Currency Manipulation: China's Greed & India's Need

[Rajiv_Shastri]

Esuric,

I wont go into my reasons for wanting China to step out of the Currency market again as I have already done it. And given your response, I don’t think stating it again will change your beliefs about my intentions. So lets just leave it at that.

As for the status of the USD as the global reserve currency, it’s true that the US was probably the only country that wanted the USD to be the reserve currency going into Bretton Woods. It strengthened it’s case by offering fixed price convertibility to Gold, something no other nation was willing to offer. But when it announced a discontinuance of fixed price gold convertibility (unilaterally, which was to my mind the single largest sovereign default in history) the world had a choice to move away from the USD. In making the choice to stay with the USD, all countries of the world assumed equal responsibility for the continuance of the USD standard.

China, India, Japan, Russia and all other nations who hold their reserves in USD assets, make that choice everyday. At this point of time it doesnt make sense to blame the US alone for the situation.

Yes, removing the USD from its pedestal would be the right thing to do, but the ideal thing to do would be to abolish all fiat currencies and have monetary competition. Yesterday, the UAE proposed the launch of gold coins as legal tender (link). Its a small step, but a step nevertheless. It may or may not be successful, because to lay folk, gold is still an investment. Not money.

Probably a trade war will generate the global crisis needed to change the way money is looked at by people. Probably it will generate inflation of a magnitude required for people to shun currencies. Maybe it won’t.

The empirical definition of Mercantilism includes only tariffs and duties, probably because when it was coined, even fiat currencies were backed by hard assets and currency manipulation hadn’t even begun. It began in earnest only after the US default of 1971, when the issuance of currencies was effectively de-linked from ownership of assets. Unfettered, so to say. Probably a modern definition for mercantilism would include currency manipulation.

I look forward to your response.

[Catalan]

@Rajiv Shastri

Its simple math you’re denying through the use of theory. I would be grateful if you could explain it using a model.

Your math supported my argument, and so did my math. China is subsidizing foreign importers through inflation.

And what you have stated is that a nation that sells more than it buys actually suffers from a net loss… If this is actually true, then India, due to its trade deficits, would be in making a ‘net gain’. Are you sure thats how it works?

Yes, you are still not looking at it from the perspective of individual sellers. You are committing a mercantilist fallacy. I invite you to re-read my argument:

A weak yuan has actually benefited China’s trade partners more than it has China. By undervaluing the yuan China has effectively made it cheaper for foreign entrepreneurs and consumers to import capital-goods and consumer-goods. Perhaps my point will be clearer through an example. Imagine an entrepreneur who needs to purchase Chinese steel to build a factory in California. Let’s say that in the free market the exchange ratio between the dollar and the yuan is 1:4. What this really means is that an American buyer has to exchange 1 dollar worth of capital in exchange for what in China is represented as 4 yuan worth of capital. By artificially decreasing the value of the yuan, let’s say to 1:8, the American entrepreneur now pays less for more. The winner is the American, and the loser is the Chinese seller who has not yet adjusted his goods to the rise in inflation. Furthermore, the Chinese consumer also loses because the ultimate result is an increase in the general price level.

Chinese labor is being bought in yuan locally, but through the exchange rate, in terms of other currencies externally. If labor continues to cost the same in yuan terms and the yuan weakens, it results in cheaper labor in terms of all other currencies.

Chinese labor is not bought with foreign currency. Chinese labor is being bought in yuan, because Chinese laborers don’t value dollars or any other foreign currency. Chinese labor is being bought with yuan, by Chinese entrepreneurs, and so with inflation the cost of labor increases. This is probably one of the reasons why Chinese wages doubled before the recession.

EDIT: I wrote a long article last night on the topic. I’m going through the stages of copyediting it; I’m going to submit it to Mises.org, but a rough draft will be posted on my blog on Monday. I hope that will clarify my argument.

[Esuric]

@Rajiv Shastri

China, India, Japan, Russia and all other nations who hold their reserves in USD assets, make that choice everyday. At this point of time it doesnt make sense to blame the US alone for the situation.

