Trade Imbalance Between USA and China

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Table of Contents

Introduction
Analysis of factors behind the US trade deficit with China
China’s stand and the concerns of the USA
Why the gap exists between the views of China and the US on trade imbalance
Policy alternatives to resolve the conflicts between USA and China
Conclusion
Reference List

Introduction

Barry Eichengreen, commenting in his article titled, ‘Will global imbalances return?’ notes that, “future history books, depending on where they are written, will take one of two approaches to assigning blame for the world’s current financial and economic crisis” (Eichengreen 2009). According to the author, one of the two approaches will put a lot of blame on sloppy regulation, compliant monetary policy and derisory savings in the United States.

The second approach which is being pushed by former and current USA officials will boldly heap much blame on the enormous pool of liquidity generated by high-savings nations specifically in East Asia and also the Middle East (Eichengreen 2009).

To this second group, their argument will rest on the fact that the massive liquidity would have been channeled somewhere and that the place for such liquidity would have been in the country with the deepest financial markets and that is USA, which unfortunately accelerated its asset prices to unsound heights (Eichengreen 2009).

Peter Morici observes that there is a serious dissatisfaction on the part of governments starting from Berlin to Bangkok and the reason for dissatisfaction is that, the dollar is falling since there is no assurance or reliance on American consumers who have been vital in powering the economies of many countries (Morici 2009).

According to the author, “deregulation and new technologies powered USA growth, and Americans flush with success bought whatever the world had to sell; however, when the imports substantially exceed exports, Americans must consume more than they earn producing good and services, or demand for what they make is inadequate, inventories pile up and layoffs and recession follow” (Morici, 2009).

The observation made is that the global savings imbalance which has witnessed low savings in the USA and high savings in China and in other growing markets has greatly contributed to the crisis where it resulted in Americans spending more by living beyond their means, while at the same time encouraging desperate financiers to earn return on massive funds by putting them largely on speculative use.

Nevertheless, other discussions especially emanating from Washington have framed China as villain whereby, through its policy of holding its exchange rate unnaturally low, China has been seen as stealing jobs and in the process forcing USA to run a huge trade deficit. Indeed, it is from such observations that Washington operatives are convinced that China should be forced to revalue its currency, the Yuan (Ktetaichinh, 2009).

Therefore, the current debate over the exchange rate between the Yuan and the dollar is framed in terms of global imbalances where it is seen that USA is consuming beyond its savings on one hand, and on the other hand China is producing excessively and at the same time saving beyond its own spending (Alford, 2010).

Moreover, numerous corrective suggestions have been put forward such as, USA should export and save more while China import and spend more. To this extent, the debate is more concerned on the issue of how to achieve this rebalancing.

Analysis of factors behind the US trade deficit with China

Enormous literature shows that trade between United States and China has been waxing and weakening (Morrison 2010, p.5) and in this trading relationship, it is only between 1949 and 1972 when there wasn’t any trade relation between USA and China as a result of frost relationship between Washington and Mao’s Communist policies (Asian American Studies Center, N.d). But after economic reforms that were initiated in late 1970s, China increased its global trade share to almost ten times.

Basically, trade deficit between USA and China started to be experienced since the late 1980s whereby annual deficits went up during the 1990s (Morrison, 2010, p.5) and skyrocketed during the first half of the 21st century (The USA-China Business Council, N.d, p.1). Today, USA and China form each other’s second biggest trading partners while at the same time China has toppled Canada as the main exporter to USA by becoming America’s third largest export market (The USA-China Business Council, 2008, p.1).

In the year 2007, USA exported commodities worth $65.2 billion to China market and imported commodities worth $321.5 billion from China, leading to USA realizing a trade deficit of $256.3 billion and which constituted USA’s largest trade deficit ever to any single country (Asian American Studies Center, N.d). This particular circumstance has irritated USA lawmakers who have threatened to strike tariffs and import duties on Chinese goods if China remains reluctant and adamant in reducing its massive trade surplus with USA.

One question that should be asked and investigated is what accounts for the current massive USA-China trade imbalance. Many critics and other policy makers have given varying reasons as the key causes of these imbalances.

For instance, China has been viewed to put more restrictions in accessing its market while ironically at the same time engaging in aggressive activities and programmes to support and enhance exports by its domestic firms (Asian American Studies Center, N.d; Dow, 2009); secondly, China is seen to enjoy low-wage/low-cost advantage (Economic 2008); and thirdly, China is viewed to artificially undervalue its currency (Asian American Studies Center N.d).

