[Marxism] WSJ complains that market forces don't drive China

Walter Lippmann walterlx at earthlink.net
Fri Apr 7 11:39:27 MDT 2006


("The matter of principle on which the American political process is
now becoming focused is that it is the Chinese government, not our
political process or the independent determination of markets, that
is determining the result. We are buying more tee shirts, shoes and
appliances and living in larger homes than we otherwise would because
of a Chinese government decision. We are producing fewer appliances
and less agricultural output than the market would have us make as
well, thanks to a decision by the Chinese government. It does no good
to tell American politicians that if the Chinese want to subsidize us
we should let them, because the very fact of their subsidy changes
our behavior in a way determined by them, not by us.")
===================================================================

April 6, 2006
COMMENTARY

Yuan Compromise?
By LAWRENCE B. LINDSEY
April 6, 2006; Page A14
WALL STREET JOURNAL

President Bush and Chinese President Hu Jintao will have a lot to
talk about at their meeting in Washington later this month. China has
quietly joined the U.S. as a superpower whose efforts are essential
to maintain global peace and security -- a fact evident in the
efforts to meet the challenges posed by the nuclear ambitions of
rogue states like North Korea and Iran. Contentious as they are,
however, these issues are easier ones on which to find common ground
than the central economic question of the proper value of China's
currency. This seems odd at first blush, since the exchange rate is
simply a number, and numbers are usually easy to compromise on -- by
splitting the difference, for example. Not this time. Behind the
currency issue, each nation has a strongly felt principle, and
compromise on it will not be easy to achieve.

In China's case the matter of principle is continued control of the
process of economic development by the government and the Communist
Party. In America's case it is whether markets or government policies
will be the fundamental drivers of global trade. This is quite
different from the traditional debate over whether America gains
economically from trade; it clearly does. But under an exchange rate
fixed by Chinese authorities and not the market, it is the Chinese
government that implicitly decides who in America benefits from our
trade relationship: consumers or producers, borrowers or lenders.
American sensibilities hold that this is a matter best left to the
market.

The Wall Street Journal has argued the case for fixed exchange rates
for countries like China as an important check on monetary policy.
Under this line of reasoning, internal market forces can efficiently
set relative prices. For example, labor and product markets determine
that it takes 1,000 hours of paid labor to buy a car. But if there is
no external anchor, a central bank could run monetary policy to have
a worker make $20 an hour and buy a $20,000 car, or earn $2,000 an
hour and buy a $2 million car, with very different implications for
efficient functioning of markets. Since good data are hard to come by
in a developing country, even a well-intentioned central bank could
easily make a mistake and produce an inflationary spiral. And of
course, central banks might not always have the best of intentions.
Under this analysis, the efficiency and economic freedom of having
the market set relative prices is protected from central bank
mischief by forcing the central bank to run a monetary policy that is
anchored globally by a fixed exchange rate.

The problem with this reasoning in China's case is that the market
does not set relative prices domestically. As the largest employer,
the state plays a key role in determining wages. It controls (or
attempts to) the movement of people from the low-paying countryside
to the high-paying cities, thereby blocking the market mechanism from
working. It determines how many engineers, doctors and factory
workers will be educated, who those engineers will be, and where they
will be assigned, at least initially. It directly administers prices
for a wide array of products and subsidizes those companies that
cannot economically produce and sell their output at those given
prices using the administered prices of inputs that the state makes
available.

In this environment, a fixed exchange rate doesn't protect
market-determined prices from state mischief perpetrated by the
central bank. Instead, it protects state mischief in setting
administered prices from the rigors of the price mechanism set in
international markets. The Chinese authorities are intent on
maintaining a fixed exchange rate not to provide discipline to the
People's Bank of China, but to maintain state control of the economy.
This is a matter of principle that China finds it difficult to
compromise on under its current political system.

