There is a growing drumbeat to do something about China’s undervalued currency. In November, Paul Krugman urged the Obama Administration to take the situation seriously. As the financial crisis abates, he wrote, trade imbalances would blossom again. So picture this: month after month of headlines juxtaposing soaring U.S. trade deficits and Chinese trade surpluses with the suffering of unemployed American workers. If I were the Chinese government, I’d be really worried about that prospect.
In the Financial Times in December, a retired University of Chicago economics professor called for a 10 percent tariff on all U.S. imports from China. Last week, a group of 15 Republican and Democratic senators demanded the Commerce Department to treat China’s currency policy as a subsidy. In just over a month, the Treasury will need to state yet again whether it considers China a currency manipulator.
So what is to be done? There is a very strong case that China’s currency is undervalued. The most telling indicator is that China’s foreign exchange reserves have hit $2.4 trillion and are growing at a rate of roughly $400 billion per year. There is also a strong, but more subtle, argument that it would be in China’s own interest to revalue its currency. But the Chinese leadership has frozen the RMB against the dollar since the middle of 2008.
The question, then, is what policy options are on the table. Read more here.