WASHINGTON (Reuters) - As U.S. legislators consider a bill to force China to raise the value of its currency, a China trade expert and former International Monetary Fund economist warned that being confrontational would cause more harm than good.
Yuan notes are counted at a currency exchange office in Hong Kong January 11, 2007. As U.S. legislators consider a bill to force China to raise the value of its currency, a China trade expert and former International Monetary Fund economist warned that being confrontational would cause more harm than good. REUTERS/Bobby Yip
In testimony before the Senate Finance Committee, Eswar Prasad, a senior professor of trade policy at Cornell University, said drastic U.S. policy actions over the currency would simply poison U.S.-China relations.
“Furthermore, this approach is unlikely to have a large or lasting impact on problems such as the U.S. trade deficit or imbalances in the Chinese economy, and could make matters worse for everyone by creating instability in the global economy,” said Prasad, who worked on China issues as a research economist at the IMF until he left late last year.
He said the United States could work with China in a way that generated results rather than just “kicked up a lot of dust.”
Prasad said it would be more helpful if the United States worked with China to transform its economy.
“This would be win-win international financial diplomacy -- it would improve Chinese macroeconomic performance and defuse tensions abroad,” Prasad added.
The U.S. legislation is being developed by two Democrats and two Republicans that would force China to raise the value of the yuan against the dollar.
Many U.S. lawmakers and manufacturers believe the Chinese yuan is undervalued by as much as 40 percent, which gives Chinese firms an unfair price advantage in global trade.
The so-called “veto-proof” bill would need two-thirds support in both the U.S. House of Representatives and the Senate to protect it from a veto by President George W. Bush.
But Prasad argued that greater flexibility of the yuan, while important, was “hardly an end in itself”.
It was more important to focus on what monetary policy framework would replace a fixed Chinese exchange rate that had helped China anchor inflation expectations, he added.
Prasad suggested China adopt an inflation objective -- a long-run target range -- as a new anchor for monetary policy.
“An inflation objective, coupled with exchange rate flexibility, would work best to stabilize the Chinese economy and enable policymakers to deal nimbly with various domestic and external shocks,” he said.
Eswar Prasad, a professor at the trade policy from the Cornell University, warns the United States legislators, that their bill could poison the relationship between USA and China.

This warning was given regarding the U.S. bill, which is meant to force China to raise the value of its national currency yuan. Currently yuan has a value, which is about 40% lower than it should be, as stated by the legislators, which gives the Chinese trading companies a huge advantage on the international trading ground. 

Professor Prasad, who was a China trade expert  and an economist at the International Monetary Fund until late last year, said that this bill would not have a long lasting effect and would not influence the problems the legislators are trying to avoid. 

The opinion of the China trade specialist was that the USA should try to collaborate with Chinese officials in order to fix the problem of U.S. trade deficit and the current instabilities in the Chinese economy. The strategy to force the Chinese Government to do something would only worsen the relationship between the two countries.

The expert's opinion was it was more important to concentrate on the question what framework of the monetary policy could substitute the fixed exchange rate of the Chinese currency, which helped China in anchoring the inflation expectations.

Mr. Prasad added that the best way to stabilize the Chinese economy would be to couple an inflation objective with a flexibility of exchange rate.

The bill needs two thirds of the votes both in the U.S. House of Representatives and in the Senate, in order President George W. Bush would not have the possibility to veto the bill.