[Senate Hearing 111-640]
[From the U.S. Government Publishing Office]



                                                        S. Hrg. 111-640

 
           CHINA'S EXCHANGE RATE POLICY AND TRADE IMBALANCES

=======================================================================

                                HEARING

                               before the

                            SUBCOMMITTEE ON
                            ECONOMIC POLICY

                                 of the

                              COMMITTEE ON
                   BANKING,HOUSING,AND URBAN AFFAIRS
                          UNITED STATES SENATE

                     ONE HUNDRED ELEVENTH CONGRESS

                             SECOND SESSION

                                   ON

  EXAMINING THE EFFECT THAT CHINA'S EXCHANGE RATE POLICY HAS ON TRADE 
                 FLOW, U.S. MANUFACTURERS, AND WORKERS

                               __________

                             APRIL 22, 2010

                               __________

  Printed for the use of the Committee on Banking, Housing, and Urban 
                                Affairs


      Available at: http: //www.access.gpo.gov /congress /senate/
                            senate05sh.html



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            COMMITTEE ON BANKING, HOUSING, AND URBAN AFFAIRS

               CHRISTOPHER J. DODD, Connecticut, Chairman

TIM JOHNSON, South Dakota            RICHARD C. SHELBY, Alabama
JACK REED, Rhode Island              ROBERT F. BENNETT, Utah
CHARLES E. SCHUMER, New York         JIM BUNNING, Kentucky
EVAN BAYH, Indiana                   MIKE CRAPO, Idaho
ROBERT MENENDEZ, New Jersey          BOB CORKER, Tennessee
DANIEL K. AKAKA, Hawaii              JIM DeMINT, South Carolina
SHERROD BROWN, Ohio                  DAVID VITTER, Louisiana
JON TESTER, Montana                  MIKE JOHANNS, Nebraska
HERB KOHL, Wisconsin                 KAY BAILEY HUTCHISON, Texas
MARK R. WARNER, Virginia             JUDD GREGG, New Hampshire
JEFF MERKLEY, Oregon
MICHAEL F. BENNET, Colorado

                    Edward Silverman, Staff Director

              William D. Duhnke, Republican Staff Director

                       Dawn Ratliff, Chief Clerk

                      Devin Hartley, Hearing Clerk

                      Shelvin Simmons, IT Director

                          Jim Crowell, Editor

                                 ______

                    Subcommittee on Economic Policy

                     SHERROD BROWN, Ohio, Chairman

         JIM DeMINT, South Carolina, Ranking Republican Member

JON TESTER, Montana
JEFF MERKLEY, Oregon
CHRISTOPHER J. DODD, Connecticut

                      Chris Slevin, Staff Director

                                  (ii)
?

                            C O N T E N T S

                              ----------                              

                        THURSDAY, APRIL 22, 2010

                                                                   Page

Opening statement of Chairman Brown..............................     1

                               WITNESSES

Lindsey Graham, Senator from the State of South Carolina.........     3
Clyde Prestowitz, President, Economic Strategy Institute.........     6
    Prepared statement...........................................    30
Nicholas Lardy, Anthony Solomon, Senior Fellow, Peterson 
  Institute for International Economics..........................    10
    Prepared statement...........................................    36
Charles H. Blum, Executive Director, Fair Currency Coalition.....    11
    Prepared statement...........................................    46
Daniel J. Ikenson, Associate Director, Center for Trade Policy 
  Studies, Cato Institute........................................    13
    Prepared statement...........................................    52
    Responses to written questions of:
        Senator Vitter...........................................    77
Jack W. Shilling, Retired Executive Vice President and Chief 
  Technical Officer, Alleghany Technologies Incorporated, and 
  Chairman, Specialty Steel Industry of North America............    21
    Prepared statement...........................................    60
Mark A. Suwyn, Executive Chairman of the Board, NewPage 
  Corporation, Miamisburg, Ohio..................................    22
    Prepared statement...........................................    70
Derek Scissors, Research Fellow, Asian Studies Center, The 
  Heritage Foundation............................................    24
    Prepared statement...........................................    73

              Additional Material Supplied for the Record

Letter from Damon A. Silvers, Policy Director and Special 
  Counsel, AFL-CIO...............................................    80
Letter from Erik O. Autor, Vice President, International Trade 
  Counsel........................................................    83

                                 (iii)


           CHINA'S EXCHANGE RATE POLICY AND TRADE IMBALANCES

                              ----------                              


                        THURSDAY, APRIL 22, 2010

                                       U.S. Senate,
                           Subcommittee on Economic Policy,
          Committee on Banking, Housing, and Urban Affairs,
                                                    Washington, DC.
    The Subcommittee met at 10:11 a.m., in room SD-538, Dirksen 
Senate Office Building, Senator Sherrod Brown (Chairman of the 
Subcommittee) presiding.

          OPENING STATEMENT OF CHAIRMAN SHERROD BROWN

    Chairman Brown. This hearing of the Economic Policy 
Subcommittee of the Banking Committee will come to order. I 
appreciate my friend Senator Lindsey Graham, who has been 
outspoken in support of manufacturing and on all of these 
issues that surround currency, and we will hear from Senator 
Graham in just a moment.
    The matter before the Subcommittee is an urgent one. We are 
holding this hearing in the hope that our witnesses can shed 
light on the effect that China's exchange rate policy has on 
trade flow and U.S. manufacturers and our workers and on what 
remedies Congress should consider. Financial and trade analysts 
and news reports indicate we should anticipate China to begin 
gradually revaluating its currency, the RMB, in the coming 
weeks. What we hope to learn is what a meaningful appreciation 
of the RMB would be and what effects it will have on the U.S.-
China trade relationship and on U.S. employment. We will 
consider remedies to address this imbalance that exists today 
and that we can expect to remain for some time in the future.
    While it is true the journey of a thousand miles begins 
with a single step, it is an awfully slow way--and I know it 
has tried Senator Graham's patience, too--a slow way to reach 
our destination. But that is the path we are on today.
    When I came to Congress in 1993, the RMB was valued at 
about 5.5 to the dollar. Then from 1995 to 2005, it was valued 
at about 8.28 without change. In my mind, that is one of two 
things: one heck of a coincidence or blatant currency 
manipulation.
    From 2005 to the middle of 2008, we were heading in the 
right direction in part because of Senator Graham's and Senator 
Schumer's--in large part because of their efforts, but still 
too slowly. Beginning in 2005, the Government of the People's 
Republic of China managed a slight currency appreciation which 
allowed for a few years of modest progress. But in the summer 
of 2008, China abandoned this process and once again fixed the 
value of their currency against the dollar. So our journey of a 
thousand miles has involved more steps backward than forward 
during the last decade and a half.
    By keeping the value of their currency artificially low, 
China provides an incentive to foreign corporations to shift 
production there because it reduces the price of investing in 
China and makes China's exports cheaper. This continued 
undervaluation, which most economists agree--and we will hear 
from several of them today--is in the range of 25 to 40 
percent, has caused serious harm to our economy and has cost 
American jobs.
    Think about it. If a gas station is offering gas for $3 a 
gallon and another is selling it for $2 a gallon, how long can 
the first one stay in business?
    According to a recent Economic Policy Institute report, 
since China joined the WTO in 2001, 2.4 million jobs have been 
lost or displaced in the U.S. as a result of the U.S.-China 
trade deficit. Under the Omnibus Trade Act of 1988, the 
Treasury Department is required to formally identify countries 
that manipulate their currency for the purpose of gaining an 
unfair competitive trade advantage. In recent years, Treasury 
has found that certain countries' currencies were, in fact, 
undervalued.
    However, based on its interpretation of the law's legal 
standard for a finding of manipulation, Treasury refused and 
continued to refuse, through Presidents of both parties, to 
cite such countries as currency manipulators. Last month, 
Secretary Geithner announced the Department will delay the 
release of the statutorily required report to Congress. This 
Committee has oversight responsibility of this issue, and under 
Article I, Section 8 of our Constitution, it is Congress that 
is charged with the regulation of both foreign commerce and the 
value of our currency.
    The Subcommittee has invited a representative of Treasury 
to testify today, but the Department declined due to its 
ongoing diplomacy, both bilaterally with the Chinese and in 
multilateral settings like the G-20. I disagree with the 
Department's decision. I care less about the exact timing of 
the report than I do about the Administration's willingness to 
be open with Congress and the American people about what it is 
doing and why it is doing it. And while the cat has got their 
tongue when it comes to testifying before Congress, I note that 
not one but three Treasury representatives were scheduled to 
speak with a group of bankers and analysts at the JPMorgan 
investor conference at the Madison Hotel tomorrow morning.
    The American people have been patient as the Administration 
continues this strategy, but patience is waning as more U.S. 
businesses are undercut and more U.S. workers are losing their 
jobs. Just yesterday, Commerce said it will investigate whether 
Chinese aluminum products are getting unfair subsidies, but 
have delayed a decision as to whether currency valuation will 
be a factor in the case.
    These delays and the Administration punts on currency 
decisions involving China cannot last forever. The Chinese 
Government follows its economic interests. The U.S. Government 
should do the same.
    I know I can speak for Secretary Dodd in stating that the 
Committee looks forward to Secretary Geithner's appearance 
before the Committee in the coming weeks.
    Today we have three distinguished panels, led off by 
Senator Graham, to help the Subcommittee understand not just 
the fact that China's currency is undervalued. That point is 
clear to all of us. What we hope to understand are the effects 
of that policy and what options are available for moving 
forward.
    I look forward to the hearing and the testimony of each of 
the witnesses, and we will start with Senator Graham--and 
Senator Schumer we invited today, too, the two chief sponsors 
of the currency manipulation issue. Senator Schumer could not 
join us. His staff is here, and I very much appreciate Senator 
Graham being here and Senator Graham's work on this and many 
other issues. Lindsey.

