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Congressional Research Service, "China's Currency: A Summary of the Economic Issues", December 7, 2009

This CRS report was written by Wayne M. Morrison (specialist in Asian Trade and Finance) and Marc Labonte (specialist in Macroeconomic Policy).
December 7, 2009

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Some Members of Congress charge that China’s policy of accumulating foreign reserves (especially U.S. dollars) to influence the value of its currency constitutes a form of currency manipulation intended to make its exports cheaper and imports into China more expensive than they would be under free market conditions. They further contend that this policy has caused a surge in the U.S. trade deficit with China in recent years and has been a major factor in the loss of U.S. manufacturing jobs. Although China made modest reforms to its currency policy in 2005, resulting in a gradual appreciation of its currency (about 19% through December 1, 2009), some Members contend the reforms have not gone far enough and have warned of potential punitive legislative action. Although an undervalued Chinese currency has likely hurt some sectors of the U.S. economy, it has benefited others. For example, U.S. consumers have gained from the supply of low-cost Chinese goods (which helps to control inflation), as have U.S. firms using Chinese-made parts and materials (which helps such firms become more globally competitive). In addition, China has used its abundant foreign exchange reserves to buy U.S. securities, including U.S. Treasury securities, which are used to help fund the Federal budget deficit. Such purchases help keep U.S. interest rates relatively low. For China, an undervalued currency has boosted exports and attracted foreign investment, but has led to unbalanced economic growth and suppressed Chinese living standards.  

The current global economic crisis has further complicated the currency issue for both China and the United States. China halted its gradual appreciation of its currency beginning around July 2008; since then it has kept the exchange rate of the renminbi (RMB) or yuan (the base unit of the RMB) to the dollar constant at about 6.83 yuan per dollar. Because China’s currency is largely tied to the dollar, and since the dollar has depreciated against a number of major currencies in recent months, China’s real (inflation adjusted) trade-weighted exchange rate has depreciated (by 9.5% between February 2009 to October 2009). Some analysts contend that this has induced other countries (especially in Asia) to intervene in currency markets (i.e., to depreciate against the dollar) to help their exporters remain competitive with Chinese exporters.  Additionally, the U.S. federal budget deficit has increased rapidly since FY2008, causing a sharp increase in the amount of Treasury securities that must be sold. While the Obama Administration has pushed China to appreciate its currency, it has also encouraged China to continue to purchase U.S. securities.  Legislation has been introduced in the 111th Congress to address China’s currency policy.

China’s currency policy appears to have created a policy dilemma for the Chinese government. A strong and stable U.S. economy is in China’s national interest since the United States is China’s largest export market. Thus, some analysts contend that China will feel compelled to keep funding the growing U.S. debt. However, Chinese officials have expressed concern that the growing U.S. debt will eventually spark inflation in the United States and a further depreciation of the dollar, which would negatively impact the value of China’s holdings of U.S. securities. But if China stopped buying U.S. debt or tried to sell off a large portion of those holdings, it could also cause the dollar to depreciate and thus reduce the value of its remaining holdings, and such a move could further destabilize the U.S. economy. Chinese concerns over its large dollar holdings appear to have been reflected in a paper issued by the governor of the People's Bank of China, Zhou Xiaochuan, in March 2009, which called for replacing the U.S. dollar as the international reserve currency with a new global system controlled by the International Monetary Fund. China has also signed currency swap agreements with six of its trading partners, which would allow those partners to settle accounts with China using RMB rather than dollars. However, China will not likely be able to move away from its dependency on U.S. dollar assets until it is willing to make the RMB a tradable currency.

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