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A version of this article was also published by OMFIF on February 26, 2019.
Washington has announced, following persistent pressure, that the United States and China have reached an understanding on a stable renminbi as part of a possible U.S.-China trade deal.
This should come as no surprise. The U.S. administration was fretting about renminbi depreciation as the dollar surged in 2018. President Trump has long made unwarranted complaints against Chinese currency “manipulation.” One can only imagine how he would react if he agreed not to raise tariffs on China and then the renminbi fell, boosting Chinese competitiveness, and worse yet for him, widening the U.S. bilateral deficit.
Beijing clearly wants a trade deal. It has in past years sought currency stability, albeit mainly against a trade-weighted basket.
The dollar rose sharply in 2018 against emerging market currencies. This happened as the renminbi fell to its lowest level in a decade, sending shivers up Chinese authorities' backs, concerned about a possible destabilizing surge in capital outflow.
The conditions for stability are ripe. Trump's rhetoric on China trade has softened, perhaps to limit fallout in the U.S. stock market. The Fed signaled its “pause,” and U.S. yields came down. China's aggressive accommodation policies of recent months may be showing signs of stabilizing the economy. In short, there is likely to be an agreement on currency stability if there is a trade deal. However, such an agreement raises critical questions and the details—which have yet to be revealed—are crucial.
First, the parties must determine whether the deal would be hortatory or binding. The G20 in February 2013 agreed on currency understandings, oft-repeated since then, including by China. These entail moving toward more flexibility, avoiding persistent misalignments, refraining from competitive devaluations and not targeting exchange rates for competitive purposes. These read like guidelines. One would expect that the U.S. negotiating team would seek more than that.
Second, many analysts have pointed out that “stability” has various meanings. China has in recent years sought to promote renminbi stability against a currency basket. Stability against the dollar is quite different. China pursued renminbi stability against the dollar before the 2008 financial crisis; that was tantamount to importing Fed policy, which made little sense for China. Of course, the Trump administration will only care about renminbi stability against the dollar.
Third, the renminbi-dollar rate can fluctuate. Since China cannot be responsible for U.S. policy developments, it is unclear how a currency deal would take account of that.
Fourth, if the deal is more than exhortative, policymakers must find a way to enforce it. The United States and China must decide whether their understanding of a renminbi-dollar currency zone will be implicit or explicit, or if it will be a one-sided peg. In any case, the two parties need to delineate in which circumstances the zone could be breached or altered. It remains to be seen whether Beijing will commit to intervening, or if it will alter its monetary policy, regardless of domestic circumstances. Another unknown is what policy commitments Washington would make to uphold renminbi-dollar stability if U.S. developments are the cause of a depreciating renminbi.
One might ask whether such a currency stability understanding is sensible public policy. For Trump's team and given its rhetoric on “manipulation” and focus on bilateral balances, it makes sense. Economists dismiss the relevance of bilateral balances, but that is of little importance to the administration. There is no reasonable case now for Chinese “manipulation.” Furthermore, the United States has long called on China to promote greater currency flexibility—but apparently, that applies only in the case of an appreciating renminbi against the dollar.
Beijing has sought to implement a more modern monetary policy framework, promote greater currency flexibility, and avoid intervention in foreign exchange markets. Therefore, a deal stabilizing its currency against the dollar runs counter to the policy orientation of the People's Bank of China.
A currency understanding is likely to be struck as part of any trade deal. The near-term conditions for maintaining renminbi stability against the dollar are broadly favorable. China has policy tools at its disposal to support such a deal. And given the country's aversion to its currency depreciating against the dollar in 2018, it would not appear to be a big Chinese give. The pertinent questions are what the contours of the deal will be, and will it have teeth. Whether such a deal is good policy is a different matter. In the long term, especially as China's current account surplus dwindles away, and capital is bottled up but seeking to leave the country, keeping the renminbi stable against the dollar may be a more difficult undertaking.
Mark Sobel is a senior adviser (non-resident) with the Simon Chair in Political Economy at the Center for Strategic and International Studies in Washington, D.C. and U.S. Chairman of OMFIF, an independent think tank for central banking, economic policy, and public investment with offices in London and Singapore. He was deputy assistant secretary for international monetary and financial policy at the U.S. Treasury from 2000 to 2014 and subsequently U.S. representative at the IMF through early 2018.
Commentary is produced by the Center for Strategic and International Studies (CSIS), a private, tax-exempt institution focusing on international public policy issues. Its research is nonpartisan and nonproprietary. CSIS does not take specific policy positions. Accordingly, all views, positions, and conclusions expressed in this publication should be understood to be solely those of the author(s).
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