America, however, benefits from this arrangement. The Chinese clearly
undervalue their exchange rate. This means American consumers are
able to buy goods at an artificially low price, making them winners.
In order to maintain this arrangement, the People's Bank of China
must buy excess dollars, and has accumulated nearly $1 trillion of
reserves. Since it has no domestic use for them, it turns around and
lends them back to America in our Treasury, corporate and housing
loan markets. This means that both Treasury borrowing costs and
mortgage interest rates are lower than they otherwise would be.
American homeowners and taxpayers are winners as a result.

There are losers, of course, most notably American producers of goods
that are now made in China. Yet the losses to these producers are
outweighed by the benefits from Chinese subsidies of our imports of
consumer goods and the reductions in our borrowing costs from
generous Chinese lending. Though correct, in politics these gains are
now beside the point.

* * *

The matter of principle on which the American political process is
now becoming focused is that it is the Chinese government, not our
political process or the independent determination of markets, that
is determining the result. We are buying more tee shirts, shoes and
appliances and living in larger homes than we otherwise would because
of a Chinese government decision. We are producing fewer appliances
and less agricultural output than the market would have us make as
well, thanks to a decision by the Chinese government. It does no good
to tell American politicians that if the Chinese want to subsidize us
we should let them, because the very fact of their subsidy changes
our behavior in a way determined by them, not by us.

When Mr. Hu visits America, he will do his best to diffuse tensions
about the U.S. current account deficit, which he sees as the basis of
our concern about his currency policies. He will argue that our
current account deficit is largely determined by the fact that we
consume too much and save too little. Many American economists will
echo this sentiment. But it is disingenuous for Mr. Hu to make this
argument since it is his policies that subsidize both our consumption
and our borrowing by lowering the prices of these activities. And, in
America, unlike in China, it is market-determined relative prices
that drive economic decision-making.

If history is any guide, Mr. Hu will also attempt to mollify the
political process -- and reduce the current account deficit -- by
announcing a Chinese government shopping spree. He may buy more
Boeing jets and maybe even GM cars in a high-profile attempt to curry
favor with key constituents. That is nice, but it does nothing about
the fundamental matter of principle that it is the Chinese
government, not markets, and not Americans, who are shaping how much
is bought and from whom. This puts Mr. Bush in a box. He confronts a
need to work with Mr. Hu on making the world a safer and more secure
place, but also a domestic political process that is willing to risk
our trading relationship with China on a deeply felt matter of
principle. Mr. Bush is a man who likes to act on deeply held matters
of principle, and to the maximum extent it is prudent, he should do
so in this case.

Later this year as the election approaches, the political pressure on
the China trade issue is only going to become more difficult. As long
as this remains a matter of conflicting principles between China and
the U.S., legislation seems likely to pass the Congress before
November. The final bill would doubtless be designed to inflict
maximum damage on China at minimum cost to the U.S. The best thing
Mr. Bush can do in his talks with Mr. Hu is to make clear that it is
a matter of principle with us, a fact the Chinese do not seem to
understand. By resisting revaluation, Mr. Hu is making China poorer
in order to maintain the principle of communist control of the
economy and so understands that leaders often must act on principle.

The only way out of this dilemma is to convert these divergent
principles into something quantifiable and then compromise on
numbers. Only the two presidents can do this. To date, each nation
has been conducting its own internal political debate on the topic,
between the Congress and the administration in America, and between
reform-oriented institutions like the Peoples' Bank of China and
harder-line elements of the Chinese bureaucracy. The result has been
mounting tension.

As a matter of principle, Mr. Bush should seek to leave office with
an exchange rate consistent with one that would be market-determined,
a goal requiring an appreciation of the yuan of roughly 1% per month.
In the last year, the Chinese position has been "as little as
possible," a pace that to date has amounted to less than 1% per
quarter. Splitting the difference between these two rates would
produce a compromise pace of adjustment that would be challenging but
manageable for the Chinese economy. It should also be one that would
answer America's justifiable concerns about currency manipulation.
Mr. Hu may still feel that his principle of not risking party control
prevents him from such a compromise. But then his choice would be
clear: an economically damaging fight on principle in which China
would be the bigger loser, or splitting the difference on numbers.

Mr. Lindsey, president and CEO of the Lindsey Group, was President
Bush's chief economic adviser from 2001 to 2002.





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