In my column for the February 23rd, 2007, edition of the Pittsburgh Tribune-Review I continued my discussion of the fallacies that surround the value of foreign currencies. You can read this column beneath the fold.
Don’t complain about bargain prices
Interest groups and politicians increasingly complain that the values of the Chinese yuan and the Japanese yen are “too low.”
The concern is that a foreign currency whose value against the dollar is “too low” makes foreign-made goods and services less expensive for American consumers (and makes American-made goods and services more expensive for foreign consumers).
If Beijing and Tokyo would only raise the values of their respective currencies, then Americans would import less and export more — an outcome that, allegedly, is desirable.
Or that, at any rate, is the theory behind the accusations of currencies being undervalued.
It’s a bad theory.
For starters, raising the value of a foreign currency might not raise the prices that American consumers are asked to pay for imports.
As my colleague Tyler Cowen pointed out last year in the pages of The New York Times, China specializes in assembling products out of component parts that Chinese factories buy from other Asian countries. So if the value of the Chinese yuan rises, the cost to Chinese factories of producing goods for export to America falls. The reason is that a given amount of yuan would then buy more component parts for assembly in Chinese factories.
The effect of the falling cost of production of goods made in China might offset, or even swamp, the fact that American importers would have to pay more dollars for each yuan that they buy.
But there’s an even deeper reason why Americans should not tolerate Uncle Sam accusing foreign governments of undervaluing their currencies. Such undervaluing — if, indeed, it occurs — benefits Americans.
Keeping in mind that it is difficult to determine whether or not a government truly is keeping the value of its currency too low relative to the dollar, let’s assume (for argument’s sake) that the Chinese government really is doing so.
How does it achieve this outcomeâ¢ Answer: The Chinese government must buy up dollars and keep them out of circulation. By reducing the supply of dollars on foreign-exchange markets, the value of the dollar rises relative to other currencies, including that of the Chinese yuan.
In other words, the value of the yuan falls against the dollar.
Now ask: How does the Chinese government buy these dollars? It can do so only by taxing its citizens, either directly (such as by raising their income taxes) or indirectly through inflation — simply printing new yuan — or deficit financing. Each of these policies transfers money from the pockets of Chinese citizens to the coffers of the Chinese government. This government then uses these yuan to buy up dollars.
The ultimate result is that the Chinese government forces Chinese citizens to subsidize the consumption of Americans and other peoples who import goods from China. The Chinese people either pay higher taxes or suffer inflation so that Chinese exporters can sell goods to foreigners at artificially low prices.
Why should Americans complain? The real victims of such currency manipulation are the Chinese people. Americans are beneficiaries.
Of course, Sens. Charles Schumer, Lindsey Graham, Sherrod Brown and other protectionists on Capitol Hill would react in mock horror to this claim. They would assert that the real losers are American producers who must compete with Chinese firms selling at “unfairly” low prices.
Indeed, if Beijing taxes its citizens to subsidize American consumption, some American producers who compete with these subsidized products are harmed. But this fact is insufficient reason for Uncle Sam to intervene.
One reason is that approximately one-third of American imports are inputs into goods and services produced in America. If Beijing really is keeping the yuan “undervalued,” large numbers of American producers are benefited by the resulting lower prices of these imported inputs.
More fundamentally, consumers don’t exist to serve producers. Producers exist to serve consumers. If consumers, for whatever reason, find producer A’s deals to be more attractive than those offered by producer B, producer B has no economic or moral claim on consumers’ patronage.
Just as Americans should applaud if a technological advance in China enables producers there to lower the prices they charge for the products they sell in America, so too should we applaud if China’s government uses its fiscal and monetary policies to lower prices for consumers here.
Applause in the second case should be somewhat muted –for reasons that I’ll explain in my next column — but we should still applaud rather than complain and threaten.