Treasury’s Latest Foreign Exchange Report: Reading between the Lines

October 24, 2017

With minimal fanfare, the U.S. Department of the Treasury issued its semiannual Report to Congress on Foreign Exchange Policies of Major Trading Partners of the United States, better known asThe FX Report, last week. Consistent with the spring 2017 report, Treasury did not find any of the major trading partners of the United States to be currency manipulators, but the report reveals some interesting nuances in the Trump administration’s approach to trade and currency issues.

Q1: What is the FX Report, and why does Treasury issue it?

A1: The report satisfies two pieces of legislation—the Omnibus Trade and Competitiveness Act of 1988 and the Trade Facilitation and Trade Enforcement Act of 2015—which require the treasury secretary to provide semiannual reports on the foreign exchange policies of major trading partners of the United States.

Under the 1988 legislation, Treasury must consider “whether countries manipulate the rate of exchange between their currency and the United States dollar for purposes of preventing effective balance of payments adjustment or gaining unfair competitive advantage in international trade.” The last country Treasury found to be a currency manipulator was China in 1994. The 2015 act requires Treasury to assess the economies of major U.S. trading partners using three metrics: (1) bilateral trade balance with the United States; (2) current account surplus; and (3) intervention in the foreign exchange market. The 2015 act also calls for “enhanced analysis of exchange rates and externally-oriented policies for each major trading partner” that exceeds thresholds for all three criteria and establishes a process to engage such economies and “impose penalties on economies that fail to adopt appropriate policies.”

Q2: What did Treasury conclude this time?

A2: Findings in the fall 2017 report did not change substantially from the spring 2017 report, which was the first issued under the Trump administration. Treasury found that no major trading partner met all three criteria during the four quarters ending June 2017, meaning no major U.S. trading partner exceeded the thresholds for its bilateral trade surplus with the United States ($20 billion); current account surplus (3 percent of gross domestic product [GDP]); and foreign exchange intervention (2 percent of an economy’s GDP). Treasury also concluded that no major trading partner met the standards for currency manipulation in the first half of 2017.

Four major trading partners—Japan, Korea, Germany, and Switzerland—met two of the three criteria for enhanced analysis in the fall report, placing them once again on the “Monitoring List.” Taiwan was removed from the list following Treasury’s estimate that it reduced foreign exchange intervention to below 2 percent of GDP (for the second consecutive report—a requirement for removal after an economy has been placed on the list). Citing China’s “disproportionate share of the overall U.S. trade deficit,” Treasury once again kept China on the Monitoring List, even though it exceeded the threshold for only one of the three criteria, its bilateral trade surplus with the United States.

Q3: What does the report signal about the administration’s approach to global economic issues and currency practices and trade policy in particular?

A3: While Taiwan’s removal from the Monitoring List represents the main reporting change relative to the spring 2017 report, the report’s text offers additional insights:

• First, and not surprisingly, the inclusion of China despite meeting just one criterion makes clear that U.S. economic policy toward China continues to focus on the bilateral trade deficit. This is not new, but the reference to “unfair trade barriers,” in addition to exchange rates and other macroeconomic policies as tools used to disadvantage U.S. exports, is new and consistent with recent U.S. government actions, including the investigation under Section 301 of the 1974 Trade Act to determine whether “acts, policies, and practices of the Government of China related to technology transfer, intellectual property, and innovation are unreasonable or discriminatory and burden or restrict U.S. commerce.” At the same time, the acknowledgment that global value chains likely overstate the U.S. trade deficit with China, and references to U.S. services surpluses in individual economy write-ups, offer a more nuanced view on trade than has been heard, thus far, from the administration.
• Second, and notwithstanding the fact the neither Canada nor Mexico appear on the Monitoring List, the report highlights the North American Free Trade Agreement (NAFTA) renegotiation and the objective of including “an appropriate currency mechanism that ensures that NAFTA countries avoid manipulating exchange rates to gain an unfair competitive advantage” and the possible negotiation of similar mechanisms in the context of other free trade agreements. The U.S.-Korea Free Trade Agreement (KORUS) jumps to mind, considering the report’s reference to “Korea’s years of substantial asymmetric foreign exchange intervention to limit won appreciation.”
• Third, the inclusion of India in the report’s executive summary for its “scale and persistence of foreign exchange purchases” despite not formally being included on the Monitoring List, is clearly intended to send a signal that India is close to a formal listing. It remains to be seen if India will adjust policy, particularly considering increased U.S. interest in India as a partner and counterweight to China in the Asia-Pacific region, as suggested by Secretary of State Rex Tillerson in a recent speech at CSIS.
• Finally, the inclusion of language regarding Treasury’s efforts to press for a stronger focus on exchange rate issues in key international venues, including the G7, G20, and the International Monetary Fund (IMF), stands out from the spring report and suggests Treasury has not abandoned multilateral channels when they can advance U.S. objectives.

Stephanie Segal is a senior fellow and deputy director of the Simon Chair in Political Economy at the Center for Strategic and International Studies in Washington, D.C.

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