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Congressional Research Service, China’s Currency Policy: An Analysis of the Economic Issues, Dec. 19, 2011

CRS report by Wayne M. Morrison and Marc Labonte.
December 19, 2011

Executive Summary
China’s policy of intervening in currency markets to limit or halt the appreciation of its currency, the renminbi (RMB), against the U.S. dollar and other currencies has become an issue of concern for many in Congress. Critics charge that China’s currency policy is intended to make its exports significantly less expensive, and its imports more expensive, than would occur if the RMB were a freely-traded currency. They contend that the RMB is significantly undervalued against the dollar and that this has been a major contributor to the large annual U.S. trade deficits with China and the loss of U.S. jobs in recent years. Several bills have been introduced the 112th Congress that seek to address the effects of undervalued currencies (which are largely aimed at China), including H.R. 639, S. 328, S. 1130, S. 1267, and S. 1619 (which passed the Senate on October 11, 2011). On the other hand, some analysts contend that China’s industrial policies, its failure to adequately protect U.S. intellectual property rights, and its unbalanced economic growth model, pose more serious challenges to U.S. economic interests than China’s currency policy. Some U.S. business groups have also expressed concern that U.S. currency legislation could aggravate U.S.- China commercial ties.

From July 2005 to July 2008, China’s central bank allowed the RMB to appreciate against the dollar by about 21%. However, once the effects of the global economic crisis became apparent in 2008, China halted appreciation of the RMB in an effort to help Chinese industries dependent on trade. From July 2008 to about mid-June 2010, China kept the exchange rate of the RMB relatively constant at 6.83 yuan (the base unit of the RMB) to the dollar. On June 19, 2010, China resumed appreciation of the RMB, and since then, China has allowed the RMB/dollar exchange rate to rise by 7.6% (to 6.35 yuan per dollar) through November 30, 2011. However, many U.S. officials have criticized this pace as being too slow, especially given China’s strong economic growth over the past few years, including its trade sector, and its rising level of foreign exchange reserves.

Many economists argue that the effects of China’s currency policy on the U.S. economy are complex. If the RMB is undervalued (as many contend), then it might be viewed as an indirect export subsidy which artificially lowers the prices of Chinese products imported into the United States. Under this view, this benefits U.S. consumers and U.S. firms that use Chinese-made parts and components, but could negatively affect certain U.S. import-sensitive firms. An undervalued RMB might also have the effect of limiting the level of U.S. exports to China than might occur under a floating exchange rate system. Further complicating the issue is China’s large purchases of U.S. Treasury securities, which totaled at least $1.15 trillion as of September 2011. These purchases occur because China’s intervention in currency markets causes it to accumulate large levels of foreign exchange reserves, especially U.S. dollars, which are then used to purchase U.S. debt. Such purchases help the U.S. government fund its budget deficit, which helps to keep U.S. interest rates relatively low. These factors suggest that an appreciation of the RMB to the dollar could benefit some U.S. sectors, but could negatively affect others. The effects of the global economic slowdown have refocused attention on the need to reduce global imbalances (in savings, investment, and trade), especially between China and the United States. Many economists contend that China should take steps to rebalance its economy by lessening its dependence on exports and fixed investment as the main drivers of its economic growth while boosting the level of domestic consumer demand. A market-based currency policy is seen as an important factor in achieving this goal. Further RMB appreciation could help promote the development of non-export industries in China, while boosting China’s imports, including from the United States.

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