Other factors that also account to the imbalance of trade between USA and China has been cited as:

Americans as nation is seen to be involved in consumption with no saving, where America imports much more than it exports for many years now (Gang, 2010). What is evident is the fact that USA has been on a long-running spending fling that has resulted into increased imports and this scenario has been catalyzed by USA long housing boom whereby Americans borrowed heavily against the rising property values and in the process their consumption exceeded their saving (Asian American Studies Center, N.d). Today, consumer spending accounts for almost 65 per cent of the USA economy.
Relocation of exports from other Asian countries to China, whereby China has become the final point of assembly for numerous products that are manufactured in other Asian countries like Japan, Taiwan and Hong Kong (Dow 2009) and this particular reason has seen China-USA trade deficit increase from 27 per cent in the year 1997 to 28 per cent in the year 2006 while that of other Asian countries went down from 43 per cent to 17 per cent in the same period of time (Asian American Studies Center, N.d). These statistics clearly indicate that USA, in a way, is importing more from China and less from other Asian countries.
Over-counting China exports as a result of China relaxing most of its foreign investment policies, many of China’s exports are believed to be produced by foreign firms that have invested in China which also constitute firms owned by Americans who in turn export their products back to USA market. Statistics indicate that 60 per cent of China’s exports are products that have been produced by foreign investors but in sense have been regarded and counted as China’s exports.
Undercounting USA sales; many USA sales of goods to China by US foreign investors who operate in China are not counted as USA exports to China (Wellen 2004). In 2005, it was estimated that the sale by these USA investors in China totaled $86.5 billion and was 70 per cent larger than USA exports in the same year and if such sales were counted as USA exports probably the trade deficit between the two countries would not be enormous as it is today.

China’s stand and the concerns of the USA

The existence of trade imbalance between China and USA is a fact that most people of the two countries continue to accept but many concerns have continued to bewilder USA on most trade issues with China (Bivens and Scott, 2006).

For example, despite the two countries working to enhance and better their commercial relations, tensions continue to rise on key issues: America’s concern over China emanates from the issue of China’s continued resistance to adopt a market-based currency. China, unlike other advanced economies, does not maintain a market-based floating exchange rate (Kimberly, 2010) and between the years 1994 and 2005, China largely pegged its Yuan to the USA dollar at about 8.28 Yuan to the dollar (Morrison, 2010, p.18).

In July 2005, China appreciated the Yuan to the dollar by 2.1 per cent and, “moved to managed float based on a basket of major foreign currencies including the USA dollar” (Morrison, 2010, p.19; Kimberly, 2010).

And in an attempt to maintain a target rate of exchange with the dollar, Beijing government has fostered restrictions and controls over capital transactions while at the same time making large-scale purchase of USA dollars.

Many USA policy makers and business groups have been irritated by China despite its minor reforms where they note that Beijing government continue to manipulate its currency with an aim of keeping the value of its currency artificially low against the dollar (Morrison, 2010, p.19) and to them, this particular policy by China is composed of subsidy for Chinese exports to USA markets and acts as tariff on Chinese imported USA products.

The complaint is that this particular policy has continued to hurt USA manufacturing sectors (Rushing, 2010) that in turn is forced to compete against low-cost Chinese products, thus leading to loss of many USA jobs.

Many concerns and claims have soared about this China’s exchange and even there has been increasing pressure to name China as currency manipulator and hence institute trade sanctions on part of China (Sanhati, 2010). When evaluated and analyzed, this exchange policy by China has benefited the country greatly since it saw China weather the storms of recession and recorded growth rate of 9 per cent in 2010; however, IMF has projected that China’s economy in 2011 will grow by 10 per cent (Sanhati 2010).

At the same time in 2009, China had reserve accumulation of about $400 billion whereby the reserve accumulation holding went up by $2.4 trillion in January 2010. These figures indicate that China’s reserve holding has gone up from 1 per cent in year 2000 to almost 12 per cent of GDP by the start of 2010.

In addition, as China grew and benefited from its exchange policy, America experienced unemployment rate of 10 per cent and as a result, many USA policymakers heaped the blame on Chinese exchange rate claiming it was the source of problems America was experiencing and as a result, USA Congress has been at forefront demanding the government to institute a strong stand on China’s exchange rate (Sanhati, 2010).

In response, China has continued to insist that its current policy is not intended to favor exports over imports, instead, is meant to enhance domestic economic stability (Morrison, 2010, p.19). China further claims that doing away with the current currency policy would jeopardize and weaken its export industries and hence cause wide-scale layoffs.

Chinese officials’ content that, economic stability is essentially important in ensuring there is political stability. Further, China has reacted by claiming that “exports are an important part of the Chinese economy, and any global market fluctuation or external shock will certainly have an impact on overall growth;” and like any other economies of the world, China’s economy largely depends on consumption and investment (Gang 2010).

Moreover, Yuan exchange rate is actually secondary contributory factor in China’s external trade. In other words, China’s current global trade imbalance can be rectified by addressing other related factors that dwell on Yuan exchange rate.

Why the gap exists between the views of China and the US on trade imbalance

China has viewed its export to Europe and USA as “part of global structural change” which in turn has given China “leverage comparative advantage” (Freytag 2008). Studies have indicated that China’s comparative advantage is rooted in China’s exploit of low-tech and medium-tech products and as a result, China has obtained trade surplus with most Europe countries and USA (Freytag 2008).

Due to this, China has continued to refute claims by USA that it manipulates its currency for own advantage by noting that comparative advantage viewed in the context of the soaring deficit and currency undervaluation is that China is able to export to Europe countries and USA in key sectors; thus it is able to derive comparative advantages and therefore difficult to claim that its increase in export is largely determined and dependent on currency undervaluation (Freytag, 2008).