Well, the U.S. won’t just let this condition peacefully come to an end (Iraq), and many nations hold trillions in dollar denominated debt. So this “arrangement” is not as voluntary as you make it seem. But it’s true that some nations benefit from the current conditions; unfortunately, it cannot last, and it is keeping billions of individuals (especially in East Asia) trapped in poverty.

Again, my only point is that condemning China for currency manipulation is like condemning a young college student that accepts government financial aid. It’s only rational for them to do so. None of this can change until this system comes to an end, and international trade wars will only make things worse.

@Rajiv Shastri

Probably a trade war will generate the global crisis needed to change the way money is looked at by people

It could lead to WW3, who knows? Each world war took the international monetary system in the wrong direction. A third world war, if the human race is not obliterated, may introduce an international central bank with a unified global fiat paper currency (which may be worse than total obliteration).

There’s a lot of anti-China rhetoric these days. Its like America, rather then defaulting on its debt, may just invade all of its creditors.

@Rajiv Shastri

The empirical definition of Mercantilism includes only tariffs and duties, probably because when it was coined, even fiat currencies were backed by hard assets and currency manipulation hadn’t even begun.

Mercantilism views money as wealth, sees the interest rate as purely a monetary phenomenon, and believes in “favorable balances of trade.”

[Smiling_Dave]

Dave,

I do not assume etc. etc.

My apologies. I didn’t see this paragraph, buried as it was in a long post to Jonathan.

To get the reader up to speed, Rajiv had earlier written:

Lets assume that a product can be manufactured in both US and China for USD50 in raw material and 2 man-days of labor. If labor cost in China is USD 12.50/man-day and labor cost in the US is USD 25/man-day, the US manufactured product would cost USD 100 while the China manufactured product would cost USD 75. If US consumers buy the Chinese product, they gain USD 25 while US workers lose USD 50 in wages. The net loss to the US economy is USD 25. China gains USD 25 in wages.

I wrote in reply:

That is incredibly flawed.

It assumes there is an equal number of guys laboring to make the product and consuming the product. This is rarely the case. If a manufacturer only sold to the guys in his factory, he would be in deep trouble most of the time.

For example, there are about a million auto workers in the USA [http://www.usatoday.com/money/autos/2008-12-04-auto-workers-by-state_N.htm]

The number of passenger vehicles ALONE sold in the USA is about 7 million. [http://en.wikipedia.org/wiki/Passenger_vehicles_in_the_United_States]

So using your numbers, consumers gain 175 million, and the workers lose 50 million.

And Rajiv pointed out [correctly]:

Dave,

I do not assume that there are an equal number of guys making the product & consuming it. The example was not about the number of people involved, but about the number of units produced.

Therefore in my example, US workers lose USD 50/ unit of product not USD 50/worker… Extending it to your car figures, the US consumers gain 175 million and US workers lose 350 million.

Rajiv is mistaken, of course, but his mistake lies deeper than where I thought it did. It’s in the very first sentence of his thought experiment:

Lets assume that a product can be manufactured in both US and China for USD50 in raw material and 2 man-days of labor.

Now wait just a minute, Rajiv. You are saying that the US and Chinese worker are equally productive. Which means, by the laws of economics, that they should be getting the same wage. Which of course crumbles to dust the rest of your scenario, where the Chinaman gets half the wages of the American.

Now there might be some who ask, why, oh Smiling Dave, do you say the Chinaman must get the same as the American [if they are equally productive]? Aren’t the Chinese slaves or something, who just are stuck with whatever peon wage they can get, while the American is free in a free society, empowered by the mighty justice seeking unions and the watchdog politicians, to ensure he gets a fair wage?

No. Nothing could be further from the truth.

Tell you what, Rajiv. I’ll let Rothbard do the work for both of us. Read this fine article of his: http://mises.org/rothbard/protectionism.asp

He explains in detail why you are wrong, as if he had risen from the grave, read your very post, and written that article. [Except that he wrote about Japan, not China.]

He also explains why equal work gets equal pay, no matter what the country.

So the proper continuation here should be that you summarize his position correctly, the standard thing in intellectual discussion, and then explain why he is wrong in your opinion.