World-China Forum

Why Geithner Went to China

Treasury Secretary Timothy Geithner arrived in China this week to continue the ongoing dialogue between the world's two largest economies, and definitely avoid talk about political reform. But democracy of a sort was on his agenda: The Chinese public doesn't trust its government's investments in American dollars, and the popular pressure is forcing Chinese officials to criticize America's economic policies. That gave Geithner a two-fold task this week: placating Chinese officials nervous that the Obama administration's spending plans could undermine the value of the dollar, and, more important, urging China to adopt new policies to dramatically change the focus of its economy.

Geithner was at pains to assure his Chinese counterparts that the Obama administration has the fiscal situation well in hand, even going so far as to promise a budget deficit of 3 percent of gross domestic product after the recession. It's not a new or unwelcome projection, though it is rare to hear such a specific target cited on foreign shores.

But outside of the political sideshow, the much-hyped Chinese ownership of U.S. debt and the controversy over exchange rates (which has led some Americans to accuse the Chinese of currency manipulation) isn't likely to change in the near future.

"The truth is … China really has no choice," Michael Pettis, a professor at the Guanghua School of Management in Beijing, says in an e-mail. "China does not want to hurt its export sector (on the contrary, it is trying to prop it up), and since no one else besides the United States can run such large trade deficits, China has no choice but to keep buying dollars."

If exchange rates and international reserves are something of a settled -- albeit controversial -- issue in both countries, the actual discussions are about changing the relationship of the two economies. For several years now, both China and the U.S. have been contemplating a kind of economic balancing act designed to provide long-term growth for both countries, and, incidentally, remove the incentives that lead to the stalemate over exchange rates and foreign reserves. (Tim Fernholz, American Prospect)

After the crisis: China or America?

Two years ago, economist Moritz Schularick and I coined the word "Chimerica" to describe what we saw as the key relationship in the then-booming global economy: China plus America. Cheap Chinese labour was making US corporations highly profitable. Spendthrift American consumers, in turn, were keeping Chinese corporations busy with export orders. And the Chinese monetary authorities were converting export surpluses into dollar denominated reserves with the aim of preventing their own currency from appreciating. The unintended consequence was a multi-billion dollar credit line to the United States, financing America's deficit at rock-bottom rates.

In February, the People's Daily acknowledged the "global importance and influence" of Chimerica, but warned of an impending "period of chillness". Could this be one of those great turning points in history, when the balance of power tilts decisively away from an established power and towards a rising challenger? It is possible. Financial crises often accelerate the gradual shifting of the geopolitical tectonic plates; they are to history what earthquakes are to geology.

Just consider the impact of this crisis on the United States and China. According to the International Monetary Fund, the US economy will contract by 2.8 per cent this year – while China's is forecast to grow by more than 6 per cent. China has not been wholly unscathed by the astonishing collapse of exports that struck Asian economies in late 2008 and early 2009. Many more Chinese than American workers have lost their jobs since this crisis began. Yet I do not believe (as some Sino-pessimists do) that the regime in Beijing faces a serious threat of social unrest. Like other rising powers in past centuries, China is imbued with a remarkable sense of patriotism that is not just a product of Communist Party propaganda. People are proud of their country's economic miracle over the past 30 years. After two wretched centuries, they believe China is on the way back. People whose grandparents survived the Great Leap Forward and whose parents endured the Cultural Revolution can surely cope with a decline in the growth rate from 11 to 6 per cent.

In short, it may be time to start believing the projections made by Jim O'Neill and his colleagues at Goldman Sachs, who predicted just a few years ago that China's gross domestic product could equal that of the United States by 2027. Three years ago, China did not have a single bank among the world's top 20, measured by market capitalisation. Today the top three are all Chinese. In 2006, the United States had seven of the top 20 banks, including the top two; today it has three, and the biggest, JP Morgan Chase, is rated fifth. (Niall Ferguson, Telegraph)

Weighing China's Role In The Global Recession

The U.S. bears a large share of the blame for the meltdown, but many economists believe China's currency policy paved the way for the worldwide crisis. Here's the short argument that China is partly to blame for the crisis: In its rush to industrialize, China ran up huge trade surpluses. It saved too much of the money it made selling its products. Then, it lent too much of that money to America, says Peter Morici, an economics professor at the University of Maryland.

Economist and China expert Nicholas Lardy agrees that Chinese money provided the fuel for the financial crisis. Nonetheless, "the Chinese gave us the rope, but we didn't have to hang ourselves," he says. "If we had had tougher regulation, the inflow of capital from China would not have led to the crisis that emerged over the last year or so."

So why did China build up such large and destabilizing surpluses? Lardy and Morici disagree on China's motives. Morici thinks China made a deliberate decision to build its economy and its global power through exports. But Lardy, a fellow at the Peterson Institute for International Economics, says China sort of stumbled into the situation. (John Ydstie, NPR.org)

Why Beijing Wants a Strong Dollar

The U.S. now relies on China for credit, a fact that is generating considerable anxiety in Washington and Beijing. Last month Chinese Premier Wen Jiabao called for more international oversight of the world's major "reserve" currencies. While he didn't specifically mention the U.S. dollar, the message was clear. As the largest holder of U.S. debt, the Chinese government is restless as the $2 trillion in foreign reserves it holds fluctuates primarily based on the management -- or mismanagement -- of American financial institutions.

