it comes to less-expensive manufacturing and a strong export market. The implication is that somehow this is negatively impacting our economy, or - in a variation of the same logic - holding back our recovery. Washington points to the massive trade deficits we regularly run with that country as evidence of China's currency-market wrongdoing.

In reality, China's pegged currency has done two things. First, it's allowed the United States to keep its inflation rate at a much lower (and more-manageable) level than it should have been in view of the $14 trillion in debt that this country has taken on.

And, second, it's allowed China to fuel its own stimulus package while at the same time assuming a meaningful role in the ongoing global recovery.

Let's take a minute to talk about why this is true.

Every new dollar printed diminishes the value of every dollar that's already in existence. This, in turn, effectively causes the prices of goods and services to rise. In this case, by keeping the yuan pegged within a narrow band to the dollar, China ensures that the bulk of our goods and services have not inflated, despite the Treasury Department's turbocharged printing presses.

In essence, Beijing's policies have acted like the relief valve on a pressure cooker: They've kept the U.S. pot from exploding.

Washington also frequently points to Beijing's $2.4 trillion in foreign reserves as additional evidence that China is a manipulator. This, too, represents flawed logic. Trade reserves accumulate whenever a country sells more than it buys with its partners. Therefore, China's huge reserves are not evidence of currency manipulation; instead it's just proof that the rest of the world really wants to buy what China has to sell.

It's easy to feel as if America is getting the shaft here - especially at a time when so many are out of work and with the country struggling to recover from its worst financial crisis since the Great Depression. Washington isn't helping by nurturing this flawed view of reality.

It's time for us to take a sobering look in the mirror.

China didn't force America to buy anything, let alone run-up our huge-and-growing deficit. We did this all by ourselves - and with substantial gusto, I might add. Our companies sought out China's inexpensive manufacturing because it helped them become more profitable and become more-globally competitive. Our consumers have been more than happy to go to Wal-Mart Stores (NYSE: WMT) and buy Chinese-made goods: They were inexpensive and the quality has reached a point where those products are as good - or better - than their U.S.-made counterparts.

If anything, we were perfectly content to benefit from this relationship right up to the point where it went against us - or at least, until we perceived that it went against us because we felt that the yuan is artificially undervalued in relation to the dollar.

Albert Keidel, a senior fellow at the Washington-based Atlantic Council and a noted expert on Chinese economic affairs, said that "China's trade surpluses do not necessarily mean that the yuan is undervalued. In fact, economists [really] do not have an effective way of judging whether a currency is undervalued. China's currency surpluses since 2005 have stemmed from the excessive consumption of the Americans, rather than problems with the yuan's exchange rate."

According to our own government, the yuan appreciated by 16.5% in real terms between June 2008 and the end of February 2009.

The yuan also performed like a thoroughbred during the global financial crisis.

According to the Bank for International Settlements (BIS), from February 2007 (when the U.S. subprime mortgage crisis really took hold) and January 2010, the yuan's real exchange rate rose 10.7%, while the same rate for the dollar dropped 8.1%. These statistics are indicative of an appreciating yuan and a depreciating greenback, the BIS concluded.

In reality, even if China were to immediately revalue its currency overnight, that would not immediately restore the millions of lost American jobs. Nor would it magically restore our economy. In fact, we would likely see precisely the opposite outcome.

Let's assume that China's currency is 60% undervalued, as some believe. If Beijing were to immediately bring that to par, everything in this country that we import from China is going to see a price increase of at least that amount - and possibly even more. That would devastate our economy, wiping out the millions of American families that are struggling to make every dollar count right now. It would also seriously crimp - or more likely obliterate - U.S. corporate profits, igniting a new round of layoffs, plant closures and corporate bankruptcies.

The fallout wouldn't be contained within U.S. borders. Our trading partners would immediately feel the pinch, too, as we bought less and as the price increases rippled their away around the world. It would be bad news for everyone.

And here's the thing: A hard look behind the numbers demonstrates that this change isn't necessary anyway.

According to China's General Administration of Customs, exports increased 24.3% from a year ago to reach $112.1 billion, while imports jumped 66% to $119.3 billion. Furthermore, and despite what Washington wants us to believe, the bulk of China's trade deficit came from trading activities with Taiwan, South Korea and Japan - not from the United States.

These facts and statistics make several important points. They demonstrate, first and foremost, that the global recovery continues, with worldwide demand on the upswing, But they also prove that China's domestic demand is accelerating - a far more meaningful development, since it highlights the Asian giant's emergence as a true economic marketplace.

We're not the only ones to reach this second conclusion. Olivier Blanchard, ostensibly the chief economist for the financially conservative International Monetary Fund (IMF), said that it was important "that we do not criticize China for its currency policy. What China is now doing is to cut its savings rate to boost domestic demand while re-orienting production to meet increased needs at home. Only in this context can a stronger yuan help China better allocate its resources and prevent economic overheating, thus creating benefits for both the country and the rest of the world."

This won't be the last monthly trade deficit that we see Beijing post. Indeed, if you really break down these numbers, you'll be able to see just why I'm predicting that there will be other deficits in the months to come: Higher domestic demand for crude oil and raw materials accounted for the dominant share of the March deficit, although sharp increases in the number of imported cars and manufacturing parts also contributed to the shortfall.

The best way to profit from these trends is to follow the advice that we've been providing in our investment reports here in Money Morning - as well as with the specific investment picks we continue to identify in The Money Map Report, our monthly advisory service. Going forward, the biggest profits will flow from companies operating in the sectors that provide the products, materials and services that China wants and needs. Now, more than ever, the best opportunities will be in the areas that Beijing has identified as being most relevant to China's continued domestic growth.

The bottom line: This is yet another reason to double your exposure to Asia. Granted, there will be some wild swings … the kind of volatility that will cause some investors to reassess their commitment to their China-oriented investments. Don't make that kind of mistake. When it comes to long-term growth and profit potential, this is truly the greatest game on the planet and will be for many years to come.

Source : http://moneymorning.com/2010/04/13/washington-china/

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