America’s Creditor Flexes
Sam Chandan March 17, 2010, 8:41 p.m.
Chinese premier Wen Jiabao warned on Sunday of the potential for a double dip in the global economy. Given Mr. Wen’s position at the helm of the world’s fastest-growing economy, his concerns about the course of the recovery warrant serious attention. In his once-yearly press conference-which follows the adjournment of the National People’s Congress-the premier was stalwart in his defense of China’s exchange-rate policy. He was also sharply critical of American policy toward China and Western pressure to revalue the yuan, assuming a tone that underlined his sense of China’s growing global prominence.
Speaking from Beijing following two intensive weeks of policy meetings, Mr. Wen cited concerns about domestic inflationary pressures, instability in heavily indebted Western economies and the middling pace of employment recovery in the West as among China’s primary concerns. On the issue of exchange rates, Mr. Wen was ceded no ground, stating that “a country’s exchange-rate policy and its exchange rates should be decided by its national economic situation.” He further clarified that “I do not think the renminbi [yuan] is undervalued.”
For the time being, China will seek to maintain a stable rate of exchange between the yuan and the dollar. This is a critical issue for the United States, which is seeking to double exports within five years as part of its strategy for impelling an economic rebound. Speaking at the annual meeting of the United States Export-Import Bank last Thursday, President Obama stated that “countries with external surpluses need to boost consumption and domestic demand. And as I’ve said before, China moving to a more market-oriented exchange rate will make an essential contribution to that global rebalancing effort.”
In an apparent retort to Mr. Obama’s call for exchange-rate flexibility, Mr. Wen offered the following: “We are opposed to countries pointing fingers at each other or taking strong measures to force other countries to appreciate their currencies. To do this is not beneficial to reform of the renminbi exchange-rate regime.” Sunday’s comments by Mr. Wen suggest that American views on this issue hold little sway and that we should not expect that exports will benefit from a rising yuan. The bounds of American influence over Chinese policy were apparent when he implied that the administration’s exchange-rate position “is a kind of trade protectionism.”
Inevitably, charges of protectionism depend critically upon one’s perspective. Just last month, a bipartisan group of 15 senators sent a letter to Commerce Secretary Gary Locke alleging that “China’s actions with respect to its currency constitute a countervailable subsidy.” According to the Commerce Department, these subsidies may be offset by higher import duties on products from the offending country. New York’s senior senator, Chuck Schumer, has taken a clear position, stating that “the bedrock of our economic system is fairness, and China’s currency practices violate that principle in every single way.” Similarly, Senator Lindsey Graham has also proven deferential in leaving diplomacy to the State Department. For his part, Senator Graham stated that he is “convinced that the Chinese government manipulates its currency in a manner that creates an unfair advantage for Chinese companies competing with the United States and the rest of the world.”
While characterizations of the Chinese position in the American media may suggest a combative approach to economic and trade policy, China is far from isolationist. Mr. Wen seems keenly aware of the interdependence of the world’s major economies and China’s role in an integrated system of global trade. He spoke to this issue on Sunday, pointing out that “without a recovering world economy, China’s recovery cannot [be] sustain[ed].”
Apart from recognizing China’s dependence on foreign demand for its goods, Mr. Wen also positions himself as a strong proponent of free trade in general. This should come as no surprise given that China surpassed Germany in 2009 to become the world’s largest exporter. In the decade leading up to the global recession, China’s exports grew by almost 25 percent a year, allowing it to surpass the United States, Germany and Japan in its share of global exports.
NARROWING OUR FIELD of vision to remain focused on economic issues, a productive relationship with China is absolutely necessary for America’s prosperity, and vice versa. While the United States is China’s largest export market, the Treasury Department confirmed last week that China remains the United States’ largest creditor. Apart from the broad economic interdependence, Chinese investments in U.S. commercial real estate-both property purchases and entity-level investments-are an important aspect of today’s marketplace.
As I described in last week’s Lead Indicator, there are good reasons to believe that China’s property markets are on the cusp of their own downward price correction. The symptoms of asset-price instability are captured in the rising volume of transactions. Around the globe, only five metropolitan areas recorded in excess of $10 billion of commercial property sales in 2009, Real Capital Analytics reports. Of those five, three were in mainland China. In Beijing, the dollar volume of sales actually increased by 43 percent between 2008 and 2009; deal volume increased by 42 percent over the same period. China’s policy makers are now seeking to deflate the property bubble. Early Monday morning, markets in Shanghai and Tokyo both fell on growing expectations that the Chinese government will withdraw its stimulus faster than had been anticipated.
If all goes according to plan, a gradual shift away from domestic stimulus in China will support demand for treasuries in the United States. Strong demand for treasuries is a cornerstone of budget assumptions in the United States; the Treasury Department reported last week that the budget deficit widened to a record $221 billion in February. If the adjustment in China’s property markets goes poorly, however, that government may be forced to reintroduce its domestic spending initiatives at the expense of its foreign debt purchases. That will bode ill for interest rates in the United States and for aggregate foreign inflows into asset markets. Moody’s will reiterate its previous warnings on the U.S. sovereign debt rating this week, citing unsustainable fiscal imbalances.
Few mainstream economists believe that the United States will default on its debt obligations. The concern relates principally to supply and demand and the interest rate environment rather than the possibility of an outright default. The Financial Times quotes Pierre Cailleteau, head of Moody’s sovereign ratings, as saying that “the size of debt makes the U.S. vulnerable to an interest rate shock.” Those sentiments have been echoed by Mr. Wen, who expressed concerns about Chinese investments in American debt. He went on record about those concerns at his press conference in 2009 and raised them again this past weekend. “We have lent a huge amount of money to the U.S.,” he said last year. “Of course, we are concerned about the safety of our assets.”
Whichever direction things go, China has never been more relevant for the United States and our economic and fiscal outlook.
Sam Chandan, Ph.D., is global chief economist and executive vice president of Real Capital Analytics and an adjunct professor of real estate at Wharton.
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