What are you waiting for, Beijing?

Beijing's dangerous currency indecision

SCMP April 4

There is something unnervingly indecisive about the leadership in Beijing. It scores quite well on rhetoric, giving the impression of nationalism on Taiwan and Japan, and of steadiness on the domestic front. But, at least judging from the issue of the currency and financial system, the soothing words and right noises cannot hide the lack of willingness to make bold decisions.

It is all very well not to allow the yuan to be pushed around by the US, which is in no position to lecture any country on fiscal or monetary rectitude. America must look to its own miserable savings rate if it wants to find a cure for its trade deficit. But the Chinese government's failure to grasp the currency nettle at any time over the past 18 months is clearly in evidence in the lending excesses and localised property bubbles for which a hefty price will have to be paid.

A more flexible currency policy has been accepted in principle for almost five years. And China's economists are not unaware of the dangers of maintaining a fixed link to a single currency which maintains an interest-rate structure designed to inflate asset prices as the way to sustain consumer spending. Yet nothing has been done. Somehow, the time is never ripe for the decision by Beijing.

Recent administrative efforts to rein in credit have not been completely ineffective, but there is almost no way that the central bank can completely sterilise expansion of the monetary base caused primarily by the huge external surplus. Nor can credit growth be controlled by market mechanisms if interest rates are held at artificially low levels to sustain an artificially weak currency.

President Hu Jintao and Premier Wen Jiabao may truly believe that they are furthering stability by doing nothing, and that a weak currency creates jobs. However, it is very hard to reconcile their currency policy with the improved income distribution and anti-corruption drives to which they have dedicated themselves.

Monetary excess leads directly to asset price bubbles, which create a few instant billionaires, much city government corruption and ends in the masses paying the price of enriching the few, via central government bank bailouts. Furthermore, monetary excess inevitably increases regional income disparities because the excess money mostly flows into more financially developed regions such as Shanghai. The disparities are further enhanced by the depth of corruption within the banking system. The government is trying to address this, but in every country easy money conditions go hand-in-hand with scams.

Rather than creating jobs, the weak currency policy appears to be primarily benefiting foreign exporters and middlemen rather than local workers. The labour shortages which are supposed to have arisen in Guangdong can be directly linked to a failure to increase wages sufficiently to lure workers from other provinces at a time when incomes elsewhere have been rising.

A currency rise would translate into higher real wages at the expense of exporters' margins. Given the competitiveness of Chinese industries, it seems unlikely that export volumes would be significantly curtailed by a stronger currency. Revaluation would raise domestic buying power and hence stimulate local demand and employment, while deflating asset bubbles.

Last year, China could claim that its external surplus was evaporating as a result of high oil and other commodity prices, and the strength of domestic demand. But despite continuing high commodity prices, this year seems likely to see China record another massive current account surplus and significant capital inflow.

The longer the delay in addressing the issue, the worse China's problem becomes - and the longer the US can claim that its trade deficit is anyone's fault but its own. Revaluation will help China, not the US.

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