Donald Trump’s decision to label China a currency manipulator cranks up the trade conflict between the world’s two biggest economies. It adds uncertainty to an already jittery mix on the global markets.
The designation is a largely symbolic move, but one with major repercussions in the real world. It caused havoc on Asia’s stock markets and drove the Dow Jones index to its biggest one-day slide since Christmas Eve.
The move forces both sides to dig in for a long battle of wills and it makes finding a resolution after a yearlong standoff significantly more challenging.
Generally, China has been propping up the yuan against the dollar, rather than stopping it from rising. By some estimates, 10 yuan to the greenback is a more representative picture of the Chinese currency’s true value.
Some analysts believe the yuan could even drop by up to 40% without government support.
A cheaper yuan helps China’s exporters compete in the US and global markets, offsetting the impact of painful tariffs to some extent. It will help to prop up China’s faltering economic momentum.
But it’s a risky move too. A weaker yuan endangers government efforts to support economic growth by boosting domestic consumption, because consumers will have to pay more for imports. This will in turn have a negative effect on countries that are major exporters to China, such as Germany — and the US itself.
Devaluation could fuel capital flight and undermine economic stability.
Over the years, China has regularly intervened to stabilize the yuan, within certain tight parameters. It’s open to interpretation whether this is letting markets dictate the exchange rate or if this allows the People’s Bank of China to push the yuan’s exchange rate to the level the Communist Party leadership thinks will support the economy.
How did it come to this?
Against the backdrop of simmering trade tensions, Trump tweeted he would impose a 10% levy on an additional $300 billion (€269 billion) in Chinese goods after accusing Beijing of failing to fulfill its promise to buy more American farm goods and stop the sale of fentanyl.
The People’s Bank of China responded by allowing the yuan to slide below seven to the dollar. It had toyed with that level for three years, but never breached it.
Trump read this as weaponizing the currency and responded with the currency manipulator badge of shame.
The US Treasury will seek talks with the International Monetary Fund (IMF) over possible remedies to what it believes is a rigged system.
It’s hard to know how this will go. In July, the IMF said the yuan’s value was broadly in line with China’s economic fundamentals, while the US dollar was overvalued by up to 12%.
Under a 2015 law, a major US trading partner is a currency manipulator if it has a significant bilateral trade surplus of at least $20 billion with the US, a “material” currency account surplus, and it must be engaged in persistent one-sided intervention in the foreign exchange market.
Going by these rules, the label is better applied to Switzerland than China.
As so often in this trade spat, it’s tough to separate political machinations from economic realities, to separate genuine threats from empty name-calling.