With slow economic growth, high unemployment, and an election around the corner, American politicians are looking for a scapegoat to blame for their economic woes in order to convince the public they are doing all they can to rectify their current situation.
The problem is that the U.S. policy makers have taken this too far with the passing of the “Currency Exchange Rate Oversight Reform Act of 2011″ by the U.S. Senate. This act will place steep tariffs on any nation that manipulates their currency to be undervalued. The bill is clearly targeted at China’s Yuan currency, as U.S. lawmakers believe their low exchange rate with the U.S. Dollar has led to the loss of American jobs and hindered the ability for domestic products to compete with Chinese imports. Immediately after this bill was passed, the Chinese government condemned it, saying the bill would not solve America’s problems of high unemployment and insufficient savings. China also warned that if this bill became law, then the result would be a trade war and a very unhealthy relationship between the two countries. In any trade war, everybody loses something, but the winner is determined by who loses less. Sadly, the American politicians do not see that in a trade war with China, the U.S. sits in a disadvantaged position.
To start, the Senate’s belief that a higher Yuan will allow jobs to be brought back from China is a far flung hope; China will still have the most efficient labour force and infrastructure which will allow China to keep producing cheaper products as compared to American manufacturers. Also, the jobs that would be lost in China will not return to the United States as they will merely move to another country with lower wages, such as Vietnam.
Another disadvantage is that the tariffs would also apply on the products produced by multinational corporations in China. These products account for 60% of China’s exports. Since many products are now produced in a global supply chain, these tariffs, along with Chinese retaliation, would cost 6500 American jobs for every 1% of lost Chinese exports to America. Furthermore, these tariffs would also hurt U.S. consumers as China and the U.S. no longer compete in most product markets in the U.S., so consumers will still have to purchase products produced in China. With extra tariffs, the consumer would be forced into buying more expensive goods thus reducing consumption. Retaliation would also occur on U.S. imports into China where American companies will face significant barriers in the Chinese market and are likely to witness a reduction in profits costing additional American jobs in the service industry.
The economy would not be the only battlefield that the trade war would be fought on. It will also determine the way China and the U.S. will act on the global stage. China will probably use its economic clout and political power to block any U.S. goals on the international stage.
On the other hand, the Chinese economy would also suffer, but not to the extent of the U.S. though. A recent analysis has shown that a 25% tariff (the tariff rate proposed by some economists) on China would result in a 1% decrease in GDP. With a growth rate of 10.3% of GDP last year, China can weather the storm far better than the United States. This is due to the fact that China has been developing its own domestic demand and aggressively investing in emerging markets such as Africa and South America to make up for American demand.
Instead of waging a trade war that the U.S. would probably lose, America should use diplomacy to encourage the Chinese to increase the value of the Yuan. China has already recognized that it has to increase the value of the Yuan to tame the high inflation rate and to be able to import more goods to satisfy its increasingly wealthy consumer base. With the Yuan appreciating 7% against the dollar since June 2010, the U.S. should rethink their strategy on China and wait for the Yuan to continue appreciating instead of taking the huge losses associated with a trade war which could potentially result in America being replaced as the world’s predominant power.