The Guest Blog

Busch: Clash of the Trade Titans a Disappointing Sequel


As most know by now, the US Treasury Department has put off releasing their bi-annual currency manipulation report. As you may remember from the Bush administration, this behavior is nothing new.

First, a bit of background. With the help of the IMF, the Treasury is instructed to analyze and report by mid-April on who is unfairly manipulating their currency. The term manipulation is narrowly defined as “for purposes of preventing effective balance of payments adjustments or gaining unfair competitive advantage in international trade."

When I was acting as an outside advisor to both US Treasury Secretary John Snow and Hank Paulson, the Treasury never named China as a manipulator. Why? They felt the narrow definition didn’t allow them the leeway to do so. More importantly, they felt it would do more harm than good in opening Chinese markets to US firms.

Under Secretary Paulson, the US Treasury began the Strategic Economic Dialogue meetings and the first Economic Track of the S&ED was held last summer under current Secretary Tim Geithner. A new round of SED meetings are scheduled for May. Geithner has said he will use the SED and the June Group of 20 meetings to urge China on the currency.

Back in 2005, we had Senators Schumer and Graham present their 27.5% tariff on all Chinese goods to get China to move on the currency. They eventually put off the legislation after a visit to China by Schumer. Why? They realized that trade is not a one-way street and that sanctions here will hurt US companies competing there when the Chinese respond. Also real or not, there is the implicit threat of China dumping its Treasury holdings and potentially forcing up interest rates on US mortgages. Finally, the Chinese asked for more time to develop their nascent financial markets.

By putting off the Treasury report, this allows the US and China to continue to work on this issue while the US holds off the Kraken of Congress from being released. The question remains will this give the United States what it wants: more jobs and a level playing field with China?

In March, President Obama gave a speech on trade in which he called on the Chinese to move towards a more market-oriented rate to help with the global rebalancing effort. The Chinese reaction was swift and from the top. Premier Wen Jiabao said, “"First of all, I do not think the renminbi is undervalued. We are opposed to the practice of mutual finger pointing among countries or taking strong measures to force other countries to appreciate their currencies. To do this is not beneficial to reform of the renminbi exchange-rate regime."

What will be the outcome? Yes, Smoot-Hawley comes to mind. However, both nations realize they have something to lose. China has $2.4 trillion in US dollar reserves and nearly $900 billion in US Treasury securities. The US is China's number one export destination. Therefore, neither nation can afford a protracted trade war. Given recent comments coming from new members of the PBOC, I expect China to return to a crawling appreciation peg for the currency by the summer.

This will provide both sides with a solution and should keep Congress from acting on trade legislation. But it won’t achieve the goals of increasing export related jobs that are sought by the Obama administration.

Here’s another solution that involves neither erecting trade barriers nor asking the Chinese to revalue their currency: cut US corporate taxes. The United States has one of the highest corporate tax rates in the developed world. The European Union averages only 23.2% according to KPMG’s 2008 survey on taxes.

Currently, the Chinese corporate tax is 25% versus the current United States rate of 40%. With Chinese export incentives and other tax policy, the actual Chinese rate is closer to 12%-15%. Having almost a 4:1 advantage on taxes, the Chinese clearly have an important edge over their US competitors.

Corporate tax changes are not exciting nor do they provide high drama for the media. Corporate tax changes are not voter friendly as they will be seen as helping those not in need during times of high unemployment. However, corporate tax cuts are incentives for companies to hire as they allow the company to keep more of the profits they earn and compete on a more level playing field against foreign competitors. One more positive, they incent companies to stay in the country and pay taxes.

Cutting corporate taxes will increase incentives for jobs, increase tax receipts, avoid a trade war, and keep relations with China positive. If you want all three of these, this is the best solution. Otherwise like Clash of the Titans, this 2010 sequel on trade legislation and threats will be dud as well.

Andrew B. BuschDirector,

Global Currency and Public Policy Strategist at BMO Capital Markets, a recognized expert on the world financial markets and how these markets are impacted by political events, and a frequent CNBC contributor. You can comment on his piece and
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