Europe's crisis a win-win opportunity for China

The sovereign debt crisis of Europe has shaken the Euro, and exposed fissures in the European Union.Chinese demands for the lifting of an arms embargo have been publicly backed by Spain.There is massive public support for the euro. It is a smart political move as of the fact that China’s exchange rate policy is still vulnerable to international criticism, writes Pallavi Aiyar in Business Standard.

Excerpts:

"While Europe’s sovereign debt crisis may have shaken the euro and exposed fissures in the European Union, one country’s hand in the region has been strengthened: China’s. It has converted Europe’s crisis into an opportunity to extend Beijing’s clout in the region."

"But in June, only hours after credit agency Moody’s downgraded Greece’s credit rating to junk, it was China that held out a financial lifeline, in the form of a multibillion euro investment package. While signing the deal, Chinese vice premier Zhang Dejiang gave the eurozone’s weakest link a public vote of confidence, declaring Beijing’s belief in Athens’ ability to overcome its fiscal problems, an announcement that moved markets positively, following weeks of turmoil."

"At the time, Greek deputy prime minister Theodoros Pangalos praised China in an interview, echoing sentiments often expressed by African nations indebted to Beijing. “They are not like these Wall Street people, pushing financial investments on paper. "

"The Chinese deal in real things, in merchandise. And, they will help the real economy in Greece,” he said."

"It’s not only debt-laden southern European countries that find themselves beholden to Beijing. Even power house Germany’s continued economic buoyancy owes much to its exports to China. Jonathan Holslag, research fellow at the Brussels Institute of Contemporary China Studies, notes that Germany’s economic recovery over the past year is due in substantial part to its exports of cars and advanced machinery to China."

"Access to technology is also increasingly being built into deals struck by Chinese corporations. For example, the Greek package included an exchange of know-how between China's Huawei Technologies and OTE, the Greek telecom organisation."

"While the commercial interest behind companies capitalising on the European downturn is clear, reasons for the Chinese government’s “goodwill” gestures are murkier. Holslag believes Beijing is motivated by the desire to ward off creeping protectionism in Europe, thus ensuring its most important export market remains open. In July, when German chancellor Angela Merkel visited Beijing, Chinese Premier Wen Jiabao was explicit in making the connection."

"In return, Merkel made a joint statement with Wen, vowing to oppose protectionism in Europe. There are other pluses for Beijing from its increasing influence. Chinese demands for the lifting of an arms embargo have been already publicly backed by Spain. Holslag believes with Beijing’s new leverage with certain EU member-states, backing for this and other issues like the granting of market economy status to China will intensify."

"Economic clout can translate into greater political influence, a lesson the Chinese know well and apply in their diplomacy across the world. Europe’s economic woes have opened room for these techniques to be used within the EU."

"In sum, the region’s economic fragility has allowed the Chinese government to project itself as a benevolent supporter of the euro, even as it acquires strategic leverage and Chinese companies sniff profitable deals. The kind of win-win situation that Beijing is partial to."

Misplaced concerns over Chinese currency

Last couple of years, there have been a rising demand among a section of policy makers to accuse China of keeping its currency undervalued, and thereby gaining an unfair trade advantage for its exports. A recent meeting of G-20 finance ministers and central bankers, India and Brazil too lent their voice calling for a stronger Chinese yuan. But Jagdish Bhagwati & Arvind Panagariya, two eminent Indian economists based in Columbia University, argue that "India errs by lending its voice to calls for a stronger Chinese yuan", in the Economic Times, on 3 May 2010.
Economic Times

For some time now, the US Congress and some Washington think tanks have aggressively sought to turn the bilateral exchange rate issue between the US and China into a multilateral issue. They have done this by asserting that the undervaluation of the Chinese currency hurts not just the US but Asia and others as well.

The underlying argument is based on a syllogism. The first argument is that an undervalued renminbi is the root cause of the Chinese current account surpluses and the US current account deficits. The second argument is that the export expansion so achieved by China robs countries such as Brazil and India of their export markets... ...

But neither argument is acceptable. Consider first the error in the second argument. Just because China fixes its exchange rate against the US dollar does not mean India cannot choose the value of its currency against the dollar or other currencies including the renminbi at the level it sees appropriate for itself. What happens to India’s exports and imports depends on what it does to its own exchange rate, money supply and fiscal deficits and how its savings and investment are balanced... ...

The exports-to-GDP ratio grew from a low of 11 per cent in fiscal year 1997-98 to 23.6 per cent in 2008-09 . This was a faster expansion of India’s exports than during any other 11-year period in its history. If the Chinese dollar peg during 1997-2005 had any effect on India, the movement in the rupee’s exchange rate more than neutralised it... ...

Besides, the more than 18 per cent appreciation of the renminbi vis-a-vis the dollar between 2005 and 2008 made little dent in the US current account deficit. From $631.1 billion in 2004, it rose to $748.8 billion in 2005 and $803.5 billion in 2006 before declining slightly to $626.6 billion in 2007 and $706.1 billion in 2008. Going by these numbers, the exchange rate is surely at best one of many factors explaining the US current account deficits.

The US runs a current account deficit with more than 100 countries, including very large deficits with Germany and Japan. The combined current account surpluses of Germany, Japan, Switzerland and Norway far exceed the current account surplus of China. If one believes in the primacy of the exchange rate as the explanation of current account imbalances, one would have to call for these countries also to revalue their currencies! ... ...

India also makes a major tactical error by lending its voice to the calls for the appreciation of the renminbi. With its savings rate high and rising, it too could run into the Chinese “problem” of a current account surplus. It is surely a mistake then to go down this road where shortsighted US politicians and their enablers would have us go. Politically also India makes an error by taking sides in what is essentially a China-US issue. We have enough problems with China not to want to add a gratuitous one. Will the prime minister take note?