 STATEMENT OF LINDSEY GRAHAM, SENATOR FROM THE STATE OF SOUTH 
                            CAROLINA

    Senator Graham. Well, thank you, Mr. Chairman. People are 
dying for their Congress to work together in a bipartisan 
fashion to solve problems that affect their daily lives. Well, 
when it comes to China currency, your ship has come in. We have 
got new legislation with Senators Stabenow, Brown, Brownback, 
myself, and Senator Schumer, and, Mr. Chairman, having you on 
board has been great. No one has talked more about this in 
terms of how Chinese manipulation of their currency affects the 
ability of American manufacturing to survive. And American 
manufacturing is under siege for a lot of reasons, some of them 
of our own making back here. We need to do a better job of 
regulating, taxing, and litigation. But at the end of the day, 
it is the world economy, and Republicans and Democrats see the 
current behavior of the Chinese government of manipulating the 
value of the yuan against all other currencies as having a 
devastating effect in terms of the global economy.
    The reason I know they are manipulating is that the only 
time it gets any adjustment or revaluation is when we put a 
bill in. And the moment we look the other way, it stops.
    Now, this is a bipartisan team to fix the problem, but 
there is a bipartisan problem associated with Chinese currency. 
In the Bush administration, it was impossible for us to get the 
Bush administration to say China manipulated their currency, 
which everybody knows they do. The Obama administration ran--
music to my ears. Now here we are having the same trouble with 
them. We cannot get them to do the things that would change 
this policy. And I think the reason is that when you get in the 
White House, you realize that we are borrowing so much of our 
money to run the Government and pay our bills from China, it 
just makes it very difficult to engage China. And that is an 
unhealthy relationship.
    I want a good partnership with China. I want it to be 
mutually beneficial. But this one issue of where the currency 
of China is kept artificially low has a devastating effect--and 
I am not an economist, but I am looking at it through the eyes 
of a manufacturer in Ohio and South Carolina. You are producing 
a product to be sold on the world market. One of your biggest 
competitors is China. If they can beat us because they do a 
better job, so be it. That is just the way the world is and 
will always be. If the other person outworks you and has a 
better business model that is more efficient and they are 
smarter at what they are doing and they work harder and you 
lose, so be it. But our companies in Ohio and South Carolina 
are losing market share not because they are being outworked. 
They are being out manipulated.
    It is one thing to compete against cheap labor, and the 
Chinese communist capitalist model is unique. They are 
capitalist as long as the government allows you to be a 
capitalist. They literally recruit millions of workers, put 
them in high-rise apartment buildings and set their wages, in a 
way that could never happen here, and provide that labor to any 
company that would come over. The company has to agree to a 
Chinese partner at 51 percent, and if you do a business for a 
long time over there and you have got technology, there will be 
a Chinese company opened across the street from where you are 
doing business that is using your technology. That is just the 
way it is with China, and instead of complaining, we ought to 
do something about it.
    When it comes to their currency, based on economics, as I 
understand it, the more you export, if you become an export 
economy, well, the value of your money should change based on 
the way you are doing business. If you are making all of your 
money by selling goods to other countries, then the value of 
your money ought to change based on your export-import 
balances.
    Well, it never changes. And what does it mean if it never 
changes? What does it mean if they manipulate the currency? It 
means that the company in South Carolina and Ohio has got to 
compete against cheap labor, no EPA, a command-and-control 
communist economy. You also have to compete against 
artificially low money. If it is 25 to 40 percent below its 
true value, that means that a product produced in China, in 
addition to the other things I have said, direct subsidies, low 
wages, no environmental laws, on top of all that you are 
getting a reduction in the cost of producing goods in China 
because the money discount goes to the people making products 
in China at the expense of people in South Carolina and Ohio.
    If China were some island nation trying to get through and 
just pay their bills and manipulating their currency to kind of 
seize a market just to stay in business for a while, that would 
be OK with me. They are not. They are a huge economy. They are 
sucking up all the excess oil there is in the world. They are 
going around buying natural resources. They are growing at 11 
percent with no end in sight. I am glad they are doing well, 
but not at our expense. I want them to do well. I want them to 
be a partner that can buy stuff from us. But they have to adopt 
recognized trading policies and economic principles to be a 
good partner.
    Our legislation is very simple. If you find that their 
currency is misaligned--and you do not go to intent. If it is 
misaligned, then we give the Treasury Department and the 
Commerce Department tools to address that misalignment. And it 
is not China specific. It is any country that has a certain 
economic weight that is engaging in this behavior. Our country 
can push back. We can now bring dumping cases based on 
misaligned currency. That would be a huge breakthrough.
    The textile industry, which is constantly under siege from 
Chinese products being dumped throughout the world, would now 
be able to make a case that I am losing market share because 
the money is a form of dumping, the money manipulation.
    We would get 80 or 90 votes if we could ever get this 
sucker on the floor, and it is a shame, quite frankly, that we 
are having to do this legislation given all the efforts by the 
Bush administration and the Obama administration to find a 
better glide path. But in 2008--the Chairman is absolutely 
right--their marginal efforts at currency adjustment stopped 
because the political pressure stopped.
    So this time around, we have got a chance to institute 
reforms that will be WTO compliant. And if it hurts our 
relationship with China, then that says a lot about the 
relationship. It is not healthy that you have to ignore 
someone's cheating to keep them as a friend. I have nothing 
against the Chinese people. I do not like their form of 
government, but they do not like ours. We will just deal with 
that. I cannot sit by and watch people in my State, Ohio, or 
anywhere else lose their job because the Congress is allowing 
someone as big as China to cheat.
    Stop cheating is all we are asking. Allow the currency to 
float in a reasonable way. I understand you have an immature 
banking system. I am willing to be flexible and reasonable. You 
need to increase the basket of items that go into valuating the 
yuan. You need to change your banking system so it will 
accommodate a floating currency. I do not expect that it would 
happen overnight, but I expect a system to be in place to 
replace adjustments based on political pressure.
    I cannot live with small changes in the yuan directly 
related to how much time and attention the two of us spend on 
China currency. I need to go back to South Carolina and you 
need to go back to Ohio and tell folks change is coming. It is 
going to take a while for the Chinese economy to float their 
currency, but we now have them on a path where over time we 
will have a better trading relationship. The Chinese people 
save way too much. We save way too little. They need to open up 
their markets to financial services so their people can have a 
way to invest their money. We are good at that. And where they 
are better than us because of the way they do business fairly 
and we lose, so be it. But they are beating us not because they 
are better, but because they are manipulating their currency. 
And if we do not do something about that, then the public is 
going to be very disappointed in their Congress beyond what 
they are today.
    One last thought. We borrow most of our money from China to 
pay our bills, and one of the biggest bills we pay is buying 
oil from overseas. This is a lousy spot for America to find 
herself in 2010. And I am working with you, Mr. Chairman, to do 
something about both things. I am working with you to find a 
way to get a better trading relationship with China so that we 
will have an honest trading relationship. And I am working with 
you to find a way to reduce our dependency on foreign oil. If 
the next generation of Americans inherits a world economy where 
China continues to manipulate their currency given their 
growth, it is going to destroy American manufacturing. If we 
continue to never change our policies here at home about 
finding oil that we own and consuming less and investing in 
technology to break our oil dependency, they are going to be 
more dependent on Mideast oil, and that is not what either one 
of us wants to do for the next generation of Americans.
    So I hope the Congress, the Democratic and Republican 
leadership, will get behind this bill because the time is long 
overdue to act. Thank you very much.
    Chairman Brown. Thank you, Senator Graham. Thanks for 
joining us, and I appreciate your comments and especially your 
work on all of those issues, from climate change to the 
currency issue, so thank you again.
    I will call the first panel up, if they would join us. 
Thank you, all of you, for joining us. I will introduce each of 
you briefly. Then I am going to do something a little 
different. Mr. Prestowitz has a flight, because of a 
cancellation has to get out earlier. So after his testimony, I 
will ask him a couple questions. Then the rest of you can do 
your statements, and I will then focus on the three of you, if 
that is OK with people.
    Clyde Prestowitz has played key roles in achieving 
congressional passage of NAFTA and in shaping the final content 
of the Uruguay Rounds, as well as providing an intellectual 
basis for current U.S. trade policies, and was the lead 
negotiator, as most of you know, for the Commerce Department in 
the Reagan years in our Japan negotiations. I just finished 
over the weekend reading the galleys of his new book which is 
coming out, ``The Betrayal of American Prosperity,'' and his 
role in how America can address these issues.
    Nicholas Lardy, Senior Fellow for the Peterson Institute 
for International Economics, was a Senior Fellow at Brookings 
for about a decade and the Director of the Henry Jackson School 
of International Studies prior to that at the University of 
Washington. His writings I have been a fan of for many years 
and learned a great deal about trade and economic policy.
    Charles Blum is Executive Director of the Fair Currency 
Coalition, for 30 years focused on trade and manufacturing 
while serving in various capacities in the Government and the 
private sector, and he has been a very important advocate as 
part of the Domestic Manufacturing Group and part of the 
National Association of Manufacturers and all that he has done 
that way that has been so important to us.
    Daniel Ikenson is the Associate Director of Cato 
Institute's Center for Trade Policy Studies. Cato, as you know, 
speaks articulately and forcefully on behalf of issues that are 
important in this country and I think has a perspective that is 
important for all of us to address also. So, Mr. Ikenson, 
welcome to you.
    I will start, if Mr. Prestowitz would do his testimony, and 
then as I said, I will ask him a couple questions and then move 
to the rest of the panel. Thank you.

  STATEMENT OF CLYDE PRESTOWITZ, PRESIDENT, ECONOMIC STRATEGY 
                           INSTITUTE

    Mr. Prestowitz. Thank you very much, Mr. Chairman. I 
appreciate your courtesy.
    First, I think it is important to recognize that in the 
tensions between the U.S. and China--the trade deficit, the 
nature of the trade between the U.S. and China, questions of 
employment and unemployment--the currency is only one factor. 
There are a number of other factors--savings and investment, 
consumption policies, economic growth, and so forth. So 
currency is only one factor, but it is an important factor. And 
as Senator Graham said, there is no doubt that China is 
managing its currency to maintain it an undervalued rate. The 
evidence of that is the daily intervention by China in currency 
markets and the huge accumulation of dollar reserves by China.
    You have my written testimony. I wanted to hit just four 
quick points. One of them is the argument that is often heard 
that the exchange rate does not matter, the argument being that 
even if China revalued, it would not make any difference in the 
U.S. trade deficit or U.S. employment; and, moreover, that the 
driver of these imbalances is not the exchange rate but it is 
consumption and investment and savings. Two points there:
    One is that the equation that calculates the impacts of 
these factors is a mathematical identity, and so by definition, 
in a mathematical identity, the action in the equation can be 
either way. So, of course, savings and investment has an 
impact, but so also do currency rates. And in this case, we 
know that the currency rates are being distorted. Again, not 
the only influence but a very important influence.
    The second point is when we say it does not matter, that is 
almost like saying prices do not matter. And if prices do not 
matter, then I am not sure economics matters. The point is that 
there are, of course, a number of factors that determine trade 
balances, but certainly the rate of currency is one of them.
    It is often said that between 2005 and 2008 China did allow 
its currency to float up about 20 percent, and yet the U.S. 
trade deficit increased, and this is cited as evidence that the 
currency rate does not have any effect. But one has to remember 
two things--three things. One is that this was a period of a 
bubble in the United States, enormous growth in U.S. demand. 
One has to ask the question: If they had not allowed the 
currency to float up, would the deficit have been bigger?
    And the final point, I think, is that while China's 
currency appreciated nominally by 20 percent, in fact, because 
its rate of productivity growth was very high, the appreciation 
in real terms was actually less. In fact, it may even have 
depreciated in real terms over that period of time. So just to 
make the point that currency rates do matter and we should not 
ignore them.
    The second point is that while we talk about this issue in 
terms of deficits, imbalances, and particularly unemployment in 
the U.S., I think there is another very important element, 
perhaps more important, that we do not discuss very much, and 
that is, the distortion of trade. In other words, we could have 
a situation, as we do with Saudi Arabia, where we have a huge 
trade deficit with Saudi Arabia, but our trade with Saudi 
Arabia is not being distorted. What we make in the United 
States, what we sell in export is not being distorted by our 
trade deficit with Saudi Arabia. On the other hand, in our 
trade with countries that--and China is not the only one. Let 
us keep this in mind. But our trade with countries that do 
manage their currencies to be undervalued, it changes the 
structure of our trade. And in a way, that is more important 
than the question of deficits and employment because while 
other factors impact deficits and employment, the structure of 
the trade is very much impacted by the currency rates.
    The third point I would like to make is that in this 
discussion, we are frequently warned that any effort by the 
U.S. to offset the impact of the currency distortions would be 
protectionist and would risk setting off a trade war. I think 
it is important for us to understand that when countries manage 
their exchange rates to be undervalued as a matter of policy, 
that is a protectionist policy. And so in this debate or in 
this confrontation, it is not the United States that is being 
protectionist. We are already in a situation in which others 
are being protectionist.
    The last point I would make is this: China has said, and 
understandably, that it manages its exchange rate in the 
interest of its economy. It has unemployment; it has huge 
structural problems. It is a country that needs to have rapid 
growth. We want it to have rapid growth. We want it to be 
successful, and China has said, look, you know, we are not 
doing this to hurt you guys; we are doing this because this is 
in the best interest of our economy. And I think we can 
understand that.
    I think that sometimes rather than pointing the finger at 
China, we should take a similar position, namely, that, OK, we 
understand you have unemployment, we understand you need to hit 
growth targets. We have unemployment, too; we have growth 
targets we need to hit as well; and, therefore, we need to 
manage our currency in the best interest of our economy.
    We can do that. We have countervailing duty laws. There are 
clauses in the WTO that suggest that currency manipulation is 
really illegal under WTO rules. We have balance-of-payments 
issues that could be adduced to justify measures by the U.S. to 
counter the impact of currency management. I think particularly 
our countervailing duty laws and the ability of the Secretary 
of Commerce to self-initiate countervailing duty cases is 
something that should be pursued more aggressively than it has 
been. But my point is that rather than constantly beating up on 
China, perhaps we should be looking to our own interests and 
thinking about what we can do to protect our interests.
    The final point I would make is that in the debate about 
competitiveness and the question of what is causing decline of 
U.S. competitiveness, certainly China's currency policies are 
one factor that contributes to a decline in U.S. 
competitiveness. But we should not forget that there are man 
factors that we contribute ourselves. We are low savers. We do 
have a de facto industrial policy that makes no sense. And so 
as well as dealing with the currency issue, we should be 
dealing with that in the context of a broad strategy to 
revitalize the U.S. productive base.
    Thank you.
    Chairman Brown. Thank you, Mr. Prestowitz, and I will ask a 
couple questions, then move on to Mr. Lardy.
    This week, Brazil and India joined the call for China to 
appreciate its currency. Since those are two countries that are 
part of the developing emerging economy BRIC group--Brazil, 
Russia, India, and China--what does this suggest to you that 
they have made that call? And what opportunities does it 
present to us to work with them rather than trying to address 
this unilaterally?
    Mr. Prestowitz. Well, I think it is very important that 
they made that call because what it tells us is that while we 
tend to think of this question in bilateral terms, in fact, 
China's policies are having a negative impact on many 
countries. And that suggests that it should be possible to 
address this in a multilateral setting, in a multilateral 
framework, rather than just a U.S. beating up on China 
framework. And so I think that the Administration would be well 
advised to try to rally support from others who are being 
negatively impacted.
    Chairman Brown. In your book, you mentioned--thank you for 
that. You talked about U.S. company--I mean, the framework of--
I often heard in my time in the House working on trade issues 
that trade brings democracy and the wealthier a country gets, 
the more it interacts with Western democratic countries like 
ours, the more democratic it becomes and the more it shares our 
values.
    You point out in your book and other times I have heard you 
that, in fact, U.S. companies sometimes prefer manufacturing 
and development and location of plants, if you will, in 
countries that are less than democratic and countries that are 
authoritarian. If that, in fact, is true--and I think it is, 
too. But if that, in fact, is true, how do we change that 
direction a little bit so that it is not more of a pull to do 
business in China for an American company because of the 
authoritarian structure that might make their lives a little 
bit easier?
    Mr. Prestowitz. Well, I think it is, as you have said, we 
are in a situation in which global companies are major 
political players in Washington, DC, and in other democratic 
capitals. In authoritarian capitals, they are supplicants, just 
like everybody else. And so the balance of influence is kind of 
asymmetric.
    But more than that, I think a major issue that needs to be 
discussed in tandem with the currency question is the question 
of investment incentives, because right now, if you look at the 
structure or the dynamics of a global economy, all of the 
incentives are really such as to move the production of 
tradable goods and the provision of tradable services out of 
the U.S.
    What are those dynamics or those incentives? One of them is 
currency. Currency is being undervalued in a number of 
countries, China lead among them but not the only one.
    The second one is financial investment incentives. Put your 
factory in my country and we will give you the land. We will 
give you the infrastructure. We will put in a capital grant. 
You won't pay taxes for 30 years. So on a $5 or $6 billion 
investment, those incentives can amount to as much as half of 
the capital invested, and what they serve to do is to distort 
the actual market dynamics.
    So, for example, you can produce widgets more economically 
in the U.S., let us say, than in China on a normal operating 
cost basis. But if the capital is subsidized, then you move 
that production to China. And so the location of production is 
not being determined by market forces. It is being determined 
by capital investment incentives.
    This is something that the U.S. does at the State level, 
but the States don't have many chips to play with in the U.S. 
We don't do it at the Federal level. I think we should. I think 
we should have a fund. My proposal is that we propose globally 
to negotiate an agreement like we have in the WTO on export 
subsidies. We proposed to negotiate disciplines on the use of 
investment incentives, but at the same time, while negotiating 
that, we create a fund that would match the incentives of 
others to offset that distortion of the market forces.
    Chairman Brown. Thank you, Mr. Prestowitz. Thank you for 
joining us.
    Mr. Lardy, your testimony, please. Thanks.

