Yuan is too cheap against dollar

From Berlin to Bangkok, governments are screaming about the falling dollar, because they can no longer rely on reckless American consumers to power their economies.

From the late 1980s to 2007, the global economy enjoyed The Great Moderation-low inflation and sustained growth interrupted by brief recessions.

Driving global growth was an eight fold increase in the US trade deficit, facilitated by a doubling of the value of the dollar against other currencies from 1989 to 2002.

Deregulation and new technologies powered US growth, and Americans flush with success bought whatever the world had to sell.

However, when imports substantially exceed exports, Americans must consume more than they earn producing, or demand for what they make is inadequate, inventories pile up, and layoffs and recession follow.

From 2003 to 2007, the US trade deficit averaged $665 billion, and Americans massively borrowed from abroad to keep the economy going.

They posted as collateral overvalued homes financed on shaky mortgages.

When mortgages failed, banks failed, home prices dropped, and retail sales tanked.

The US economy was thrust into the worst recession in 70 years and pulled the rest of the world into crisis.

Imports of oil and consumer goods from China account for the lion share of the US trade deficit.

For nearly two decades, China has maintained an undervalued currency.

The Chinese government tightly regulates private trading in the yuan, and each year, purchases more than 400 billion US dollars with newly printed currency to keep the yuan artificially cheap against the dollar.

That is 10 per cent of China’s GDP and 20 per cent of exports to make Chinese goods artificially inexpensive on US store shelves and juice Chinese exports.

China amasses huge trade surpluses that power its impressive growth, and the rest of the world suffers slower growth to compensate.

An economic miracle sold to the world as policy genius but really built on currency mercantilism and beggar-thy-neighbour protectionism.

Japan has propped up its economy by purchasing dollars and permitting private investors to borrow yen at near zero interest rates and trade those for dollars-denominated Treasury securities.

Now, Tokyo signals it will not let the yen drop much below 90 per dollar when a market equilibrium value would be closer to 80.

Other Asian export powerhouses have practiced variants of the Chinese and Japanese currency model too.

It is no wonder the dollar was so strong for so long.

Now, with Americans no longer able to borrow madly to prop up global growth, protests are shouted around the world about a “cheap US dollar.”

The hard facts are the dollar became overvalued earlier in this decade.

If China and others ceased subverting currency markets, the yuan would rise at least 40 per cent, other Asian currencies would appreciate too, the US trade deficit would shrink and the new demand for American goods would rocket the US economy.

Morici is a Professor at the Smith School of Business, University of Maryland.