Monday, January 17, 2011

The Clash of the Titans

Contributed by Ian Chan

Ahead of his official visit to Washington, D.C. tomorrow, President Hu Jintao of the People's Republic of China shed some light on the views of the ruling Communist Party in a series of answers to submitted questions by the Washington Post and Wall Street Journal. His answers were broadly compromising and conciliatory, but also reflected a growing assertiveness and alternate opinion that will likely clash with the U.S. position.

Relations between the two biggest economies of the world have been rough in 2010. China's reluctance to rein in North Korea's increasingly erratic and militant regime; U.S. sale of arms to Taiwan; China's unwillingness to revalue the Yuan, its domestic currency; and the second round of quantitative easing initiated by the Federal Reserve. It is on this economic front that the real clash is likely to happen between the leaders in their closed-door talks in the coming week, but other issues such as human rights and political reform will probably be raised in private.

China's argument against the Fed's actions reflects a general sentiment among the developing world that the inflationary efforts by the central bank is artificially devaluing the U.S. dollar and exporting inflation to other countries, often developing ones, that are experiencing increased money flows. The American argument against China's currency policy (or manipulation) points toward the cheapness of its exports that distort international trade surpluses and deficits. The U.S. economy, desperately in need of a boost, is trying to double its exports in the near future but will be hard pressed if cheap Chinese goods continue to flood the market. Many economists attribute China's increasing inflationary pressures on the undervalued currency.

But the real meat in President Hu's comments come in his not so subtle remarks against the international financial and currency system. "The current international currency system is the product of the past," he said, directly attacking the Dollar-dominated system that the world currently operates in and which the PRC government is an active participant. China's central bank is the largest holder of U.S. Treasury bonds that are all denominated in the Dollar. Moreover, President Hu highlighted the success of recent moves to allow Yuan trading in offshore sites such as Hong Kong and stated his hope that the Yuan will one day be an international reserve currency.

Whatever the rhetoric is from China, it is unlikely that there will be a substantial move by the central bank to try to replace the Dollar with the Yuan as the global currency. China itself is too much involved with the success and stability of the Dollar to want to change the system as it is. Moreover, the Yuan is not a freely traded currency, and only available for international settlement through Hong Kong, though a vibrant market, is limited in scope. Until China's currency is freely traded on the market and available for international transactions, there is little chance that either the central bank will pursue expansion, or investors/traders will be interested in trading in Yuan. The Dollar dominated system looks like it will stay for the foreseeable future.

Since President Obama's conciliatory tone toward China, coupled with a humbling visit in 2009, has produced little warming of relations or change of policy, many political pundits and politicians on both sides of the aisle have been clamoring for the President to confront China on more fronts directly. The issue of human rights and democracy has been noticeably missing in the President's statements concerning China, and unlike the Clintoninan era where American officials often lectured their Chinese counterparts on economic and social policy, officials these days often avoid confrontational remarks and aim to compromise on all fronts. Given the President's need for a public boost and broadly intepreting China's reluctance to change, it may be Obama's best shot if he is seen in public to emphasis human rights and democracy and press the Chinese President for substantive reforms in the political system. Reformers, who seem to be led by the Chinese Prime Minister Wen Jiabao, have been noticeably silenced in the past year on the issues of reform, as hardliners including President Hu and the military have dominated public appearances and the media. Although the President's attitude and statements are unlikely to change much at the top, it may be seen by activists on both sides of the Pacific as a rally to action and progress.

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