 STATEMENT OF NICHOLAS LARDY, ANTHONY SOLOMON, SENIOR FELLOW, 
         PETERSON INSTITUTE FOR INTERNATIONAL ECONOMICS

    Mr. Lardy. Thank you very much, Senator Brown, for inviting 
me to appear before the committee this morning. I did submit a 
statement for the record and I would just like to take my 
limited time to draw out some points from that. I am going to 
focus on four key points from the prepared statement.
    The first is that although China's external surplus on a 
global basis has fallen extremely sharply, from 11 percent in 
2007, 11 percent of GDP, to only 1 percent of GDP in the first 
quarter of this year, I think this decline was caused primarily 
by factors that have already been reversed or are likely to be 
transitory. But the sharp and unexpected reduction in China's 
external surplus does suggest that there is a substantial 
uncertainty about the precise degree of undervaluation.
    In other words, this surplus has fallen much, much more 
rapidly than anybody expected. However, despite this, I do 
believe that China's currency on a fundamental basis remains 
significantly undervalued and it is quite likely that the 
external surplus will rise in the second half of this year as 
compared to the second half of 2008.
    The second point in my prepared statement is that the 
virtual disappearance of China's external surplus means that 
within China, it will be politically difficult for the central 
government to resume a policy of appreciation vis-a-vis the 
dollar. It will be strongly resisted by provincial and other 
local political leaders along China's coast, where upwards of 
50 million people are employed in export-oriented 
manufacturing. They simply won't understand why appreciation is 
called for in a period when China's surplus has disappeared. If 
appreciation does resume, I expect it would be relatively 
modest, at least until the global recovery strengthens further 
and China's external surplus widens significantly, for example, 
as a result of the resumption of growth in Europe.
    The third point in my prepared statement is that even if 
the undervaluation of the RMB remains very large, a rapid 
correction of this undervaluation is not optimal from either 
the U.S. or the global perspective. A rapid appreciation would 
likely lead to a deceleration of China's economic growth and 
thus both impede global recovery and lead actually to a loss of 
jobs in the United States.
    This is very straightforward. If China's growth 
decelerates, their imports will decelerate and will have 
negative implication for jobs in the United States. So the 
optimal path is to rather eliminate the undervaluation over a 
period of years. This would add modestly to the growth of 
employment in the United States as our economic recovery 
continues. I think the problem is, as one reads estimates about 
the number of jobs that might be created as a result of China's 
appreciation, it is frequently not qualified by any discussion 
about the timeframe over which that would be either likely to 
occur or optimally should occur.
    The fourth point is that, again, and Clyde mentioned this, 
I think U.S. policy should not focus exclusively on the Chinese 
exchange rate. Rather, policy should be set on a broader 
framework that recognizes that reducing China's and keeping 
China's external surplus small requires not only a more 
flexible exchange rate, but also structural reforms within 
China that would lead to more consumption-driven growth.
    This is the savings-investment imbalance. This is 
essentially, I think, the economic rebalancing agenda that has 
been taken up in the economic component of the strategic and 
economic dialog with China that is led by Treasury Secretary 
Geithner. It is also a very important part of the G-20 process 
that has emerged over the last year or so. In my judgment, it 
is this more comprehensive approach that is most likely to 
reduce global economic imbalances and thus contribute to a more 
sustainable global economic recovery.
    Thank you.
    Chairman Brown. Thank you very much, Mr. Lardy.
    Mr. Blum.

STATEMENT OF CHARLES H. BLUM, EXECUTIVE DIRECTOR, FAIR CURRENCY 
                           COALITION

    Mr. Blum. Thank you, Mr. Chairman. The Fair Currency 
Coalition appreciates this opportunity to testify on what 
action can and should be taken to remedy currency 
undervaluation by China and others.
    Almost 6 years ago, we sought a solution through 
multilateral dispute settlement by filing a well researched and 
argued Section 301 petition. It was summarily rejected by the 
last Administration. Only then did we turn to legislation, 
developing and refining what is now known as the Currency 
Reform for Fair Trade Act, introduced by Senators Stabenow and 
Bunning and by Representatives Tim Ryan and Tim Murphy. We 
intend to continue to work on this problem until it has been 
resolved on an effective and lasting basis.
    Had the government acted on the Section 301 complaint in 
2004, or had any version of our legislation passed the 
Congress, the damage to American workers and industries would 
have been reduced. Had the IMF or the WTO been up to their 
task, the problem we face today would be less difficult to 
manage. Unfortunately, none of that has happened.
    Instead, China's trade surplus with the United States and 
with the world, as well as its foreign exchange reserves, have 
mushroomed over these last 10 years while U.S. manufacturing 
employment has plummeted by one-third. A remedy delayed is a 
remedy denied. The longer it is denied, the greater the 
injustice.
    The logical approach, as Mr. Prestowitz already has 
mentioned, the logical approach is to deal with currency 
undervaluation as a subsidy, using the WTO sanctioned remedies, 
countervailing duties, to offset the unfair advantage on an 
industry-by-industry basis. Undervalued currencies meet the 
three legal tests for a subsidy finding.
    The government established exchange rate, which is price 
fixing on a broad scale, forces banks to pay the seller of an 
internationally traded good or service extra units of the home 
currency compared to its fair market value. That is a 
government mandated financial contribution. The extra units of 
currency constitute the benefit to the exporter. That benefit 
creates an incentive to export. Currency undervaluation thus 
seems to be a classic example of an export subsidy, a practice 
that has been from the beginning prohibited under GATT rules.
    Passage of legislation, such as S. 1027, the Stabenow-
Bunning bill, would distinguish actionable from nonactionable 
forms of currency undervaluation. That is an important point. 
Currency undervaluation is not a per se issue. It has to be 
defined. There need to be conditions and terms. The legislation 
does that.
    S. 1027 would also provide clarity regarding the method of 
calculating the subsidy, the source of data to be used in that 
calculation, and other procedural matters. Clear guidance from 
the Congress would facilitate the application of existing law 
to a new area of economic activity, reduce the scope for 
controversy, strengthen the hand of the government in the 
ensuing litigation and negotiations, and provide helpful 
guidance to trade practitioners, importers, exporters, and 
foreign governments about the rules that will govern their 
trade.
    A new bill, the Currency Exchange Rate Oversight Act of 
2010, S. 3134, has 18 cosponsors today, including the Chairman 
and Senator Graham. It seeks to strengthen the Treasury's 
negotiating leverage in its oversight of foreign government 
currency practices, in part by explicitly authorizing the use 
of trade law remedies in response to currency undervaluation. 
The FCC welcomes this legislation and is working with the chief 
cosponsors, Senators Schumer and Stabenow, to strengthen it as 
much as possible.
    In closing, let me invoke no less a free trader than Ronald 
Reagan, for whom I worked in the 1980s. In the wake of the 
1985-1986 realignment of currencies following the Plaza Accord, 
he explained his trade policy in a radio address in three 
simple concepts. First, he said, trade must be reciprocal. Free 
and fair trade with free and fair traders is exactly what he 
said. He didn't say free trade with the world. He didn't say 
free trade with free traders. He said free and fair trade with 
free and fair traders. A strict reciprocity is the first 
principle. The second is that trade must be based on a mutual 
respect for the rules. And third, policy must produce results.
    Persistent currency undervaluation surely is a 
protectionist practice. Tolerating such protectionism 
undermines the global economy. Confronting it cannot be deemed 
as protectionism so long as that is done within agreed rules.
    Martin Wolf recently wrote in his column in the Financial 
Times, ``The U.S. was right to give talking a chance. But talk 
must lead to action.'' A sound trade remedy is the best 
approach to action. It provides negotiating leverage without 
overkill. Once it has accomplished its objective, each 
countervailing duty remedy can be adjusted according to the 
degree of revaluation, all the way down to zero. It is a carrot 
as well as a stick.
    In our view, legislation is the right thing to do. It is 
the only thing we can do. It is the one thing we must do. It is 
high time for the Congress to act by passing S. 1027 or 
equivalent legislation.
    Thank you very much.
    Chairman Brown. Thank you, Mr. Blum.
    Mr. Ikenson, welcome.

