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China's Export Engine

"If I were to balance the currency at the appropriate level," Denton said, that is, by raising the yuan as much as the Australian dollar, British pound or euro have risen against the U.S. dollar in the past several years, "the Chinese sell price and the U.S. sell price would be nearly identical, at $4.50. We would compete in a level marketplace."

In a world where nearly all major countries have moved in recent decades to currencies that float from fixed exchange rates, China has kept a different system. Limiting capital inflows and outflows enabled China to keep the yuan steady and avoid the financial crises that struck its Asian neighbors in the late 1990s, a feat for which it earned international praise. The fixed-rate policy also helped tame inflation during the 1990s.

Now, however, a major factor behind Chinese policy is the fear that a rapid appreciation of the yuan would make exports less competitive, threatening jobs.

"Traditionally, China relies on exports for growth, and the government is very nervous about harming this," said He Fan, an economist at the Chinese Academy of Social Sciences in Beijing. "There would be huge unemployment."

Those worries may be understandable, given that a big rise in joblessness could threaten China's stability, but they show that Beijing's currency regime amounts to a beggar-thy-neighbor policy, some economists assert.

By allowing China to underprice its goods, the situation "enables them to export some of their unemployment to the rest of the world and take huge advantage of the currency misalignment," said C. Fred Bergsten, director of the Institute for International Economics in Washington.

The result, aside from the impact on companies and jobs in the United States, is a widening of the vast trade imbalances that could eventually lead to turmoil in the global economy, according to Bergsten and other economists.

The U.S. deficit with China accounted for more than a quarter of the $716 billion U.S. trade gap last year. That is why China's currency policy will be on the agenda at the IMF-World Bank meeting in Singapore. Top policymakers will discuss ways to shrink such imbalances for fear that foreign investors may become spooked by the burgeoning U.S. deficit and dump their holdings of U.S. stocks and bonds. The issue will also be center stage when Paulson meets with Chinese leaders in his first trip to Beijing as Treasury chief.

"We're going to ramp up and intensify our interaction with them," said Timothy D. Adams, the Treasury undersecretary for international affairs, citing Paulson's extensive experience in China when he headed the investment banking firm Goldman Sachs.

China needs to do a lot more than just allow the yuan to appreciate, Adams emphasized. Paulson's trip will also stress the need for Beijing to shift away from exports toward greater consumer spending. But Congress is pressing for action on the currency, with lawmakers threatening punitive tariffs on Chinese goods.

Some economists consider such demands misplaced. Ronald I. McKinnon, a professor of international economics at Stanford University, said that most Chinese products sold abroad are consumer goods assembled in China using components from Japan, South Korea, Taiwan and Thailand, among other places.

"China is merely the face of a worldwide export surge into American consumer markets," McKinnon argued in a paper published in July with a colleague, noting that at Christmas, when "American families open their presents, they see mainly made-in-China labels!"


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