Chinese monetary policy has the world seeing red

Close up of a 100 yuan Chinese note.

If the yuan is held down for too long, the global economic crisis may deepen. (Photo Credit: CC BY-SA/David Dennis/Flickr)

Chinese President Hu Jintao’s visit to the U.S. has financial experts wondering whether President Obama will be able to convince him to let the value of the yuan rise. China is a poor country at its core, but its population and rapid growth make it the world’s most intriguing economic superpower. China’s monetary policy could be leading the nation toward an economic crisis that will reverberate across the globe, writes Paul Krugman in the New York Times.

China refuses to see the chasm

As China’s government does not view inflation favorably, it has been trying to maintain tight control over the yuan. In in a Jan. 21 New York Times op-ed piece, Paul Krugman states this has already led to an artificially large trading surplus, which has increased unemployment in many countries, including the U.S. If China continues to hold the yuan down, employment will continue to remain depressed and China will lapse into an inflation-prone economy.

Inflation, Krugman says, is an economic market’s means by which to undo currency manipulation. China has kept the yuan weak and suppressed wages and prices. While the Chinese government’s goal is apparently maintaining competitive advantage in the global market, market forces have forced China’s wages and prices up. Thus, at China’s current rate of inflation any manipulation it has done will be erased within a few years.

China’s leaders don’t want this

For a variety of reasons, from the nationally unpopular notion of high inflation to protecting the interests of exporters, the Chinese government is fighting against forces in the world market, says Krugman. Current inflation rates are well above the interest rate China allows to accrue on bank deposits, 2.75 percent. That amounts to economic exploitation of the populace, Krugman believes, and the inevitability of rising prices will make the exploitation even worse.

Rather than allow the yuan to rise in value, China blames the U.S. – the Federal Reserve, specifically, for printing too much money. Meanwhile, China raises interest rates and restricts credit. As outside money funnels into the country, China’s credit enforcement becomes a fruitless endeavor. Price controls are China’s latest economic tool of choice, but economists have found that that tactic rarely works. Krugman says if China continues on its current course, the collateral damage to the world economy will be devastating.


New York Times

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