STATEMENT OF DANIEL J. IKENSON, ASSOCIATE DIRECTOR, CENTER FOR 
              TRADE POLICY STUDIES, CATO INSTITUTE

    Mr. Ikenson. Thank you, Chairman Brown. I very much 
appreciate the opportunity to be here with you today.
    Many economists believe the Chinese currency is 
undervalued, and I have no reason to disagree with that. But 
the broad range of estimates of undervaluation, 10 percent to 
40 percent, approximately, should remind us that the true value 
of the Renminbi can only be determined if the currency is 
allowed to float and the capital account is fully liberalized. 
The world would probably be much better off if China did that, 
as it would lead to more optimal resource allocations, although 
a stronger RMB presents its own set of challenges to U.S. 
producers and consumers.
    A stronger RMB, for example, would lead to increased demand 
in China for commodities and raw materials, which would bid up 
the prices, increasing the cost of production to U.S. 
producers, some of which would be passed on to U.S. consumers, 
exacerbating the stress on their own budgets already felt by 
the relative decline of their dollars against the RMB.
    For many in Washington, though, it seems the issue is not 
the Chinese currency per se but that the United States has a 
large bilateral trade deficit with China, which is often 
attributed to the undervalued RMB. A currency revaluation for 
many policymakers is just a proxy for reducing the trade 
deficit, which itself is seen as a proxy for creating jobs in 
the U.S. economy.
    But the relationship between currency values and trade is 
not as straightforward as might have been the case before 
globalization took hold. Because of the proliferation of 
transnational production sharing arrangements, the effects of 
currency value changes cut in many different ways. The last 
period of RMB appreciation is instructive. As you heard 
earlier, between July 2005 and 2008, the RMB appreciated by 21 
percent against the dollar, from a value of 12.08 cents to 
14.64 cents, but during that period, contrary to what the 
textbooks predict, the U.S. trade deficit with China increased 
from $202 to $268 billion, or by 33 percent.
    U.S. exports to China increased, as predicted, and by $28 
billion, or 69 percent. But there is a strong case to be made 
that Chinese currency appreciation wasn't the most important 
determinant of that export growth, and I refer you to the chart 
in my submitted written testimony.
    During that same period, U.S. imports from China increased 
by $94 billion, or 39 percent. One reason for continued U.S. 
consumption of Chinese goods, despite the relative price 
increase, is that there may be a shortage of substitutes in the 
U.S. market for Chinese-made goods. If that is the case, RMB 
appreciation reduces Americans' real incomes, and any trade 
sanctions imposed to approximate or compel that appreciation 
can be seen as a regressive tax.
    But the fact that a 21 percent increase in the value of the 
RMB was met with a 39 percent increase in import value means 
that the quantity of imports demanded after the price change 
increased by nearly 15 percent. Higher prices met with greater 
demand would seem to defy the law of demand, so something else 
must have happened.
    I think Chinese exporters must have lowered their RMB-
denominated prices to keep their export prices steady. That 
would have been a completely rational response, enabled by the 
fact that RMB appreciation reduces the cost of production for 
Chinese exporters who rely on imported raw materials and 
components. According to a growing body of research, somewhere 
between one-third and one-half of the value of U.S. imports 
from China is actually Chinese value added. The other half to 
two-thirds reflects the costs of materials, labor, and overhead 
from other countries, including the United States. China's 
operations still tend to be low-value manufacturing and 
assembly operations. Thus, much or most of the value of Chinese 
exports was first imported into China.
    RMB appreciation not only bolsters the buying power of 
Chinese consumers, but it makes Chinese-based producers and 
assemblers even more competitive because the relative prices of 
their imported inputs fall. That reduction in cost can be 
passed on to foreign consumers in the form of lower export 
prices, which could mitigate entirely the effect desired by 
many in Congress, which is to reduce U.S. imports from China.
    That process might very well explain what happened between 
2005 and 2008 and is probably a reasonable indication of what 
to expect going forward. Factors such as income, savings 
propensities, the availability of substitutes, and monetary and 
fiscal policies have greater influence than currency movements 
over trade flows, particularly when exporters are willing to 
absorb the costs of those currency changes.
    As to the claims that imports kill jobs, I would note that 
U.S. producers themselves account for a majority of import 
value year after year. The figure was 55 percent in 2008. 
Fifty-five percent of U.S. importer value was imports conducted 
by U.S. producers. Imports from China and elsewhere really, 
therefore, support countless jobs up the value chain in the 
United States.
    During the quarter-century between 1983 and 2008, as the 
value of U.S. trade increased more than fivefold in real terms, 
U.S. employers added 46 million jobs to payrolls and real GDP 
more than doubled to $14.5 trillion. That is 1.8 million net 
new jobs per year, even as U.S. import value increased by 8 
percent per year over that period.
    Finally, yesterday, the U.S.-China Business Council 
released a compilation of State-by-State export data which 
revealed, among other findings, that in 2009, 19 U.S. States 
exported more than $1 billion worth of goods to China, which is 
our third-largest export market; that U.S. exports to China 
were off by only 0.2 percent in 2009, while exports to the rest 
of the world tanked by 19 percent; that 47 States have 
experienced triple-digit export growth to China since 2000; and 
that exports to China from Ohio grew from $292 million in 2000 
to $1.9 billion in 2009. The undervalued RMB is apparently not 
an insurmountable barrier to exports, as some have suggested.
    Thank you for your time and attention.
    Chairman Brown. Interesting. Thank you, Mr. Ikenson.
    Mr. Lardy, you in some sense agreed, in some sense 
contrasted your views with Mr. Prestowitz. One place where they 
were more or less coincident was that it should be part of 
whatever we do with adjusting currency. I think you wanted to 
move probably more slowly than he would on adjusting currency, 
but since he is not here to speak for himself, I won't do that 
debate.
    But you both talked about making this part of a larger 
plan. He mentioned manufacturing policy and other things. You 
mentioned using the talks, the strategic talks to urge some 
kind of restructuring of China's relationship with us, economic 
relationship with us. Would you talk that through a little 
more, about what those talks should be and what you would 
suggest we try to accomplish within China's economy and, I 
assume, ours to deal with these disadvantages of currency and, 
I assume, to deal with the trade deficit overall and our 
economic relationship.
    Mr. Lardy. Yes. I think the talks through the strategic 
economic dialog deal with this broad rebalancing agenda, and I 
think for China, that means several areas where there is room 
for policy change beyond the currency. I am not minimizing the 
currency.
    Chairman Brown. I understand.
    Mr. Lardy. The currency is a key part of it, but there are 
other things that need to be done. Price reforms, for example, 
are extremely important. China has tended to have undervalued 
prices for energy, still has significantly undervalued prices 
for electricity, for example. That provides a very substantial 
advantage to producers of tradable goods, that is, exports and 
import-competing goods. These are the firms that use most of 
the electricity in China. So appropriate pricing of 
electricity, water, a lot of other natural resource products.
    I think Senator Graham also mentioned the environmental 
protection. They need to introduce appropriate environmental 
charges and fees. Again, that would tend to raise the cost of 
producing exports. It would not impinge so much on the 
production of services. A very big part of this rebalancing is 
to get away from a totally manufacturing-driven growth process 
and have the service sector play a larger role in growth.
    Financial reform is another important part of this reform 
of the banking system, which I believe is very important. 
Primarily, the step that is needed is interest rate 
liberalization. There has been a massive tax on the household 
sector by very low deposit rates. That means households' income 
growth has been inhibited compared to what it would have been 
on a more liberalized interest rate environment.
    The central government in China and the local governments, 
as well, need to continue to build out the social safety net. 
They have done a reasonably good job of accelerating that 
process over the last few years, but more, much more needs to 
be done. That would tend to reduce the household savings rate 
and help to alleviate the saving-investment imbalance that 
Clyde spoke of.
    So there are some things in the pricing domain, the 
financial sector, particularly interest rate reform, and 
environmental charges and fees, and more of a social safety 
net, which would affect individual choices on consumption 
versus savings. All of those things would tend to reduce 
China's very large--traditionally, over the last few years, 
very large external surplus.
    So, as I said, not just the currency. Other things need to 
be addressed, as well. But the currency certainly should be 
part of it.
    Chairman Brown. What would you consider--and this is for 
both Mr. Lardy and Mr. Blum--what would you consider a 
meaningful step by the Chinese government? Forget our 
legislation in terms of enactment. Think of it in terms of a 
prodding, for instance, for now. What would you--and you have 
said--I don't want to put words back in your mouth. What would 
each of the two of you, and then I will get to Mr. Ikenson, 
consider a meaningful step by the Chinese voluntarily on 
currency? At what rate of appreciation? What step over time, 
and what kind of timeframe?
    Mr. Lardy. Well, my answer to that would have to be 
conditional on some of the factors I alluded to earlier. That 
is whether or not the U.S. growth continues to gain traction, 
whether Europe joins in the recovery process sometime this 
year.
    I certainly agree with what the Central Bank Governor said 
a number of weeks ago, that repegging to the dollar in the 
summer of 2008 was a temporary measure undertaken with the 
stress of the financial crisis and that it would be the--the 
policy would be changed. I think there is enough evidence now 
that global recovery is reasonably strong. I think they should 
go back to allowing their currency to appreciate.
    When their external surplus, though, has almost 
disappeared, I would be very surprised if they would be willing 
to appreciate more than three or 4 percent. Let us say, over 
the balance of this year unless we get--if we got strong 
European recovery and their surplus started to go up again--
then I would expect and hope that they would appreciate more 
than that, maybe 5 percent or 10 percent. But I do think it has 
to be somewhat--our expectations have to be somewhat 
conditioned on what happens to the global recovery, the pace, 
and also what happens to their own trade position, their global 
trade position.
    Chairman Brown. Mr. Blum, same question to you with the 
addendum, do you agree with Mr. Prestowitz's contention--I 
don't believe he said it today, but he has other times--that 
increase in Chinese productivity basically canceled out the 
appreciation of the Yuan in that 2- or 3-year period. So 
address that, if you would.
    Mr. Blum. Let me address that first.
    Chairman Brown. Sure.
    Mr. Blum. It is obviously true. The productivity of Chinese 
workers is escalating rapidly. People are being taken off the 
farm and being put in factories, and after a certain amount of 
training, they become highly productive compared to what they 
used to be. There is no question about that.
    But there is something else, and it gets me to a comment I 
wanted to make to Mr. Lardy's earlier point. A big part of the 
problem, which I don't think, Nick, I heard you say, is that 
the government is lavishing--the Chinese government is 
lavishing cheap, even zero interest, effectively, zero interest 
