The Chinese Dollar Peg --Currency as an Economic Opiate
Quite a lot of vitriol from folks angry over Krugman's suggestion that a 25% tariff be applied to Chinese exports in order to force the Chinese to revalue their currency. Even the staid Chairman of Morgan Stanley argued to take a "baseball bat" to Paul Krugman for the suggestion.
A few thoughts:
- I almost never agree with Paul Krugman, but people arguing "free trade" as some sort of Pavlovian approach to economic policy are not recognizing this issue is a bit more complex. You can't have the world's second largest economy on a fixed currency without creating dangerous macro imbalances. If one side has free trade, and the other side doesn't it's not free trade now right? --it's something else.
- In the 19th century, Europe embraced free trade while the U.S. used mercantilism as a model. It's is a viable economic strategy later used by the Asian "tigers" and now modified by China to much the same effect. Mercanalists don't get to complain about lack of free trade.
- It's not quite free trade either if one side doesn't remove the non tariff barriers and state intervention to favor domestic exporters rather than allow foreign manufacturers. It was one thing to allow these barriers and controls when China was so small just 15 years ago, but it's way too large for that now.
- The crisis in the Euro is taking some short term pressure off the Chinese peg, but that won't last for long.
- If you think this is as simple as being "with free trade or against" try investing in an IP based company that is trying to sell in China then get back to me. They'll copy your technology to the last detail pretty shamelessly while the CEO and Board is helpless. It's not fun to watch as a board member or an investor.
- Much as China was controlled by Britian with narcotics in the infamous "Opium Wars". Chinese fixed currency has become an opiate for it's economy and for our debt market. This isn't good for anyone and both parties should be eased off gradually like any addict.
- This means incoming pain for both economies--and the U.S. is probably the "addict" with the worst pain coming. This means large reductions in government spending sooner or later or some kind of destructive inflation spiral to escape past debts.
- The Chinese promised to remove many non tariff barriers and open their markets more and respect intellectual property in exchange for MFN. They haven't done it.
- The biggest mistake people make on this issue is that the U.S. gets hurt the most by this policy. Actually, it's China's neighbors that can no longer export given the large subsidy to Chinese exports. The economies need to develop also, and ASEAN and others don't really see Chinese policies as "free trade" either.
Things are not as simple as are you for or against free trade. I'm for free trade, but I also recognize macro imbalances can't go on forever. The approach should not be a unilateral 25% tariff, but instead a large multilateral negotiation that includes China's neighbors who are now finding it difficult to compete.
Chinese growth is a fantastic thing, however the opening and liberalizations that has been promised, needs to be delivered on so both countries can benefit more together and get off the cheap money "Opium".
Originally posted here.
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