Another disagreement in views originates from the fact that liberalization of international markets has enabled countries to create vital mutual benefits for domestic industries and also its trading partners (The Free Library, N.d) and as a result, countries are encouraged to put much focus on the activities they are able to derive comparative advantage.

In addition, the existence of international trade bodies enables China to exploit its trade agreements by citing clauses such as, ‘free international exchange of goods and services’ and therefore institute ‘domestic favorable policy’ with aim to leverage advantage over its trading partners.

Due to China’s demographic advantage and its subsequent low spending, it becomes difficulty to solely claim that China’s policy is aimed at external market.

More often than not, China has expressed that its policy was intended for domestic market and trade, and that USA problem emanates from large fiscal deficits compounded by low household savings and this is due to excessive financial leverage. Lastly, China has made it clear that it is willing to spearhead currency reforms in its own way and pace without any outside interference (Somerville, 2010).

Policy alternatives to resolve the conflicts between USA and China

As overriding issue concerning USA-China trade deficit remain a plain fact it is imperative to explore the possible policy alternatives that can be employed in order to resolve the conflict.

First, Marcus Noland together with Peterson Institute suggests that USA should first acknowledge that China is not the sole source to its economic problems although much needs to done on China’s economic policy and that China is not a vital source of job displacement in United States of America. The authors pose that, “If US is worried about the trade deficit; it should first reduce its own government budget deficit to close the saving-investment gap” (Noland and Peterson Institute, n.d, p.1).

Proposing a grand bargain for the two countries, Eswar Prasad provides key policy framework that can be adopted by two nations to enhance their trade relations.

According to the author, the proposed grand bargain should have the following elements:

The two trade partners should commit to using fiscal and monetary policy that has capacity to encourage domestic demand in their individual economies in the short run;
China should allow its currency to be more flexible and possess ability to be more responsive to market forces while at the same time USA should formulate a plan to reduce its budget deficit as economy starts to pick up;
USA should assume and offer supportive role to China’s multilateral financial institutions;
There should be continued high-level engagement and cooperation between USA and China on economic affairs; and lastly
There is need for sustained shared interests between policymakers in China and United States of America in order to realize enduring reforms that support and enhance sustained balanced growth between China and USA (Prasad, 2010, p.1).

Conclusion

The obvious and undisputed fact is that there exists trade imbalance between USA and China, but this should not be the main issue to mourn about. What is evident is the fact that USA-China trade relations has been beneficial in a greater way whereby China has become one of the USA fastest growing export markets and at the same time, USA consumers continue to reap benefits from the ability to purchase low-cost imports from China.

In addressing the existing trade deficit, two countries should not forget the mutual benefits they derive from each other and that the most important thing for the two trade partners is to initiate sustainable policy framework that address their trade issues in a diplomatic way.

The two countries should embrace cooperation and mutual engagement on key economic issues affecting their trade relation and also there should be sustained shared interests among the key policymakers of the two countries to realize enduring key reforms as far as trade relations between the two countries continue to increase.

Reference List

Alford, R., 2010. Structural Remedies Necessary to Tame Global Imbalances. Web.

Asian American Studies Center. U.S.-China Trade Imbalance. Web.

Bivens, L. J. and Scott, R. E., 2006. China Manipulates its Currency-A response is needed. Economic Policy Institute. Web.

Dow, M., 2009. Chinese Handcuffs? No, Chinese trade deficit. Council on Foreign Relations. Web.

Economics. 2008. USA Trade Deficit with China. Web.

Eichengreen, B., 2009. Will Global Imbalances Return? Web.

Freytag, A., 2008. Should Europe really worry about its trade deficit with China? Web.

Gang, F., 2010. Behind China’s trade deficit. Directory of Investment in China. Web.

Kimberly, A., 2010. U.S. Deficit with China. Web.

Ktetaichinh. 2009. Economics: If China sharply revalued Yuan as American politicians are demanding it could actually hurt United States and help China. Web.

Morici, P., 2009. The Great Debate: China’s Yuan, not the dollar, is too cheap. Web.

Morrison, W. M., 2010. China-U.S. Trade Issues. CRS Report for Congress. Web.

Noland, M. and Peterson Institute. US-China Economic Relations. Peterson Institute for International Economics. Web.

Prasad, E., 2010. The Effect of the Crisis on the U.S.-China Economic Relationship. Web.

Rushing, J. T., 2010. Trade deficit adds to pressure on China. The Hillsdale News Alert. Web.

Sanhati, R. V., 2010. The US-China Trade and Currency dispute: A red herring? Web.

Somerville, G., 2010. China and U.S. each claim gains on Yuan in talk. Reuters News. Web.

The Free Library. The U.S. Trade deficits: made in China? Web.

The US-China Business Council. 2008. USCBC Reports: US Exports to China by State, 2000-07. Web.

Wellen, P., 2004. The Trade deficit with China: a case study in corporate America’s successful global marketing. Web.

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