money on favored enterprises. They are almost always state-
owned enterprises.
    So one reason--another reason, let us say--why the 
appreciation during those 37 months didn't add up is that the 
people who were investing for export were being given free 
money. That nullified a big part of the effect of the 
appreciation.
    And in that connection, I think it is important to 
recognize, Mr. Lardy has talked correctly about the thriftiness 
of Chinese households. I know many Chinese people, how careful 
they are with their money. They hate credit cards. They save 
and pool their money to buy things. This is all true. But in 
the last few years, the corporate savings have outpaced the 
household savings. It is now a bigger factor. The latest 
numbers I have, which are Chinese numbers, are that in 2007, 
corporate savings reached the level of 22.9 percent of Chinese 
GDP, while household savings, while still rising--well, 
actually while fairly stagnant over a 15-year period, were at 
20 percent.
    So a big part of the consequence of the currency policy is 
to put a lot of money in the hands of and at the control of 
these state-controlled enterprises. They are the guys who 
invest for export, sometimes nullifying the currency policy.
    To answer your question directly, I will tell you honestly 
what we have told the Treasury Department is, we don't have a 
specific number of set of numbers, but we have told them that 
the initial revaluation needs to be higher than the last time, 
2.1 percent. The pace at which appreciation proceeds needs to 
be faster than the last time, which produced--again, there are 
two ways to measure it. So we get 17.5 percent if you use the 
Renminbi to the dollar. You get a higher number if you use 
cents per Renminbi.
    Third, it has got to be sustained. I mean, last time, the 
Chinese stopped when they found it convenient to stop, before 
we had actually gotten any benefits. Part of the reason is it 
was not backed up by all of the rest of the policies, and we 
certainly endorse Treasury's effort to have a full-scale 
understanding with the Chinese about what needs to be done on 
their side and on our side to rebalance the economy.
    So it is not an easy issue. It is not a magic number. It is 
not a stable number. Forty percent happens to be a recurring 
number, but a lot of things have changed. This will change with 
both economies.
    So what we need, I think, is a serious, sustained process 
that will actually bring us reliably to some kind of 
equilibrium.
    Chairman Brown. Give me, if you would, a real short answer 
on a pretty simple question, the two of you, Mr. Blum and Mr. 
Lardy. Is Congressional pressure a necessary ingredient to 
begin to fix this? Mr. Blum.
    Mr. Blum. Yes.
    Chairman Brown. Mr. Lardy.
    Mr. Lardy. I used to be agnostic on this question, but in 
the current environment, I think pressure either from the 
Congress or from the executive branch is probably 
counterproductive. This has become politically a very 
contentious issue within China and I think the more external 
pressure there is, the harder it is for them to change off the 
peg.
    Chairman Brown. OK. I understand that.
    Mr. Lardy. I would--let me, just in response to your 
earlier question, I would say it is very important to recognize 
this productivity gain is very important, and this is one of 
the things that I don't think is fully understood or adequately 
understood in China. That is, the appropriate exchange rate is 
a moving target. China has much higher productivity growth in 
the export sector than its trading partners. Even if they moved 
magically to an exchange rate that we would all agree on was 
the right number within a relatively short period of time, 
their competitiveness would have improved vis-a-vis their 
trading partners and they would be heading back into a surplus. 
So they need to have a steady pace of appreciation in order to 
offset that productivity gain and not have larger and larger 
imbalances.
    Chairman Brown. Mr. Ikenson, listening to your comments and 
looking at your testimony, I was going to ask you if the size 
of the trade deficit with China, our bilateral trade deficit, 
was of concern to you, but I guess I want to frame it in a 
different way as I am listening to the comments of others.
    A lot of us are concerned that, you know, as we wean 
ourselves off foreign oil--and we all kind of think we should 
do that in various degrees and various paths--that we do not 
want to see us losing the opportunity to build a domestic clean 
energy manufacturing capability. It is a concern particularly 
of mine. I was critical of the Administration on the stimulus 
dollars--regardless of what you thought about the stimulus 
package, but the stimulus dollars going to build wind turbines 
abroad and used in the United States. And I was critical of the 
Administration, but I also was understanding in that we do not 
necessarily have the industrial capacity to succeed, at least 
in the short term, on doing that.
    One, is that a major concern of yours? And, second, if it 
is, what do we do to build this manufacturing capacity to lead 
the world in at least--not lead the world, if we do not lead 
the world, which we should do, but at least be a major player 
in solar panels, wind turbines, biomass, fuel cells, all of 
that?
    Mr. Ikenson. Well, let me just back up and address what I 
think is a myth that has been lingering for quite some time, 
and that is, this myth of manufacturing decline. There is this 
presumption that the Chinese have eaten our lunch, that we have 
de-industrialized, that we do not produce anything anymore. 
U.S. producers, U.S. manufacturers are still the world's most 
prolific. We measure manufacturing output by value, not by 
volume. In fact, about 22 percent of the world's manufacturing 
value-added comes out of the U.S. factories; about 13 or 14 
percent comes out of Chinese factories. We are not producing 
the products that you see in retail stores anymore. We are not 
producing baseball bats and sporting goods and hand tools and 
clothes. We are producing pharmaceuticals and chemicals and 
airplanes and technical textiles.
    So we have moved up the value chain, and it seems to me 
that these industries that you speak of are in the U.S. 
manufacturing's bailiwick. We are occupying the higher value-
added portion of the value chain. China is still at the lower 
value-added stages. It wants to get to where we are. It might 
get to where we are. We can stay where we are and stay at the 
top if we have the right policies, and I think those policies 
are policies that attract investment, that attract human 
capital, liberal immigration policies. And we need to recognize 
that--you know, we used to talk about comparative advantage in 
terms of one industry against another. Ricardo spoke of the 
Portuguese wine maker and he English cloth maker producing and 
exchanging surpluses. Today I think that applies to--
comparative advantage applies to functions on the supply chain, 
and we need to maintain our position at the upper end.
    If you speak to people at the National Association of 
Manufacturers, they say their biggest problem is the dearth of 
skills. People do not have the skills to take some of the jobs 
that could lead these industries into the future. I think that 
we should come up with some sort of an idea where manufacturers 
subsidize or pay for workers to get these skills in exchange 
for a commitment from workers to stick with them for a number 
of years. I think manufacturers do not want to invest in these 
skills knowing that people might take off.
    So if there is some sort of an arrangement that can be 
worked out like that, I think we could create the skill set and 
the labor force necessary to excel in those industries.
    Chairman Brown. Thank you. I would argue that Ricardo would 
be perhaps surprised that both wool and wine would have very 
possibly moved to Portugal, but that is a whole other issue.
    I hear your arguments, and I have heard those before, and I 
think there is great credence to major parts of it. It is clear 
that we are a much more productive manufacturing sector. It is 
clear that we produce more than we ever did, and our lost jobs 
surely are ascribed in part to efficiency. But I also represent 
a State--and I have looked at what has happened to my hometown 
and so many others. Much of this manufacturing for a lot of 
reasons has gone elsewhere.
    Also, most disturbingly to me that 30 years ago 
manufacturing was about a third of our GDP and finance was 
about half that, and today it is almost the reverse of that, 
and, you know, look where that got us. But that is, again, 
another issue.
    Let me ask a brief question. I hope you can give me a brief 
answer on this. A bit off the subject, but not. Senator Graham 
talked about the climate change legislation peripherally. 
Putting aside your position on climate change itself, on 
whether it exists, who is responsible if it does, and whether 
and how we should address it, should we do a border adjustment? 
Would you support some kind of border adjustment to apply to 
those countries that do not follow significant environmental 
rules that we would impose on our Government, on our industries 
and utilities and transportation and homes, if you will? Would 
you support some kind of a border adjustment which would be the 
shape of a tariff or a payment or something like that? Mr. 
Lardy.
    Mr. Lardy. Well, I----
    Chairman Brown. Fairly short if you can, but if you cannot, 
I understand.
    Mr. Lardy. I would support that if it was consistent with 
the WTO.
    Chairman Brown. OK. Mr. Blum.
    Mr. Blum. Yes, well, I can say that the Fair Currency 
Coalition has no position on that, but if you will allow me a 
personal observation--and, again, I would hark back to Ronald 
Reagan's reciprocity. If we play by one set of rules and our 
trading partners play by another, we are going to hurt 
ourselves.
    Chairman Brown. OK. Mr. Ikenson.
    Mr. Ikenson. No.
    Chairman Brown. OK. That was a pretty short answer. That 
was even shorter than ``yes'' by one letter.
    Mr. Ikenson, at the risk of making an assumption where you 
work and whom you might consider your personal and your think-
tank heroes might be, do you come down on the same place as Mr. 
Blum in your interpretation of what Ronald Reagan would say 
about this?
    Mr. Ikenson. I think reciprocity is not necessary. I think 
we can improve our lot through unilateral measures. We do not 
need--if our trade partners want to engage in protectionism, if 
they want to subsidize their producers, we can still improve 
our lot and maximize our position by reducing our trade 
barriers or eliminating them. Ronald Reagan is thought to have 
been a free trader, but he engaged in a lot of protectionism as 
well. But I would say we do not need reciprocity; we do not 
need trade agreements. We can follow in the footsteps of the 
countries that are leading us in this continent--Mexico and 
Canada--by eliminating tariffs as a way to reduce costs for 
U.S. producers. The Canadians and the Mexicans have cut tariffs 
on a whole slew of products, industrial inputs. That is one way 
to reduce costs for U.S. producers. We can do that 
unilaterally.
    Chairman Brown. Thank you. Great discussion, and all three 
of you defended your positions articulately and very well, with 
passion. Thank you to the three of you. Thanks.
    I will call up the next panel, please. Thank you.
    Jack Shilling is Executive Vice President of Corporate 
Development and Chief Technical Officer (retired) of Alleghany 
Technologies. He earned his Ph.D. in metallurgical engineering 
from the University of Pittsburgh and for more than 30 years 
oversaw the manufacture of high-technology specialty metals for 
aerospace and defense markets and energy generation markets. We 
need more people studying what you studied these days. Thank 
you for joining us.
    Mark Suwyn, Chairman of NewPage in Miamisburg, Ohio, his 
previous positions with NewPage included Chairman and Chief 
Executive Officer and Executive Chairman of the Board. He was 
Chairman and Chief Executive Officer of the Louisiana Pacific 
Corporation for 8 years, and as I said, NewPage is located in 
Miamisburg, Ohio. That is the largest coated paper manufacturer 
in North America with $3.1 billion in net sales.
    Derek Scissors is a Research Fellow of the Heritage 
Foundation. He focuses his studies on the economies of China 
and India as Research Fellow for Economics in Heritage's Asian 
Studies Center, and he has written extensively in Foreign 
Affairs, the New York Times, and other publications.
    Dr. Shilling, if you would begin. Thank you.

