Thursday, May 12, 2005

Why the Chinese “Yaun” is not a “Sleeper” Issue

Chinese Yuan Posted by Hello

And How the Price of a Tee Shirt Controls a Nuclear North Korea

I contend that the most serious long range issue faced by the United States both in foreign affairs and in economics is the exponential emergence of China as an economic engine with the power to influence and control future world-wide events. We all recall the past years when the world’s tension (the Cold War) was focused on the two superpowers of the USA and the USSR. While I do not discount the importance of the Middle East in terms of terrorism, religious conflict, violence and oil disruptions; the rise of India as one of great powers; the importance of all of Asia (Japan, the Korean peninsula, Taiwan vis-à-vis China, Vietnam); the EU (consolidation and decline) and the changes in NATO; the evolution of Russia; and the turmoil in South America – none of these compare in scope and importance to the rise of China as the balancing superpower to the United States.

Economists and businessmen recognized this first and have been writing, talking, and acting upon these realities for some time. The foreign affairs gurus are catching up and even the popular press (Newsweek last week) is starting to recognize the size of the issue.

The two superpowers will engage in a race to economic preeminence which I see as a potentially great and positive change agent for the entire world, albeit that all change is inherently stressful and fraught with dangers. I do not see the rise of China into a more democratic, energy consuming, and modern country as a problem but rather as a challenge – chance for a win-win for China and the USA rather than a win for only one. The US must resist foolish protectionist thinking and resistance to change, and accommodations in thoughts and attitudes will be required by all the citizens of the world. The strength of most institutions in both countries (primarily those focused on education, technology, and the public and private support structures to provide safety nets to those whose abilities to adapt are too slow for the speed of change) will be immensely challenged.

This on-going economic race will create many diplomatic and military challenges but I see the key to the smoothness of the race to be forward-thinking, free-market, and democracy-based economic policy. Foreign affairs policies and the internal and international economic policies employed by the two main superpowers and the supporting players throughout the world will by necessity have to be fast-moving, far-sighted, and engaged without fear.

To bring all of this back to ground, the current movement of the Chinese yuan is a unique glimpse of the impact of economic policies upon current events in the world today.

(If you need background just remember that the value of a currency is essentially its price - usually measured by how much it costs to buy or sell, e.g. an ounce of gold buys $100 dollars or $1 is worth 8 yuan, etc. When a currency is pegged at a certain value such as China pegging its yuan against the dollar at a set price, the currency does not move on a free market basis but is controlled by actions of a country’s central bank to control the price at the set number. These actions include heavy foreign buying of US debt instruments such as Treasury bills that some short thinkers worry weakens the fiscal strength of the US as more US debt is held by foreign hands rather than US hands. In reality global economies are so interdependent and the US is so credit-worthy in the eyes of the world this is not yet a problem. This description is very simplistic but let’s leave it there for now.)

China has pegged the yuan at an artificial value that for China creates cheap exports and grows its own economy at a rapid pace, maintains and grows employment, energy consumption (think oil) and higher standards of living. The US would prefer to improve our own balance of payments (reduce trade deficits) by allowing our goods to be more attractive in foreign markets and imported goods more dear (expensive) thus improving and strengthening our economy (think US manufacturing) and holding jobs.

The US and China have conflicting goals. The US and China also recognize a need to compromise to create as much of a win-win as possible to help each other succeed as reasonable for both.

To further simplify the connections between economics, politics, and foreign affairs: The model I am asking you to consider is that as the US encourages China to allow the Yuan to float 2-6% in the near term rather than forcing a harsher correction upon China the US is in better position to encourage China to put greater pressure upon the North Koreans to negotiate in good faith toward a resolution of the nuclear threat in the Korean Peninsula. Therefore the price of tee shirts in Wal-Mart that are all imports from China should begin to go up about 5% (still cheaper than a US tee shirt which is not a bad thing given the theory of comparative advantage – another day’s topic) and we should see China get North Korea back to the bargaining table over nuclear weapons in the not too distant future. Of course, the flaw in the theory is that Kim Jung Il is not always a rational actor.

So watch the price of tee shirts to predict nuclear proliferation.

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