Obama And China

You can be certain that it is a false inference of newspapers that a trade war between the US and China has broken out. Perhaps, because of the recent rhetoric of President Barack Obama, this wrong inference has been triggered.

The US Congress passed a legislation a few days back that countries that undervalue currencies would be penalized. Of course, China is the main target of this legislation. It is a known fact that China is flooding the US with cheap products and because of this, manufacturers of the US who produce low-end products are greatly suffering. Obama made a statement recently that because China was managing their currency cleverly, the goods they exported to the US were cheaper than the goods produced inside the US.

Every one knows that China is always trying to undervalue its currency. Though China has promised to float the Yuan and Yuan has slightly appreciated since June, the small appreciation is not able to create a major impact on the trade gap between China and the US.

In this context, we should understand the precarious situation of Obama. The economy continues to be in shambles and the midterm elections are round the corner. Therefore, Obama is forced to come out with some rhetoric to have attention in these tough times. But, Obama also knows that the economy will be in a worse situation if China does not supply the US with cheap goods. Further, China buys a lot of US government papers. If the statistics should be believed, China has bought $800 billion worth of US treasuries. Additionally, the foreign exchange reserves China is believed to have is a whopping $2 trillion. If China decides to stop buying US government papers, the borrowings of the US government will sky rocket. This will lead to higher interest rates which will break the backs of Americans who are already struggling because of unemployment and huge unpaid bills.

But, China can not take a drastic action against the US dollar without hurting its own economy. If the dollar weakens, its reserves will dwindle in value. The factories in China that are dependent on exports to the US market are employing about 50 million people in China and hence, China can not jeopardize their employment. If you look at the American scene, the number of jobs in the US, dependent upon exports to China, is a mere 500,000.

The situation is simple to explain. The US economy needs the Chinese and the Chinese economy largely depends on the US market. Neither of these need be ashamed to admit this fact. In this context, China is advised to allow its currency to appreciate a little more. When the dollar weakens against Yuan, the purchasing power in China will appreciate and hence there will be a spurt in consumption within China. This will help other countries also because they can also export more to China and narrow their trade gap with China. Since China has the ability to maintain its productivity level, there will not be any problem for them to maintain their edge.

Americans are learning to spend less and save more. If this trend continues, Chinese should look inwards for selling their goods. Though this will take years to fructify, it is better China realizes that they should concentrate more on creating domestic demand and increasing the purchasing power of their own people.

Of course, till it happens, such statements like the Obama rhetoric will continue and the Chinese will also promptly protest these statements. But, since it is the interdependence of these two great economies that is binding them, there is no fear that emotional rhetoric will play the spoilsport in the relationship between them.