STATEMENT OF JACK W. SHILLING, RETIRED EXECUTIVE VICE PRESIDENT 
      AND CHIEF TECHNICAL OFFICER, ALLEGHANY TECHNOLOGIES 
 INCORPORATED, AND CHAIRMAN, SPECIALTY STEEL INDUSTRY OF NORTH 
                            AMERICA

    Mr. Shilling. Well, thanks so much for asking me to be 
here.
    My conviction, from all of my previous experience, some of 
which was in China, actually, is that it is vitally important 
for job creation, the overall economy, and national security--
particularly important for national security--that the United 
States strengthen and extend its manufacturing base. An 
integral part of this effort must be an international system of 
exchange rates that reflect market fundamentals and that adjust 
as those fundamentals fluctuate.
    China's enforced undervaluation of its currency by pegging 
the RMB to the dollar dates from 1994. Most estimates are that 
the RMB remains misaligned by about 40 percent relative to the 
U.S. dollar on a bilateral, real exchange rate basis, as large 
today as the RMB undervaluation was before the Chinese 
Government allowed the RMB to appreciate nominally by 17.5 
percent between 2005 and 2008. Other countries have similarly 
undervalued their currencies in an attempt to remain 
competitive with China.
    This sort of competitive currency depreciation is 
protectionist in nature, as others have said this morning, and 
a significant factor in the weakening of our U.S. manufacturing 
base and in the increasing loss of skilled jobs and investment 
in the United States. The RMB's protracted undervaluation also 
facilitates exports from China into the U.S. and impedes 
exports from the U.S. to China. The U.S. trade deficits with 
China and China's hoard of foreign reserves will continue to 
grow as long as the RMB remains undervalued.
    In my written statement, I have discussed how the RMB's 40-
percent undervaluation affects purchasing decisions and the 
prices of items traded between the U.S. and China. I have also 
described what likely would happen if the RMB were effectively 
revalued by 40 percent on a bilateral, real exchange rate basis 
relative to the dollar. All other things being equal, price 
becomes the dominant issue where exchange rates have a direct 
and obvious impact.
    I believe there are at least two principal lessons to be 
drawn from this review. First, in my opinion, the primary 
benefit of a meaningful 40-percent revaluation of the RMB would 
be to have a positive impact on reducing imports into the U.S. 
of subsidized products from China. This shift in turn would 
mean that U.S. producers would have a greater ability to supply 
a wide range of segments in the U.S. domestic market with a 
broader range of products and in larger volumes than is 
presently the case. There would be, in other words, a very 
beneficial effect on the U.S. economy, U.S. jobs, investment, 
and, again, national security.
    Second, the effect of revaluation on exports from the U.S. 
to China likely would be somewhat helpful, but not as much so 
because it seems likely the Chinese Government would intervene 
in the future in some manner other than an undervalued RMB to 
prevent a significant disruption to the ability of Chinese 
producers and labor to supply their own market.
    I would emphasize that the 40-percent revaluation of the 
RMB must be on a real exchange rate basis in accordance with 
inflation-adjusted, trade-weighted exchange rates. The RMB's 
appreciation between 2005 and 2008 was a nominal 17.5-percent 
appreciation. And during that time, China's economy and ability 
to supply the U.S. market grew rapidly and dramatically.
    It seems clear that China is very unlikely to revalue 
meaningfully on its own initiative, nor is the IMF in a 
position to impose and enforce a solution. In the meantime, if 
not countered, China's protectionist currency policy will 
increasingly drain the United States of knowledge and 
expertise, contribute to the demise of U.S. manufacturing, and 
siphon off U.S. jobs, technology, and investment. That is not a 
winning formula for the U.S. economy and national security.
    It is critically important that we act now before the 
situation deteriorates further. Competitive currency 
depreciation on the unprecedented scale practiced by China is a 
very destabilizing mercantilist monetary measure with far-
reaching and damaging effects on international trade. A first 
step that can be taken by Congress and the executive branch is 
legislatively confirming the legal right of U.S. industries to 
countervailing and antidumping duties as a means of offsetting 
injury caused by imports from any country with a fundamentally 
undervalued currency. This approach would be a reasonable 
implementation in U.S. domestic law of the WTO's provisions, 
would timely help U.S. companies and workers, would act as a 
deterrent, and would underscore that protracted currency 
depreciation will not be tolerated.
    Thank you.
    Chairman Brown. Thank you very much, Dr. Shilling.
    Mr. Suwyn, welcome.

