The US Treasury Department released its latest foreign exchange report last week. It was not much of a talking point. The strength of the dollar poses greater foreign exchange problems than any other currency in the current international economic climate, but the report does not adequately discuss this point. Moreover, the external positions of major surplus countries raise structural flaws that are more troubling than foreign exchange trends.
And yet, while some salient themes are well explored, others miss the point: what are the successes and failures?
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The first blow will be the Finance Ministry’s discussion of China’s economy and foreign relations. The report documents China’s efforts to resist the depreciation of the renminbi against the dollar and offers standard suggestions echoed by analysts in China and abroad on how China can rebalance its economy away from state-led investment and foreign dependency/overcapacity toward domestic consumerism and services. Presumably, this will be heard at the Third Plenary Session of China’s 20th Central Committee.
The debate has been liveliest in delving into the quality and growing discrepancies in China’s external data, raising questions about whether China’s surpluses may be larger than they are reported. While the analysis will not satisfy dedicated students of China’s balance of payments, the Treasury Department does raise fundamental issues when weighing tariff data against balance of payments data.
There is little reason to assume that China is intervening on a significant scale in the renminbi market. To resist depreciation of the renminbi, China relies on signals and administrative measures. If China is intervening, it is likely selling dollars. In discussing movements in the renminbi, the Treasury Department understandably returns to confusion over China’s reserves and intervention data, highlighting the opacity of China’s monetary practices.
The International Monetary Fund (IMF) should be prepared to thoroughly investigate China’s balance of payments and currency problems. While the IMF commented on tariff and balance of payments data in response to questions at the China Article IV consultation press conference in May, the final mission statement said very little about China’s external balance. The IMF’s stance of calling for a devaluation of the yuan could be extremely counterproductive from a political and economic perspective.
Much attention is currently focused on European political and electoral developments, tensions between the European Union and China due to US-China tensions, and a slowing economic recovery. In this context, the size of Germany’s current account surplus has not received much global attention. Hopefully the Treasury report will start to reverse this trend. The report is too brief in discussing some of the structural factors behind Germany’s large current account surplus, such as low investment, and too tamely and diplomatically asserting that Germany’s debt containment measures will stifle badly needed investment.
While the Treasury Department’s focus on Vietnam may seem obsessive, particularly since Vietnam’s surplus may be affected by repatriation from China and the United States should view it as a positive, the discussion of the lack of transparency of Vietnam’s FX reserves and FX reserve practices is well developed. The focus complements the discussion of China’s lack of FX transparency. The Treasury Department’s general push for greater FX transparency is commendable; the IMF should vociferously follow suit.
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Japan’s return to the “watch list” was big news, raising questions about the Ministry of Finance’s excessive quantitative assessment of major trading partners. If a country violates two of these three criteria – its current account balance is too significant, its intervention is too large, or its bilateral surplus is too large – it is automatically placed on the “watch list.” The exception to this is China, which is “watched” no matter what.
The yen is under pressure from the large interest rate differential with the United States. Japan’s monetary policy has been gradually tightening but remains accommodative, and as the Ministry of Finance well knows, that is appropriate. Japan has also intervened to stave off depreciation pressures on its currency. But Japan’s actions will be overshadowed by developments in the United States, and the yen is likely to remain weak until U.S. interest rates fall substantially. What will the Ministry of Finance be “monitoring”?
The importance of the bilateral balance is economically questionable, but difficult to ignore given domestic politics and foreign exchange reporting statutes. But the Treasury Department’s threshold for a large bilateral surplus is $15 billion, which is just 0.05 percent of U.S. gross domestic product. The Treasury Department should at least raise that threshold and abandon the idea of giving equal weight to the bilateral balance as the other two measures, and instead consider giving it more weight as a qualitative factor.
The Treasury report is well-discussed about U.S. and global economic developments, foreign exchange reserves, and market trends. However, more attention should have been paid to the strength of the dollar. The report modestly praises the U.S. growth and its role in sustaining the global economy. However, what is missing is the future relationship between rising U.S. interest rates and the policy mix that strongly supports the dollar in the foreign exchange market, contributing to the U.S. current account imbalance and providing a backdrop for protectionist forces.
Overall, this latest report highlights important themes that deserve more attention from the international monetary and financial community, if not enough to become a distraction.
Mark Sobel is the U.S. Chair of OMFIF.
