Foreign Currency Piles Up in China

By Peter S. Goodman
Washington Post Foreign Service
Tuesday, January 17, 2006

SHANGHAI, Jan. 16 -- China's state media on Monday reported that the country's foreign currency reserves swelled by more than one-third last year to a record $819 billion as its factories churned out goods for markets around the world, heightening the likelihood of fresh trade tensions with the United States.

Coupled with news only days earlier that China's world trade surplus tripled last year, to $102 billion, the country's burgeoning foreign exchange reserves seemed certain to intensify demands that China increase the value of its currency, the yuan, the worth of which is linked to the dollar. U.S. manufacturing groups argue that China's currency is priced too low, making its goods unfairly cheap on world markets. Lawmakers in Congress have pressed a bill that would impose across-the-board punitive tariffs on all Chinese goods unless the country substantially raises the value of its currency.

"This could give the senators more meat for their argument," said Stephen Green, a senior economist with the bank Standard Chartered PLC in Shanghai.

Chinese officials braced for further conflicts with the United States, particularly as many economists anticipate that the country's trade surplus will widen. A flood of investment into industries such as steel, automobile manufacturing and electronics has erected too many factories and produced more goods than China can absorb, sending prices falling while encouraging Chinese firms to seek sales abroad. Diminished profits and slowing investment temper China's demand for machinery and raw materials, limiting the need for imports.

"It's almost certain that China's trade surplus will remain at a high level in 2006," said Mei Xinyu, an economist at the Chinese Academy of International Trade and Cooperation in Beijing, a research institute operated by the country's Ministry of Commerce. "Obviously, there will be further pressure from trade protectionists in the United States."

China argues that it is being used as a scapegoat in Washington for the decline of U.S. manufacturing: The flow of capital to lower-cost manufacturing areas is a global phenomenon that is transferring jobs not only to China, but also to Latin America, Eastern Europe, India and Southeast Asia. About two-thirds of China's exports are produced in factories that are financed at least in part with foreign investment, undercutting the notion that this country's growing trade is coming at the expense of everybody else.

Analysts said the stance of China's Communist Party-led government will not change, despite the broadening of its global trade surplus and its buildup of foreign exchange. Beijing will continue to move only gradually to widen a band within which the yuan trades against the dollar, lest it unleash uncertainty in a financial system rife with risks -- not least, the existence of an estimated $500 billion in bad debt choking its banks.

China is loath to increase the yuan enough to dampen growth in its coastal factories. Exports are a key source of jobs in a country that must find tens of millions of them for poor farmers and workers laid off by bankrupt state factories in the continued transition from communism to capitalism.

Last July, China bumped up the value of the yuan by 2 percent against the dollar, somewhat diminishing tensions with the United States. But in the months since, the yuan has moved little against the dollar, though it has strengthened considerably against other currencies, such as the euro, as the dollar itself has climbed.

Still, some economists said China's reserves were now growing so huge as to compel the central bank to deliver a significant revaluation. Otherwise, China risks that its reserves will leak into the banking system and be lent out for speculative investments that will only worsen a feared glut of real estate and factory capacity.

"The renminbi [yuan] is fundamentally undervalued," said Ha Jiming, chief economist at China International Capital Corp., a giant state-owned investment bank. "As foreign exchange continues to grow, it will force a revaluation."

The details disclosed in Monday's state press accounts and reported Sunday on the Central Bank's Web site confirmed that China is on track this year to exceed $1 trillion in foreign exchange reserves. That would probably elevate China to the biggest holder of foreign currency, eclipsing Japan, which has $847 billion.

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