 STATEMENT OF MARK A. SUWYN, EXECUTIVE CHAIRMAN OF THE BOARD, 
             NEWPAGE CORPORATION, MIAMISBURG, OHIO

    Mr. Suwyn. Thank you, Mr. Chairman. I appreciate the 
opportunity to appear to discuss China's exchange rate policy 
and imbalances. As you indicated, NewPage produces printing and 
writing papers, including coated and uncoated free sheet and 
groundwood papers. While headquartered in Miamisburg, we have 
production facilities in Kentucky, Maine, Maryland, Michigan, 
Minnesota, and Wisconsin, employing about 7,500 people. 
Production of these papers is a multibillion-dollar industry in 
the United States.
    China's undervalued currency is a very significant problem 
for the United States paper producers. The U.S. has a 
significant competitive advantage over China in the production 
of paper and paperboard used domestically for printing and 
writing, a fact that has been confirmed regularly in various 
market research studies. Paper producers in this country have 
access to abundant, renewable, responsibly managed fiber 
sources, and we have a plentiful supply of water required for 
paper processing. We have a highly skilled workforce with 
generations of experience producing paper and state-of-the-art 
equipment. We have also the advantage of being close to the 
bulk of our customers in the U.S. market since paper is a low-
margin, high--very heavy product that has very high, expensive 
shipping charges.
    Now, by contrast, the Chinese producers have to import the 
vast majority of the fiber that they use. Most of that comes 
from Latin America. They also lack an adequate water supply. 
Wage rates are lower in China than they are in the U.S., but 
paper manufacturing is pretty much automated so that the wages 
are only about 10 percent of the total costs of producing the 
product. Therefore, they do not gain a real significant 
advantage from those lower wage rates.
    They have state-of-the-art production equipment, such as we 
do. But, finally, their producers are an entire ocean and half 
a continent away from our customers in the Midwest, and paper 
is very heavy and expensive to ship, and something has to cover 
that.
    Nonetheless, despite those disadvantages, Chinese paper 
producers have been able to lower prices, increase exports, and 
gain significant market share in the United States, all because 
of the large subsidies provided by the Chinese Government, 
their willingness to dump product in the U.S. market, and the 
biggest subsidy of all, the 40-percent undervaluation of the 
Chinese currency.
    In September of last year, NewPage, along with other 
members of the domestic industry and the United Steelworkers 
Union, filed antidumping and countervailing duty petitions 
covering certain types of coated paper from China and 
Indonesia. In the countervailing duty petition covering Chinese 
subsidies, we listed a host of subsidy programs that benefit 
Chinese paper producers, including allegations covering China's 
undervalued currency.
    Now, as it has been pointed out earlier and in my written 
testimony, we provided currency information that demonstrated 
that there were legal requirements--all three legal 
requirements for finding the existence of a countervailable 
subsidy were met: the Chinese Government had provided a 
financial contribution, it resulted in a benefit, and which was 
specific to a particular industry in China.
    Much to our disappointment, the Commerce Department did not 
initiate an investigation into our allegation when we first 
made it in September of last year, claiming that we had failed 
to sufficiently allege that the receipt of the excess yuan is 
contingent on export or export performance--in other words, 
exactly how the subsidy was specific. But in January of this 
year, we submitted a revised allegation, shown here, that gave 
all kinds of details by a third-party economist, an independent 
economist, that demonstrated that, based on the Chinese 
Government's own data, 70 percent of China's foreign exchange 
earnings were derived from the export of goods. Because Chinese 
exporters garner the overwhelming share of benefits from the 
undervaluation of the RMB, the subsidy benefit is de facto 
specific to the exporters as a group.
    As of today, the Department of Commerce has still not 
announced whether it will initiate an investigation into 
whether China's undervaluation of its currency confers a 
countervailable subsidy. We believe, as do many Members of 
Congress, that Commerce has a legal obligation to investigate 
this practice. We hope an initiation occurs soon so that 
Commerce will have sufficient time to fully analyze this 
allegation.
    China's undervalued currency, as well as the other 
subsidies from which Chinese coated paper producers benefit, 
has had a very significant impact on NewPage and other members 
of the coated paper industry. The consequences are documented 
in the preliminary unanimous injury determination by the 
International Trade Commission, which was issued in November of 
last year. They cited a number of things, but I will just 
summarize that during this time period the increase in the U.S. 
market share of imports from China--and Indonesia--rose from 15 
percent to 26 percent during the first half of 2009. This came 
by because of significant underselling by Chinese producers 
that led to price depression across the whole industry. These 
steps and these actions contributed to the closure by NewPage 
and other coated paper producers of several mills over the past 
several years, including two of our mills at Kimberly and 
Niagara, Wisconsin; a mill in Muskegon, Maine; and in Columbus, 
Mississippi, just a month or so ago. And we had also a 
converting facility in Chillicothe, Ohio.
    I estimate that about 2,500 direct jobs were lost, with 
another 5,000 indirect jobs as suppliers, contractors, and 
shippers lost business.
    So what is the appropriate response to their undervalued 
currency? We believe the best outcome, of course, would be for 
China to allow its currency to float freely and reflect market 
forces. However, we cannot wait 4, 5, 6, 8, 10 years for that 
to occur. Whatever may be accomplished through long-term 
negotiation, we believe that the Department of Commerce needs 
to investigate China's undervalued currency as a 
countervailable subsidy to the Chinese coated paper producers 
and to ultimately impose countervailing duties to offset the 
level of undervaluation. We believe this is required by the 
U.S. countervailing duty law and is critical to prevent 
material damage to the U.S. paper industry and the jobs and 
local communities that rely on our industry.
    Again, I appreciate the opportunity to appear before you 
today and would welcome any questions that you have.
    Chairman Brown. Thank you very much, Mr. Suwyn.
    Dr. Scissors.

  STATEMENT OF DEREK SCISSORS, RESEARCH FELLOW, ASIAN STUDIES 
                CENTER, THE HERITAGE FOUNDATION

    Mr. Scissors. Thank you, Mr. Chairman, for the opportunity 
to speak today. I am going to embrace two seemingly 
contradictory themes. One is that China is, in fact, a 
mercantilist trading state but, nonetheless, revaluation of the 
yuan will not benefit the U.S.
    The first step in reconciling those two themes is a 
reminder of something that we tend to forget, and I have not 
actually heard mentioned at this panel so far. The U.S. has a 
much bigger economy than China. I do not mean that as a reason 
for complacency. I mean that our policies and our behavior have 
necessarily far more influence on the U.S.-China economic 
relationship than China's policies and behavior. We are the 
800-pound gorilla here, not them. That is the main reason that 
there is no conventional relationship between the exchange 
rate, whether measured in real or nominal terms, and the 
bilateral trade gap--and, again, not just from 2005 to 2008, 
but from 1994 to 2009.
    When the U.S. economy expands, we pull in more Chinese 
goods, regardless of the exchange rate, and when the U.S. 
economy contracts, as it has in the financial crisis, we pull 
in fewer Chinese goods, regardless of the exchange rate.
    Putting it in rough terms, all Chinese policy and behavior 
only explains about a fourth to a third of U.S.-China economic 
relations. The weight is concentrated on our side, not theirs. 
Our policies, I realize, are not the focus of this hearing, but 
they are vital, and I can summarize a way to reduce the trade 
gap, create jobs, and, as mentioned earlier, strengthen 
national security in four words: Cut the budget deficit.
    Back to the topical theme of Chinese mercantilism. There 
have been multiple pieces of legislation in Congress calling 
China a nonmarket economy. These are exactly correct. In fact, 
it almost seems as if some members have forgotten how right 
they are about China.
    Why does that matter? If you pick a policy to change from a 
nonmarket economy, it is not going to do any good. Even if the 
exchange rate is important in influencing Chinese trade, 
Beijing will just intervene in some other way to compensate, 
because that is what happens in nonmarket economies.
    As it happens, Beijing did not need new intervention the 
last time the yuan appreciated against the dollar, and it will 
not need it this time because the peg is really a minor factor 
in Chinese trade. Much more important is that China heavily 
subsidizes its state-owned enterprises. Mr. Blum in the last 
round mentioned one of these subsidies, and he and I completely 
disagree on the larger point, and we agree on this. China 
provides basically free money to most of its state-owned 
enterprises, and that is not the only subsidy. In the trading 
hubs, where one-third of China trade goes through Shanghai, 
Shenzhen, Xuzhou--three cities, one-third of the trade--land is 
very expensive for understandable reasons. But all land is 
owned by the state, so state firms can acquire land in the 
trading hubs freely and quickly whenever it is necessary.
    The biggest subsidy I want to point to, however, is 
regulatory. State firms are sheltered from competition at the 
national level for the big state firms and competition at the 
local level for small state firms. The central government has 
formally and explicitly reserved most of the economy for state 
economic leadership and is formally and explicitly working to 
consolidate major sectors, and by consolidate, they mean using 
government intervention to create a small number of very large 
firms, all of which are state owned.
    The result is that relatively few state firms are 
guaranteed the bulk of many major sectors in the economy. This 
creates economies of scale, which makes state enterprises more 
competitive in exports even though they are otherwise 
inefficient. But the real harm to open trade and to the U.S. in 
particular comes in imports. All imports from any country, all 
nonstate domestic production, whether by local firms or foreign 
firms based in China, are competing for a minority stake of 
many sectors. Imports of goods and services are, thus, capped 
regardless of the exchange rate.
    I want to stress that. Whatever the exchange rate is, you 
are still not capturing larger shares of the Chinese market 
because they are reserved for the state.
    The bottom line is, when you consider all the factors 
involved, there is little role left in U.S.-PRC trade for the 
value of the renminbi. China has a nonmarket economy, as 
Congress has noted, and the U.S. has more weight in the 
relationship and our policies matter more than theirs. The 
stories you hear, as my fellow panelists have told, about the 
RMB mattering works when you put the more important factors on 
the sidelines, in particular, when you act as if China will not 
adopt another policy to countervail a change in exchange rate 
when we know China will because it is a mercantilist trading 
state, as Congress has pointed out.
    So I am not here to say the U.S. should do nothing. I am 
here to say that real improvement in U.S.-China economic 
relationships will require more difficult work than a renminbi 
revaluation. We need to go after those subsidies. We are not 
going to get rid of them entirely, and it will not be as simple 
as saying, OK, let us have an exchange rate revaluation. But it 
will actually work.
    We have a couple of things in our favor. One thing was 
mentioned by the Chairman in the last round. The U.S.-China 
Strategic and Economic Dialogue should exist for just this 
purpose. It is not for conventional trade discussions. That is 
for the JCCT. It is so senior leadership can hash out major 
change, which is what we are talking about right now.
    Nick Lardy mentioned some changes on the Chinese side. I 
want to focus my suggestions on changes that will directly 
affect U.S.-China trade rather than fundamental reform within 
China itself.
    We should call for less harmful Chinese bank lending. Their 
bank lending subsidizes their state firms. It is a distortion 
of global economic trade and investment. There should be less 
of it. We have something to do on our side that has exactly the 
same effect. It is less of a U.S. budget deficit. Or we could 
just cut the budget deficit from our own reasons and support 
Chinese market reform. This was also mentioned in the last 
panel.
    The PRC has claimed for over a decade that it was going to 
liberalize capital controls. They have not. Their lack of 
progress is inconsistent with pledges to the U.S. And if they 
liberalize capital controls, it will be much harder for them to 
use bank loans to subsidize their firms.
    The best thing we could do in the S&ED would be invoke WTO 
principles concerning state dominance of all these sectors. 
First of all, the lack of transparency, China will not tell us 
exactly what state dominance means and what policies are to be 
used to encourage state dominance. They will not commit to 
anything. And the lack of transparency violates WTO principles. 
It hampers market access and it hampers our negotiations over 
market access.
    If the WTO is insufficient as a tool to get the Chinese to 
move on state dominance, we have the possibility of a bilateral 
investment treaty, which we should not extend to China unless 
we get progress on this issue, as well as the S&ED.
    In sum, RMB revaluation is not going to accomplish much of 
anything. When proponents are pressed, they understandably--and 
you have heard repeatedly--point to additional issues that need 
to be resolved, and they are right. But we would be much better 
off skipping over RMB revaluation and going to what really 
matters, which is state dominance of the economy in China and 
the budget deficit in the U.S.
    Thank you.
    Chairman Brown. Thank you, Dr. Scissors. I appreciate that.
    Dr. Shilling, my staff pointed out, I guess the humor 
writers behind me, that if Dr. Shilling were more in geology 
than metallurgy, we would have rock, paper, and scissors here, 
but----
    [Laughter.]
    Chairman Brown. I know you have always heard jokes about 
your name, Dr. Scissors, so this is the best we can do. Since 
you laughed, that was actually my line. It wasn't theirs.
    [Laughter.]
    Chairman Brown. Dr. Shilling, you had said the IMF is not 
in the position to, perhaps, to do anything here. Is there a 
case to be made for bringing this dispute--dispute in my words, 
Dr. Scissors might not call it that--but is there a case to be 
made for bringing this dispute to the WTO in your mind?
    Mr. Shilling. Well, I don't consider myself an expert in 
that particular area. We have lots of other folks here who are. 
I am a manufacturing guy and a technology guy. There is a case 
for doing anything and everything we can do to reverse the 
trend of lost U.S. manufacturing and technology. And if we 
thought we could win a WTO case on any basis that Dr. Scissors 
was talking about or Clyde talked about or anybody else, I am 
all for doing it.
    The country has got to get tough here because time is 
running out. Every year that goes by that we don't do what we 
need to do to create a level playing field for U.S. 
manufacturers is a year lost. So whether there legally is a 
case that we would win, that could be presented and won at the 
WTO, I am not knowledgeable enough to answer it.
    Chairman Brown. OK.
    Mr. Shilling. I hope there is, and if there is, we should 
definitely pursue it.
    Chairman Brown. What would you do if--well, I mentioned the 
wind turbines when I asked Mr. Ikenson earlier. The 
Administration will say, and I think rightly, although I didn't 
exactly agree with their emphasis and their focus on this 
issue, they will say that we don't have the industrial capacity 
to begin the scaling up of wind turbine production and some 
other clean energy, and some other industrial capacity 
generally. But your field is metals and you understand a lot of 
this.
    What should we be doing in terms of building the supply 
chain, converting from other things, perhaps, so that we really 
can benefit from this revolution, if you will, in clean energy? 
I mean, granted, there are other issues. There is nuclear and 
there are other things that we will likely pursue. But 
especially in these new energy alternatives, where do we go? 
How do we do this?
    Mr. Shilling. Yes, that is a big question. Let me try to 
give--I have worked on this for so long and think about it so 
much, I will try to give you a real simple--because it is a 
relatively simple--answer.
    First of all, there are things we need to do besides 
address currency misalignment, as has been pointed out by 
others, to create a level playing field for investment in the 
United States.
    The next thing we should do is tax reform, because the U.S. 
has a noncompetitive tax structure from a corporation 
standpoint compared with the rest of the world, both in terms 
of income tax and VAT tax, et cetera. We have got to look at 
that and make that competitive.
    We have got to look at our energy policies and how they 
affect the costs of manufacturing. Energy is a big factor in 
manufacturing costs and they have to be competitive, and we 
have to look at regulatory issues and make sure we are 
competitive there in a general sense.
    But if we were to create a level playing field for 
investment, I have always believed that the private sector can 
handle picking winners and losers, and gradually, over time, 
bring the manufacturing base back to this country. One of the 
things that is very frustrating to me is to read statements 
that ``those jobs are lost forever,'' that ``those industries 
are lost forever,'' and that ``the U.S. can't compete in 
that.''
    We have to be innovative manufacturers of wind turbines. I 
am all for alternative energy. I am all for doing everything we 
can in those areas. But we have 300 million-plus people here. 
We need to create employment opportunities across a large 
segment of manufacturing and we should set very high 
expectations in terms of what can be done. Labor costs are, as 
has been pointed out, a small percentage of costs of many U.S. 
manufacturers, particularly highly productive U.S. 
manufacturers. But we are disadvantaging our U.S. 
manufacturers, we are discouraging investment in U.S. 
manufacturing because the playing field isn't level.
    So I don't think the solution is to subsidize a 
particularly bright idea like wind turbine manufacturing. That 
will work temporarily, but it won't solve the bigger picture of 
this tremendous loss of both manufacturing and technology. I 
will stop there.
    Chairman Brown. That is helpful.
    Mr. Suwyn, why the resistance to petitions like yours from 
our Government? It is not a political partisan thing. The Bush 
administration was not particularly aggressive on these. The 
Obama administration on some narrow issues has been a little 
more aggressive, but generally has not been where a lot of us 
think they should be. What is the resistance? Do you understand 
this?
    Mr. Suwyn. I don't, because we have been pushing on this 
now for several years, particularly in this most recent 
petition. I am not sure. I assume it is a political hot potato 
and people are worried about that. It is obviously caught up in 
the whole issue of our relationships with China, Senator.
    But to me, it is--and I am a simple person--it is very 
clear. They are subsidizing their operations significantly by 
both the things that Mr. Scissors indicated, and we are seeing 
all of that, and those things, we can go after. We are going 
after those subsidies.
    But one of the biggest ones, we can't go after, which is 
the currency. And so we have asked, we have requested, we have 
submitted documents like this to articulate why it is, in fact, 
meets all the requirements. And what we have gotten so far is 
nothing. It is like it is a blank wall. So we are not even 
getting told why they won't. We are simply getting no response 
at all on that. So I don't have an answer as to why.
    Chairman Brown. Well, I am as perplexed as you are. I mean, 
certainly the geopolitical issues of we need China's help with 
Iran and North Korea, but it has puzzled me for a decade-and-a-
half.
    Mr. Suwyn. Yes.
    Chairman Brown. Your outspokenness and aggressiveness as a 
major Ohio manufacturer is important to continue to weigh in.
    Dr. Scissors, a last question, and then we are kind of 
running out of time. Is the status quo on exchange rate 
acceptable to you?
    Mr. Scissors. Yes, and not because I am in love with the 
status quo on the exchange rate but it is because it doesn't 
matter. It is just not to where I would put U.S. energy in 
negotiations with China. We just mentioned that there are these 
political issues. I am an economics person. I think economics 
is more important than politics. But even on economic issues, I 
just wouldn't go with the exchange rate.
    If somebody said, we are not going to do anything else, 
then I would say, fine. Let us work on the exchange rate. If we 
are not going to do anything else, then an exchange rate change 
might be helpful. But it is not where I would put my first 
priority, my second priority, or my third priority. So if 
someone said, let us sit on the exchange rate and do other 
things, I would say I would rather do that.
    Chairman Brown. I thank you. I think there is agreement 
from the three of you and the four on the previous panel that 
it is bigger than exchange rate, that there are many things to 
do. I mean, many of us agree with Mr. Suwyn that the exchange 
rate should be a central focus of this, though.
    Well, thank you all. The record will be open for an 
additional 7 days. If you have other answers that you wish you 
had given or if you have another rock, scissors, and paper 
joke, you could expand on that, or if you have anything else 
that you want to submit to the Subcommittee, we would 
appreciate that.
    The testimony of all seven of you was very, very helpful 
today. So thank you, and the Subcommittee is adjourned.
    [Whereupon, at 11:47 a.m., the hearing was adjourned.]
    [Prepared statements, responses to written questions, and 
additional material supplied for the record follow:]

