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Congressional Research Service, "China's Currency: A Summary of the Economic Issues", June 17, 2009

This CRS report was written by Wayne M. Morrison (specialist in Asian Trade and Finance) and Marc Labonte (specialist in Macroeconomic Policy).
June 17, 2009

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Many 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 June 3, 2009), many 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 valued currency has boosted exports and attracted foreign investment, but has lead to unbalanced economic growth and suppressed Chinese living standards.  

The current global economic crisis has further complicated the currency issue for both the United States and China. Although China is under pressure from the United States to appreciate its currency, it is reluctant to do so because that could cause further damage to export sector and lead to more layoffs. China has halted its gradual appreciation of its currency, the renminbi (RMB) or yuan to the dollar in 2009, keeping it relatively constant at about 6.83 yuan per dollar. The federal budget deficit has increased rapidly since FY2008, causing a sharp increase in the amount of Treasury securities that must be sold. The Obama Administration has encouraged China to continue purchasing U.S. debt. However, if China were induced to further appreciate its currency against the dollar, it could slow its accumulation of foreign exchange reserves, thus reducing the need to invest in dollar assets, such as Treasury 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 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 on March 24, 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 the yuan rather than the dollar. This report will be updated as events warrant.

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