China strengthens currency, scraps 10-year peg to dollar

With revaluation, imports to U.S. to cost a bit more

July 22, 2005|By Gady A. Epstein | Gady A. Epstein,SUN FOREIGN STAFF

BEIJING - China increased the value of its currency yesterday for the first time in a decade, a gesture with modest economic effects but a greater political impact on relations with the country's biggest trading partner, the United States.

The 2.1 percent increase in the value of the yuan falls far short of what the Bush administration and many in Congress had wanted, in hopes of making a dent in America's substantial trade deficit with China, which last year reached $162 billion.

The revaluation will make Chinese imports to the United States a bit more expensive and make U.S. exports slightly more competitive with Chinese-made products. The real impact on trade will be insignificant, economists said, but as a political gesture, it comes as China hopes to win relief from U.S. textile quotas that have severely limited Chinese exports of cotton socks, shirts and other clothing items.

A low value for the yuan, critics have long argued, made already inexpensive Chinese exports artificially cheaper, unfairly contributing to China's rising dominance in world trade. The small revaluation won only guarded praise in Washington.

Alan Greenspan, chairman of the Federal Reserve, described the revaluation as a "good first step" in testimony before the Senate Banking Committee.

"It is smaller than we had hoped, but to paraphrase the Chinese philosophers, a trip of a thousand miles can well begin with the first baby step," said Sen. Charles E. Schumer, a New York Democrat who has been one of Capitol Hill's most vocal critics in pushing for a shift in China's currency. "After years of inaction, this step is welcome."

China may also hope its move has broader political implications beyond trade policy. It at least temporarily relieves months of mounting diplomatic tensions over one major issue just as China is engaging in another battle fraught with politics, the takeover attempt of U.S. oil company Unocal Corp. by one of China's state-owned oil companies, CNOOC Ltd.

The currency - which will rise in value to 8.11 yuan, from the previous 8.28 yuan to the dollar - is also as much an issue about China's domestic stability as it is about international politics. A sharp change in the value of the yuan, also known as the renminbi, was never likely, in part because central planners are leery of tinkering too much with an economy that is producing millions of badly needed jobs as the country continues its socially jarring transformation to a market economy.

But some Chinese economists say that some revaluation was long overdue to help bring balance to the economy, which now favors exporters over domestic consumers, who can take advantage of a more valuable yuan when they shop for foreign goods. It might also ease the flow of speculative money coming into China from investors betting on revaluation.

The Chinese central bank's other move yesterday, breaking the yuan's long-standing peg to the U.S. dollar, may be even more stabilizing, economists said.

As the dollar fell in value around the world in recent years, so, too, did Chinese purchasing power for essential global commodities - commodities that have become only more essential to fuel the booming economy.

By linking the yuan with a more stable group of foreign currencies, China can expect more stability in how much it pays for the world's natural resources.

"Oil prices have increased so badly in the last couple of years because the oil price has increased in U.S. dollars, but oil prices in the international market did not increase as much," said Ba Shusong, deputy director of the Financial Research Institute of the State Council Development Research Center, an influential government think tank. "If the renminbi was clinging to, say, the euro, things wouldn't have been so bad."

A number of economists, including some Chinese economists, believe yesterday's currency shift does not go far enough and has come too late. Some, especially among China's trading partners, argue that the currency should be allowed to float freely as currencies do in developed countries, with the market determining its value.

Instead, central planners have decided that the yuan will continue to trade in a strictly controlled range of 0.3 percent up or down from the previous day's close. Experts note that the government must weigh the effect of any move on the country's banks, which are saddled with hundreds of billions of dollars in bad debt and could in theory face a dangerous run on deposits if the yuan were allowed to trade freely.

The Bush administration and Congress had for months pressured China to allow its currency to float and especially to increase its value. Treasury Secretary John W. Snow and other administration officials pressed the issue whenever they visited China. Schumer and other leading Senate critics went so far as to propose a 27.5 percent tariff on Chinese imports if there was no revaluation, though the proposal never came to a vote.

Chinese leaders usually bristled at such tactics while giving assurances that one day it would be in their interests to change the yuan - but that day would be of their choosing, not Washington's.

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