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Manipulating Children, Working Hours, and Currency January 20, 2011

Posted by Avu in Section 4.
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For several years there has been tension between the Chinese and American economies due to allegations of the Chinese currency being manipulated.

Beginning in 2005, China switched from a fixed exchange rate system to a managed floating exchange rate system. This allowed China to integrate into a market economy further, by not having the value of its currency pinned onto the US dollar, as it was in a fixed exchange system. With a floating exchange system, the value of currency is solely determined by the supply and demand of the currency on the international market. The government could, however, intervene if necessary.

The overwhelming opinion during the switch was positive, on both Chinese and American sides, as both believed a commitment to let market forces move currency was best for all parties.

However, since the switch, tensions have escalated due to American allegations that China has been manipulating its currency through forced depreciation, which allows China to create a surplus. The effect of this on the United States is limited growth and destroyed jobs, along with the compounding of its already painfully large deficit. The issue, however, with China’s surplus is that it behaves out of rhythm with economic theory.

It is suggested that a surplus leads to increased demand of a currency and overall appreciation. Appreciation in turn leads to more expensive exports and cheaper imports, which self-corrects the balance of payments with more reliance on imports than exports. However, in China’s anomalous state, the surplus has not led to appreciation, rather, the currency continues to depreciate and marked values. This maintains a system in which China has cheap exports and expensive imports, and thus is more reliant on exports, selling them heavily with high foreign demand.

Again, the issue for the United States in this case is that the fact that China maintains such low export prices, presumably through the constantly depreciating currency, American businesses must import Chinese products for price reasons. This, however, is not conducive to attempting to salvage to US economy from its already unprecedented deficit. Due to the tension and widespread allegations, the American government has formally accused China of artificially depreciating its currency in order to keep its exports relatively cheap.

Neither country is apparently willing to concede their stance on the issue, and the political relations between the two nations are becoming increasingly strained. It appears that the weak Yuan is tragically painful to the US economy as it only expands China’s already large surplus, with cheap exports, that are far more attractive to buyers, who will now not purchase exports from the United States. With a relatively strong dollar, the American trade deficit continues to expand, as exports are far too unattractive to purchase. Thus, goods that aren’t competitive from the United States will not be sold in domestic or international markets, leading to further deficit.

Now, to evaluate the decision, first one must validate it. It’s clearly valid that China has been artificially manipulating its currency to keep it weak and prevent its export prices from rising overly high for international competitiveness. It is also notable that the United States used similar policies in the earlier part of the 20th century in order to bolster their own economy. For that reason, it is hypocritical and inappropriate for the United States to attempt to accuse China of such an act.

In economic terms, however, it is irresponsible for China to forcibly manipulate its currency, as it results in market forces not being genuinely implemented in a floating exchange system. This results in unfair market dominance for an undeserving nation.

In laymen’s terms, it boils down, unfortunately, to international cooperation. Despite the economic evidence that may prove otherwise for either nation, a compromise must be reached that is acceptable to both, else the political fabric will unravel leading to problems far worse than economic inefficiency.

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