But China cannot simply decide one day to "dump its bonds" and torpedo the U.S. economy. It can't even credibly threaten to do so because it has no one to sell them to. Who in today's world could buy $1 trillion of U.S. debt? What government could take the risk of further enmeshing itself in an American economy that is widely seen as having drawn the global system into an untenable dependence on low-grade debt? The German central bank certainly wouldn't, nor would Japan, which already holds hundreds of billions in U.S. debt. The sovereign wealth funds of the oil-rich Arab sheikhdoms, including Saudi Arabia, have already taken hits with their investments in U.S. financial institutions and are wary of further depreciation of their oil-dependent assets.

To see China's holdings as a threat is to misjudge the goals of the Chinese government. China believes that its affluence is best guaranteed by economic interdependence with the world's most dynamic economy. It certainly wants to evolve so that its affluence is eventually comparable to that of America, but that is years away. And while there is a competitive component to China's ambitions, it is competition within the framework of capitalism more than nationalism. (Zachary Karabell, Wall Street Journal)

China's Yuan: The Next Reserve Currency?

Are the Chinese finally getting serious about loosening their ties to the dollar—and even replacing the greenback with the yuan as the global economy's reserve currency? The evidence is mounting that they are. For the last two months, China's leadership has been complaining about the country's dangerous dependence on the dollar. Beijing holds $2 trillion in dollar assets, accumulated through years of exports to America and massive purchases of Treasuries by the Chinese government. If Washington can't rein in its mounting budget deficit, both Treasuries and the greenback could weaken considerably—and the Chinese could be big losers as a result.

The Chinese began generating attention on the issue in March, when Chinese Premier Wen Jiabao said he was worried that the country's dollar assets could slide. Ten days later Chinese central bank chief Zhou Xiaochuan suggested replacing the dollar as the international reserve currency. One idea, Zhou said, was to replace the dollar with a basket of currencies supervised by the International Monetary Fund. China's financial moves during the last two months have persuaded Western experts that the nation's leadership intends to make the yuan freely convertible into other currencies—the first big step toward open confrontation with the dollar—within a few years.(Steve LeVine, Business Week)

Building Shanghai into global finance center

To achieve the objective, China needs to develop its finance industry to support industrial innovation.
Technology innovation and the development of a mature, healthy financial market are interdependent, as proved by the prosperity of the US NASDAQ (National Association of Securities Dealers Automated Quotations) stock market and the strength of Japan's main bank system.

China has already announced the strategic plan of developing Shanghai into an international financial center. This can be approached by encouraging technology innovation. Besides ensuring an effective market mechanism to develop promising enterprises, the government should nurture and introduce large number of professional investment teams to invest in promising innovative enterprises.

The final objective of the financial center construction strategy is to achieve the internationalization of the yuan. It's unsafe for China to put most of its fortune in dollars. Hence the inevitable trend of the internationalization of the yuan.  However, given the immature conditions for yuan internationalization at present, Shanghai's current job is to focus on the development of the modern service industry. By providing high-quality service in such industries as shipping, trade and finance, as well as creating comfortable living and working conditions, Shanghai will gradually promote yuan trade settlement. (Sun Lijian, Shanghai Daily)

The China Puzzle

Moving to an economy based more on consumption and less on exports happens to be the policy of the Chinese government, and has been since 2003. Its latest five-year economic plan, announced in 2006, was organized around the idea. “The biggest problem in China’s economy,” Wen said in 2007, “is that the growth is unstable, imbalanced, uncoordinated and unsustainable.” Remarkably, though, the Chinese economy has become even less reliant on household spending, and even more reliant on business and government spending, in recent years. Consumer spending now makes up about 35 percent of China’s gross domestic product, down from 40 percent in 2004 and almost 50 percent in the early 1990s. By comparison, the share is 54 percent in India, 57 percent in Europe and 70 percent in the United States. The challenge for Geithner and the rest of the Obama administration, then, is persuading China to live up to its own five-year plan. (David Leonhardt, New York Times)

China’s Heart of Gold

Around 30 years ago, China’s foreign exchange reserves were as little as $167 million. At one important meeting in the late 1970s, Deng Xiaoping, the leader of China, prophesied to an audience of top government officials: “Comrades, just imagine! One day we may have a foreign reserve as big as $10 billion!” Silence fell on the audience, because that figure seemed so improbable. After a long pause, Deng went on to tell the unconvinced crowd: “Comrades, just imagine! With 10 billion American gold, how much China can do!”

Today, China’s foreign reserves are now close to $2 trillion, and around $1.5 trillion of it is invested in dollar assets. But with the global financial crisis, many Chinese people increasingly fear the rapid erosion of the American dollar. The United States may want to consider offering inflation-protection measures for China’s existing investments in America, and offer additional security or collateral for its continued investments. America should also provide its largest creditor with greater transparency and information. (Victor Zhikai Gao, New York Times)

The Almighty Renminbi?

Traditionally, empires that hold the global reserve currency are also net foreign creditors and net lenders. The British Empire declined — and the pound lost its status as the main global reserve currency — when Britain became a net debtor and a net borrower in World War II. Today, the United States is in a similar position. It is running huge budget and trade deficits, and is relying on the kindness of restless foreign creditors who are starting to feel uneasy about accumulating even more dollar assets. The resulting downfall of the dollar may be only a matter of time. So Sooner than we think, the dollar may be challenged by other currencies, most likely the Chinese renminbi. This would have serious costs for America, as our ability to finance our budget and trade deficits cheaply would disappear. (Nouriel Roubini, New York Times)