The Push to Punish China
When it comes to China and trade policy these days, there are few on Capitol Hill who would, to use an old Chinese maxim, "send coal during a snowy winter." Everywhere, bipartisan critics abound. Economic nationalists want to punish China for running a $200 billion-plus annual trade surplus with the United States, while defense hawks, who view the nation as a growing military threat, and social conservatives, who abhor the Middle Kingdom's coerced-abortion, one-child policy, see trade as an opportunity to take a whack as well.
Turns out that the recent high-level "strategic dialogue" between a Chinese trade delegation and American officials from the White House and Congress was a tactical failure, doing little to alter or even slow the momentum behind the push to punish. The trade meetings were barely ended when a Senate committee started considering a measure to allow companies to petition for new duties on Chinese goods.
But there's more to come. Look for much of the action to swirl around a bill from Sens. Charles Schumer, a New York Democrat, and Lindsey Graham, a South Carolina Republican, due to be made public this month. A previous incarnation would have slapped a 27.5 percent tariff on Chinese goods in response to the weak yuan. Unlike in that version, Schumer and Graham promise this bill will be legal under World Trade Organization rules. And it might well garner enough support to survive a Bush veto. Things might move even faster in the House. Analysis from Goldman Sachs, the former corporate nest of Treasury Secretary Henry Paulson, says that chamber is likely to pass legislation this month to impose duties on Chinese goods.
Now, there's little chance that China would permit the sort of rapid currency appreciation necessary to satisfy Congress. China is fixated on the example of Japan, which, at U.S. urging in the 1980s, allowed its currency to strengthen dramatically vs. the dollar. Not only did the rising yen fail to eliminate Japanese trade surpluses, notes Stanford University economist Ronald McKinnon, but it "forced a deflationary slump and [Japan's] 'lost decade' of the 1990s." For all the talk of this being "the Chinese century," a "lost decade" for emerging China's economy could threaten that nation's political stability.
If harsh protectionist measures do pass, the move will stun corporate America and Wall Street, where markets rallied recently after Congress and the White House agreed to attach environmental and worker protections to ensure passage of two pending trade bills. Although protectionism has been perhaps the biggest macro fear among institutional investors, they may be still be underestimating the risk of a trade war with China, for surely it would respond—perhaps canceling Boeing airplane orders or even dumping U.S. treasury bonds—to any U.S. moves. Investment firm Morgan Stanley recently concluded that "an outbreak of protectionism is not [factored] in the price of world financial markets in any way whatsoever."
But this isn't just what the big-money crowd calls "headline risk"—a news-driven market hiccup. Harvard University economist Kenneth Rogoff says the impact of a Chinese bond sell-off would be "a sharp rise in interest rates and market volatility and a concomitant drop in equity and housing prices." That we don't need. And, of course, a recession in the United States, to which the Chinese exported nearly $300 billion worth of goods last year, would sting China, too. In the end, the American and Chinese economies are already too interconnected for a trade war to be anything but lose-lose. As another Chinese maxim puts it, "The lotus root is broken, but the string still connects."
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This story appears in the June 18, 2007 print edition of U.S. News & World Report.