Trade Deficit with China and Currency Valuation on Visit Agenda

Chinese President Hu Jintao will be visiting the United States this week. The economic relationship between China and the U.S. will be high on the agenda as he meets with President Obama. For 2010, through November 2010, the U.S. ran a trade deficit with China totaling $252,384,000,000. That's $252 billion dollars that Americans have spent on Chinese goods and services over and above what they have spent in America.

The trade deficit with China in the first eleven months of 2010 is four times higher than the next largest deficit trade partner, Mexico. According to the Bureau of the Census, the nations ranking 2-10 in amounts for U.S. trade deficit total $275,633,000,000, just $23 billion higher than China's imbalance alone.

The value of China's currency (the RMB) versus the United States dollar is a major point of contention between the two nations. China does not permit its currency value to fluctuate freely though trading in international money markets but restricts both the size of purchases and the price variance. The Chinese call this policy a "managed floating exchange rate regime".

These controls keep Chinese currency at a lower value compared to the U.S. dollar than the free market would produce. That results in Chinese goods and services being cheaper and U.S. goods and services being more expensive in trade between the two nations. The Chinese have let the yuan appreciate about 3.6% since June 2010, but their public range for allowable variance is 5%.

Recent estimates suggest that the RMB is undervalued from 12-50% when compared to the U.S. dollar. While the effects of a free market valuation of the Chinese currency are debatable, it is clear that the Chinese are using the imbalance to maintain economic and social stability internally. The imbalance also allows both the Chinese government and private concerns to invest in U.S. dollars and in the United States in order to reap the benefits of the difference in currency values.

An undervalued Chinese money supply is a brake on inflation, which the rate of growth would produce. The Chinese economy has averaged 9.3% growth in its GDP in the last twenty years. During that same period, the United States averaged 3.3% GDP growth.

We can expect little from the state visit of Chinese President Hu that has not already been announced. The Chinese will agree to consider U.S. concerns but will point out that monetary policy is an internal matter for China first and foremost, and not subject to negotiation with other nations. Hu will most certainly point out the weakness of the dollar and the necessity of valuing the RMB on a market basket of currencies.

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