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 Richmans' Trade and Taxes Blog

The Currency Reform Bill Won't Work: What Should Replace It and Why
Howard Richman, 7/4/2010

In a July 4 commentary, Ian Fletcher, author of Free Trade Doesn't Work: What Should Replace it and Why, argues that the bipartisan Currency Exchange Rate Oversight Reform Bill would only be a small first step toward solving our trade problems. He begins:

It's nice to see the long-stewing Chinese currency manipulation pot bubbling a bit again, thanks to China's latest blatantly disingenuous move to allow a token fluctuation or two of the yuan. And it's great that Senator Stabenow's currency bill is inching towards the floor of the Senate. (The underlying idea, giving American industries formal trade remedies against currency manipulation by foreign governments, was actually thought up several years ago by Kevin Kearns, president of my organization, the U.S. Business & Industry Council.)

Later in the commentary, Fletcher points out that the bill is seriously flawed because (1) it acts slowly and (2) it relies upon industries filing lawsuits with the Commerce Department:

Would the ... currency-reform bill get us out of this trap, if it passed? As noted, it's definitely a positive move, but it's still just a start. Its key limitation is that its approach is gradualist and, above all, reactive, because it depends on victimized industries filing lawsuits under the trade laws. So it will ultimately need to be supplemented with a much more comprehensive strategy.

Fletcher doesn't mention two other very serious flaws:

1. Relies upon Obama administration. It relies upon the Treasury Department to declare the yuan to be an undervalued currency and upon the Commerce Department to act when a U.S. company is hurt because of an undervalued currency. But the Obama administration has been reluctant to take any action, whatsoever.
2. Does not address Chinese barriers to U.S. products. It does not address China's many tariff and non-tariff barriers to American products.  

We have proposed an alternative that does not share these flaws: a tariff, with a rate tied to our trade deficit with China. Not only would it comply with a special WTO rule which lets trade deficit countries restrict imports in order to avoid balance of payments problems, but it would also address all of the specific problems of the currency-reform bill:

1. Acts Immediately. The tariff could go into effect right away. The balancing trade could pull the United States out of the Great Recession just as our growing exports to Europe pulled us out of the Great Depression in 1939.
2. No suits necessary. All American producers are helped whether or not their industry files a suit.
3. No Obama administration discretion. Congress would set the tariff rate as the amount needed to collect a pre-determined percentage of our trade deficit with China.
4. Takes down Chinese Trade Barriers. The Chinese government could lower the tariff rate by encouraging imports of American products.

Here's how the numbers of our proposal would work in practice. Let's assume that Congress specifies that the tariff should collect 50% of our trade-deficit with China. In 2009, we imported $305 billion from China, but the Chinese government only let its people import $86 billion from us, creating a trade deficit of $219 billion. If the tariff were designed to take in 50% of our trade deficit, that would be 50% of $219 billion, which is $109.5 billion. An initial tariff rate of 36% on $305 billion of imports from China would be designed to take in that $109.5 billion in tariff revenue.

In order to be sensitive to movements of trade toward balance, the tariff rate could be automatically adjusted each quarter, based upon our exports and imports of the previous four quarters. Once trade moves into relative balance, the tariff would disappear.

[Note: Ian Fletcher misidentifies the bill as being Senator Stabenow's bill, perhaps because of this misleading article. It is actually a bipartisan bill introduced by Senator Charles Schumer.]