Reading 6d - Order Code RL32165 Chinas Currency Economic...

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Order Code RL32165 China’s Currency: Economic Issues and Options for U.S. Trade Policy Updated November 29, 2007 Wayne M. Morrison Specialist in International Trade and Finance Foreign Affairs, Defense, and Trade Division Marc Labonte Specialist in Macroeconomics Government and Finance Division
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China’s Currency: Economic Issues and Options for U.S. Trade Policy Summary The continued rise in China’s trade surplus with the United States and the world, and complaints from U.S. manufacturing firms and workers over the competitive challenges posed by Chinese imports have led several Members to call for a more aggressive U.S. stance against certain Chinese trade policies they deem to be unfair. Among these is the value of the Chinese yuan relative to the dollar. From 1994 to July 2005, China pegged its currency to the U.S. dollar at about 8.28 yuan to the dollar. On July 21, 2005, China announced it would let its currency immediately appreciate by 2.1% and link its currency to a basket of currencies (rather than just to the dollar). Many Members complain that the yuan has only appreciated only modestly (about 9%) since these reforms were implemented and that China continues to “manipulate” its currency in order to give its exporters an unfair trade advantage, and that this policy has led to U.S. job losses. Numerous bills have been introduced to move China to adopt a more flexible currency policy. If the yuan is undervalued against the dollar (as many analysts believe), there are likely to be both benefits and costs to the U.S. economy. It would mean that imported Chinese goods are cheaper than they would be if the yuan were market determined. This lowers prices for U.S. consumers and dampens inflationary pressures. It also lowers prices for U.S. firms that use imported inputs (such as parts) in their production, making such firms more competitive. When the U.S. runs a trade deficit with the Chinese, this requires a capital inflow from China to the United States, such as Chinese purchases of U.S. Treasury securities. This, in turn, lowers U.S. interest rates and increases U.S. investment spending. On the negative side, lower priced goods from China may hurt U.S. industries that compete with those products, reducing their production and employment. In addition, an undervalued yuan makes U.S. exports to China more expensive, thus reducing the level of U.S. exports to China and job opportunities for U.S. workers in those sectors. However, in the long run, trade can affect only the composition of employment, not its overall level. Thus, inducing China to appreciate its currency would likely benefit some U.S. economic sectors, but would harm others. Critics of China’s currency policy point to the large and growing U.S. trade deficit ($233 billion in 2006) with China as evidence that the yuan is undervalued and harmful to the U.S. economy. The relationship is more complex, for a number of reasons. First, an increasing level of Chinese exports are from foreign-invested
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