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China had been setting a too-low exchange rate for their currency, thereby exporting unemployment. Then early this week their bank made a move and the currency plunged. The next day another plunge, then another.

China declared this was because they are allowing their currency to move toward market rates. Others said this was evidence of manipulation because a "weak" currency makes goods from China cost less in world markets.

China then raised the "reference rate," stopping the plunge (for now). So is China setting the rate or are they letting "the market" set the rate? And since a low Chinese currency rate takes business away from the United States, what can we do about it?

Currency Should Balance Trade Surpluses

A country like China with strong growth and a huge trade surplus should have a very "strong" currency, and it should be strong until that surplus balances. If they are selling more stuff to other countries than they are buying it creates a market demand for their currency (to use to buy the stuff...). Also if their growth is strong people from other countries want to "buy in," which involves trading in their money for China's – also creating demand.

China's currency was not reflecting this. Their trade surplus is enormous. Our trade deficit with China was an enormous, humongous $29 billion in June. That's $29 billion in a single month!

Obviously "the market" would be rebalancing China's currency rate vs. ours and the rest of the world if trade surpluses were the only factor affecting the decision-making of currency traders. But there are concerns that the economic situation in China is very bad and this is being hidden by the government. This could cause traders to flee China's currency in spite of the trade surplus. The lack of transparency from the Chinese makes this difficult to judge, but "capital flight" is now a serious problem with the Chinese economy.

Fighting Currency Manipulation

China can do what they feel they should do for the good of China, and they are doing it. The question is what should the U.S. do for the good of the U.S.? What are the available responses?

As Robert Scott of the Economic Policy Institute (EPI) explains in "Stop Currency Manipulation in the Trans-Pacific Partnership,"

Although currency manipulation is prohibited by both the International Monetary Fund (IMF) and the World Trade Organization (WTO), neither has been able to stop it. The IMF, in particular, has no enforcement tools to compel countries to abide by their obligations to avoid manipulating exchange rates for commercial gain.

Scott later explains that while trade and currency are closely linked,

"Currency policies and trade policies are generally managed by different branches of government. ... Likewise, at the international level, the WTO handles trade while the IMF is responsible for exchange rates. Coordination problems between different agencies at the national and international levels have made it difficult to reconcile trade and exchange rate imbalances."

Simon Johnson, former chief economist for the IMF, in "How to Fight Currency Manipulation," agrees that the IMF and others have been ineffective and writes that putting rules preventing currency manipulation into trade agreements, beginning with the Trans-Pacific Partnership (TPP), can address the problem:

Now a new opportunity to address the issue has emerged: The Trans-Pacific Partnership – the mega-regional free-trade agreement involving the United States, Japan, and ten other countries in Latin America and Asia. With the TPP close to being finalized, South Korea and China are watching intently, and other countries may want to join.

[. . .] Currency manipulation is a real problem that causes significant damage. The TPP deal – if it establishes a dispute-resolution mechanism that can quickly dismiss frivolous claims and home in on genuine cases – may offer the best chance to fix it.

The Obama administration has been solidly against addressing currency manipulation in TPP.

U.S. Options: The Slow Way

But the U.S. does have an enforcement mechanism, if the administration would allow it to be used. The Omnibus Trade and Competitiveness Act of 1988 requires (among other things) the executive branch to determine whether countries are manipulating their currency and make a declaration. This declaration triggers a process that can lead, over time, to countervailing duties if the manipulation continues.

This declaration process is the weak link in the enforcement chain. The Obama administration's Treasury Department has repeatedly declared that China's currency is "significantly overvalued" but then will not declare China to be a currency manipulator, thereby preventing even this very slow, cautious path toward eventual enforcement.

U.S. Options: The Fast Way

EPI's Scott explained that the president can use emergency powers to stop China's currency manipulation immediately, in his 2013 post, "The president can end currency manipulation with the stroke of a pen, halving the U.S. trade deficit and creating millions of jobs":

Currency manipulation ... is the single most important cause of these growing trade deficits. Halting global currency manipulation by making it illegal for China and other currency manipulators to purchase U.S. Treasury bills and other government assets is the best way to reduce the U.S. trade deficit, create jobs, and rebuild the economy. ... the president has the authority to end China’s currency manipulation with the stroke of a pen under the Emergency Economic Powers Act (Bergsten and Gagnon 2012, 18). He should announce his intention to restrict or ban Chinese purchases of U.S. Treasury bills and other U.S. assets if China does not substantially revalue and cease all currency intervention in the near future, and the president should issue such orders if China fails to respond. If China is unable to purchase U.S. assets, it will no longer be able to manipulate its currency, which will rise with demand for Chinese goods and assets.

The administration won't use the available enforcement-triggering mechanism of declaring China to be a currency manipulator, and won't even put currency rules into TPP. There is little chance they will address this using emergency powers.

Meanwhile, the sudden plunge in China's currency rate means that our enormous, humongous trade deficit is only going to get worse, sucking more jobs, factories and wealth out of our economy.

Call your member of Congress, your senators and the White House and ask them to crack down on currency manipulation.

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