                 PREPARED STATEMENT OF CLYDE PRESTOWITZ
                 President, Economic Strategy Institute
                             April 22, 2010

    Chairman Dodd, Ranking Member Shelby, and Members of the 
Subcommittee on Economic Policy, thank you for the opportunity to speak 
to you this morning. My name is Clyde Prestowitz, President of the 
Economic Strategy Institute.
    The Subcommittee has asked for answers to specific questions with 
respect to China's currency policy. I would like to address these 
questions in brief now, and then go into greater detail as to the scope 
of this issue and what we must do to address it.
To What Extent Is China's Currency Misaligned?
    Estimates of this misalignment range from 10 to 50 percent. The 
majority of analysts put the undervaluation of the Chinese RMB at 25-40 
percent.
What Is the Effect of This on the U.S. Trade Deficit and on U.S. 
        Employment?
    The undervaluation of the RMB tends to increase both the U.S. trade 
deficit and U.S. unemployment. Nobel Prize winning economist Paul 
Krugman has estimated that proper RMB valuation could result in an 
increase of as many as 1.4 million U.S. jobs. That suggests a trade 
deficit reduction of over $100 billion using standard estimating 
parameters.
    But these are only representative figures because many factors 
other than exchange rates influence both the trade deficit and the 
level of employment. No one can say for sure at any particular moment 
exactly what amount of trade deficit or unemployment is due to currency 
undervaluation. But neither can anyone deny that such undervaluation 
distorts trade and ways that are negative both for the undervaluing 
country and its trading partners.
    Moreover, the impact is not only on trade. It is also on 
investment. If global companies anticipate that a major country's 
currency will be chronically undervalued, they will tend to move 
investment and production to that country and away from other locations 
which might be better suited for the production in terms of their 
actual factor endowments. Thus the market distortion is not only of 
trade, but of the whole composition of production and structure of the 
economy. For instance, the fact that China undervalues the RMB is 
displacing production not only from the United States, but also from 
Mexico, Indonesia, the EU and other locations. The whole global economy 
is being distorted, in other words.
What Sectors of the Economy Would Increase Employment in the Wake of an 
        RMB Revaluation?
    Again, we must note that many factors in addition to exchange rates 
influence employment levels. But certainly an RMB revaluation would 
push in the direction of higher U.S. employment. This would be in a 
wide variety of sectors ranging from furniture production to textiles, 
semiconductors, machine tools, aircraft parts, tires, and many, many 
other sectors. Actually, it would be more or less across the board 
because a rise in one sector tends to stimulate a rise in others.
What Happened When China Allowed RMB Appreciation in 2005-2007 and Why 
        Did the Trade Deficit Not Decline Then?
    First, the appreciation was quite small in nominal terms being only 
about 20 percent over 2 to 3 years. Since China' productivity was 
growing very rapidly and at a greater rate than the currency 
appreciation during that period, in real terms, the RMB was actually 
depreciating. So a much greater appreciation over a shorter period of 
time would have been necessary to have significant impact on trade 
deficits and surpluses.
    Second, many other things were occurring at this time in addition 
to the change in currency values. The U.S. economy was in the midst of 
its real estate bubble and China's exports were being subsidized in a 
number of ways in addition to currency undervaluation. So these factors 
acted to compensate for the effect of the currency revaluation.
What Is the Appropriate Appreciation for the RMB at This Point?
    The question is appropriate for whom. For China, a slow gradual 
appreciation of 4-5 percent a year is advantageous. For the United 
States a revaluation of 15 percent annually over 2 to 3 years would be 
helpful.
What Are the Options?
    A negotiated deal between the G-20 countries for a wide reaching 
set of currency adjustments would be the most preferable solution. 
Indeed, ultimately, it is the necessary solution. Ideally, such a 
solution would not only adjust currencies but would also begin a 
process of creating a new global financial framework in which the role 
of the dollar would be reduced and that of other currencies increased 
and in which eventually there would evolve one global currency. To 
drive toward this goal, it might be necessary for the United States to 
invoke the clauses of the WTO and to take necessary measures to offset 
the damage being done to its economy.
    To more thoroughly address the question of whether or not China is 
manipulating its currency, the answer is, of course, that it is doing 
so by intervening constantly in currency markets to maintain the 
nominal value of the Renminbi (RMB) at a fixed rate to the dollar. Such 
action does not make China unique. A number of other countries (Saudi 
Arabia for example) also peg their currencies to the dollar and also 
intervene from time to time in currency markets to maintain those pegs, 
and their actions do not attract much attention.
    What makes the China case such an important issue is the same 
factor that made Japan's currency policies so contentious in the 1980s. 
The currency manipulation is only one aspect of an economic development 
strategy that emphasizes export led growth. Countries that pursue this 
strategy attempt to achieve the economies of scale beyond those arising 
from supplying their domestic markets by expanding production capacity 
to supply foreign markets as well. The strategy typically entails 
strong incentives and even compulsory measures to assure high savings 
rates, high rates of investment in so-called ``strategic, export 
industries'' (typically steel, machinery, electronics, aerospace, 
chemicals, textiles, and autos), a variety of subsidies for exports, 
currencies that are kept undervalued in order to provide an indirect 
subsidy to exports, and various constraints on imports and foreign 
participation in domestic markets. The objective of these strategies is 
not only to achieve strong exports, but also to realize continuous 
current account surpluses and to accumulate large dollar reserve 
holdings. These policies typically result in huge global imbalances and 
are essentially ``beggar thy neighbor'' in their impact on other 
countries. It is important to understand that it is this latter element 
that leads to discontent, international friction, and demands for a 
response. Commentators often discuss the trade deficits and attribute 
trade frictions to the size and chronic nature of such trade deficits. 
But the truth is that we have trade deficits with countries (like the 
oil producers) with whom we have no trade frictions. It is not the 
deficits, per se, that are the problem. Rather it is market distortions 
and predatory displacement of industries that arise in strategic trade 
situations that give rise to dissatisfaction and complaints. And this 
would be true even if we had trade surpluses with China and other 
strategic trading countries. The issue is not imbalances. Rather, it is 
strategic trade or what some might call mercantilism.
    A large majority of analysts and commentators agree that China has 
long been pursuing strategic trade and globalization policies and that 
part of this has been and is an effort to keep the RMB undervalued as a 
subsidy to exports. It is further agreed that this currency 
undervaluation has proved economically beneficial to China's export 
industries while also proving harmful to the economies of a number of 
other countries including that of the United States. Our trade balance, 
our international debt, the continuing erosion or our industrial 
output--these are all important economic issues that can be in some way 
at least partially linked to China's currency manipulation and its 
broader strategic export and development strategies. Interestingly, the 
Japanese example indicates that these policies are eventually likely to 
be harmful to China as well. . China is still a developing country, and 
needs to cultivate domestic demand and promote sustainable growth. The 
continued policy of an artificially devalued yuan is not in China's 
best interests. Greater exchange rate flexibility will help reinforce a 
shift in the composition of growth, and allow them to weather 
fluctuations in global supply and demand.
    The problem, however, is far bigger than China's currency, and 
let's be clear that China is not the only one in this game. Many of the 
East Asian countries are managing their currencies to facilitate their 
export competitiveness into the U.S. market. But currency is just the 
tip of the iceberg. We've all been engaging in a huge charade. We in 
the United States have been acting on the basis of the presumption that 
in a world of globalization, with a majority of countries being IMF and 
WTO members, that all countries are playing the same globalization 
game. And that it is a game of win-win free trade. This has never been 
true and is increasingly less true. In fact, the world is divided--some 
important countries (the U.S., the U.K., a few others) are more or less 
free traders, but many other countries are neo-mercantilists pursuing 
export-led growth strategies guided by elaborate industrial policies. 
We've seen this movie before. We've seen Japan pioneer the export-led 
growth strategy, followed by the Asian Tigers, and now we're seeing the 
last tiger, or perhaps the first dragon, perfecting the model. A model, 
it should be noted, that is not unique to Asia. Indeed, we see Germany 
pursuing accumulation of chronic trade current account surpluses and 
insisting that it can never buy more of the products of its partners in 
the EU.
    That this is being discussed now is due in large part to the 
semiannual Treasury report due this April 15th on the exchange rate 
policies of foreign countries. What complicates the issue is the fact 
that the report necessitates a presidential action fraught with 
considerations far beyond the narrow sphere of currency devaluation. 
Moreover, the report is structured such that it puts the United States 
in an accusatory position, labeling China as being unfair. Not 
surprisingly, the possibility of such an accusation by the United 
States leads Chinese leaders not to want to appear to be submitting to 
U.S. pressure, even if the U.S. position is on the issue is correct.
    On the other hand, a large majority of economists and informed 
observers agree that China is manipulating its currency, intervening in 
currency markets, accumulating huge reserve surpluses, and harmfully 
distorting markets, including its own. If the President doesn't declare 
China to be doing what everyone knows it is doing, he will lose face 
and appear weak. It will look like he is being dishonest, and kowtowing 
to China. When we consider some scenarios that may emerge, the picture 
does not improve. For instance, there has been much talk of late that 
China will soon allow some small degree of revaluation. While that may 
appear to be a mutually beneficial outcome that would save faces all 
around, the truth is that a nominal revaluation is not a solution to 
the problem. Only a major revaluation over a relatively short period 
can have the necessary impact. If China were to make a token move--say, 
three or four percent--that is not a gesture we should view as 
significant. Though small enough to prevent the Chinese leadership from 
losing face at home, yet appear to us as though they are capitulating 
to our concerns, such a minor change will have no significant impact. 
It is not enough for the Chinese to make token gestures in order to 
appease us diplomatically--real change must be accomplished. We cannot 
fall into the trap of being satisfied with occasional nominal 
adjustments.
    Rather than making this a bilateral issue, it is clearly preferable 
that some multilaterally negotiated arrangement be achieved, perhaps in 
the G-20 or in the WTO or even in the IMF. Another option is 
negotiating with China in a multilateral context, such as the G-20 or 
the WTO. But if that can't be achieved in some reasonable period of 
time, countries, including the United States, will be obliged to defend 
their interests in whatever way they deem appropriate, unilaterally or 
as a coalition of concerned countries. A difficulty is that the global 
institutions and many of their key underlying concepts such as most 
favored nation and national treatment are not cognizant of the present 
structural realities and not adequate to deal with the problems of a 
world that is half neo-mercantilist/strategic trade and half free 
trade. How laughable is it that countries put enormous effort into the 
WTO to lower tariffs while ignoring exchange rates which can easily 
move by a magnitude greater than the value of the tariffs the WTO 
system has reduced, or that the IMF can discuss currency values and 
exchange rates without reference to trade and investment? Yet they do. 
We should recognize and use this opportunity to begin establishing 21st 
century institutions for the 21st century. The first step is to 
recognize the realities.
    While the WTO has instituted rules about national treatment and 
most-favored nation status, application varies by country. Although we 
have created a trade regime that works in theory, we need to be 
addressing not just trade but the issues that are inextricably linked 
to it, including exchange rates. What we need is not the trade regime 
we've developed, but a globalization regime. Can we really have deep 
economic integration between authoritarian, strategically guided 
economies and democratic/laissez faire economies? This is one example 
of the dichotomy between mythology and reality. While China's currency 
is part of the bigger problem and must be honestly dealt with, by 
itself it won't solve the problems we face unless we deal with the 
other aspects of the issue as well. Investment incentives (capital 
grants, tax holidays), antitrust policies or lack thereof, industrial 
targeting policies, structures of distribution and so forth. We have a 
WTO, but what we really need is a world globalization organization.
    Negotiations similar to those of the Plaza Agreement of 1985 should 
be launched immediately to coordinate a substantial (40 to 50 percent) 
revaluation of a number of managed Asian currencies versus the dollar 
and the euro over the next 2 to 3 years. This would also have to entail 
an agreement to halt strategic currency management activities. A second 
longer term objective of the deal would be a reversal of savings and 
consumption patterns in the United States and Asia. Once the current 
recession is behind us, Washington would promise to balance the Federal 
budget over the business cycle and to reform poorly targeted 
consumption incentives like the tax deductibility of interest on home 
equity loans, while key Asian and oil producing countries and Germany 
would undertake to increase domestic consumption. China could upgrade 
its social safety net, and a true liberalization of Japan's housing and 
consumer credit markets might do wonders. The oil countries also need 
to improve social safety nets and greatly upgrade their infrastructure.
    After this initial deal, the IMF or a new body representing the 
major currencies (dollar, euro, yen, and yuan) must continue to 
coordinate policy and manage appropriate currency adjustment. Its 
mission must be to push the global system toward balance. To this end 
it should effect a transition to a more stable global currency system. 
One possible option would be a basket of currencies. Indeed, the IMF's 
Special Drawing Rights (SDRs) already represent a currency basket and 
an exchange of dollars for SDRs (China has actually suggested something 
like this recently) might be used as a device to get away from 
excessive reliance on the dollar. Regardless of how it is done, the end 
result must be a system that makes neomercantilist currency management 
and U.S. abuse of the privilege of printing the dominant currency 
impossible.
    If starting such discussions proves difficult, the United States in 
concert with other affected countries could initiate unfair trade 
actions under their domestic laws and also under the antisubsidy and 
nullification and impairment provisions of the WTO. It could also 
formally call for official consultations by the IMF with certain of its 
members regarding their currency management practices. This, of course, 
would be strong medicine, but it would surely stimulate discussion, and 
it is all perfectly legal and in keeping with both the rules and spirit 
of open, rules based trade.
    Over the longer term, the currently prevailing half-free trade, 
half-mercantilist system of globalization must be replaced by the 
establishment of a one economy-one system regime. To do this the WTO 
will have to be completely revamped with new standards, rules, and 
authority. Most Favored Nation and National Treatment standards are no 
longer sufficient. There must be just one kind of WTO Treatment in all 
economies. Global rules must be created to break up and regulate 
cartels. Distribution and marketing channels must be equivalently open 
in all markets not only de jure but de facto. It must be possible to 
appeal on such issues not just to national courts but to objective 
international dispute settlement bodies. Sovereign investment funds and 
state controlled enterprises must be subject to international scrutiny 
and to transparency and rules that assure they are operating completely 
outside the political realm. Likewise, tax holidays, capital grants, 
and other financial incentives used to bribe global corporations with 
regard to location of plants, labs, and headquarters must be subject to 
common WTO and IMF discipline. Nor should the WTO and other 
international bodies wait for complaints to address these issues. 
Rather, they should maintain continuous monitoring of real market 
developments and apply discipline wherever and whenever necessary.
    Again, it may be difficult to obtain agreement on negotiating such 
rules. Therefore, the United States and other interested countries 
should not hesitate to file WTO and IMF complaints and take the actions 
allowed by international law against measures and policies that distort 
globalization. Financial investment incentives targeted to particular 
industries and companies can be attacked under the antisubsidy rules 
while toleration of cartels and favored positions for state related 
enterprises can be attacked under the nullification and impairment 
rules. Again, the U.S. authorities should not wait for complaints. 
Because of their greater sensitivity to authoritarian regimes than to 
democracies, global corporations will hesitate to bring complaints for 
fear of retaliation from authoritarian neo-mercantilist regimes. 
Therefore, U.S. and other affected officials should monitor conditions 
proactively and self-initiate appropriate actions. Again, these are 
sure to stimulate negotiations.
    Of course, if negotiations are not possible, then we will be forced 
to defend our own interests as best we can unilaterally.

Attachment 1
                    TIME TO COOL CHINA, U.S. TEMPERS
                Business Times, Saturday, March 20, 2010

A failure may result in another economic recession, and perhaps even a 
new cold war, from which no side would be able to decouple.
                By Leon Hadar, Washington Correspondent

    Members of a bipartisan coalition of U.S. lawmakers are accusing 
the Chinese of a plot to manipulate the value of its currency in order 
to boost its exports and make American imports harder to sell in China.
    And the lawmakers have introduced legislation that would force the 
U.S. Treasury to impose stiff penalties against China and other 
countries that are engaged in such unfair currency manipulation.
    In the House of Representatives 130 members of the House of 
Representatives signed a letter protesting China's manipulation of its 
currency while in the Senate, a group of 14 Democrats and Republicans 
are pressing the Obama administration to act against the Chinese.
    The senators, led by liberal Democrat Charles Schumer from New York 
and conservative Republican Lindsey Graham from South Carolina, are 
arguing that past U.S. administrations, worried about the rising 
economic power of China, had refrained from identifying Beijing as a 
`currency manipulator' which would then have required Washington to 
impose duties on Chinese imports. But with unemployment rate remaining 
high and as the U.S. trade deficit with China--its second largest 
trading partner--keeps growing, American lawmakers are responding to 
public anger by blaming China for using its currency to gain a trade 
advantage.
    The senators want to ensure that the U.S. Treasury's semi-annual 
report on foreign exchange rate practices that is scheduled to be 
released next month will, indeed, label China as a `currency 
manipulator' and force the Administration to come up with `remedial' 
legislation that would supposedly compel China to revalue its currency.
    Their Bill--`Currency Exchange Rate Oversight Act'--was introduced 
following a war of words between the U.S. and China in recent days over 
the allegedly misaligned Chinese currency, the yuan, as well as other 
policy issues, including the meeting between President Barack Obama and 
the Dalai Lama at the White House, the U.S. decision to sell arms to 
Taiwan as well as complaints from American companies about Chinese 
trade practices and Sino-American disagreements over climate change.
    And while the American economy has just started recovering from a 
painful recession and is showing some growth, the World Bank this week 
has upped its forecast for China's 2010 GDP growth to 9.5 percent after 
it grew at 8.7 percent last year.
    American lawmakers say that some of this impressive export driven 
economic growth has been achieved in part through Chinese currency 
manipulation.
    The Chinese policies amount to `cheating', according to Democratic 
Senator Debbie Stabenow which represents Michigan, a State whose 
manufacturing sector, including a struggling car industry, has been 
devastated by the Great Recession and where the official unemployment 
rate is around 15 percent (and among African-Americans, close to 50 
percent).
    She and her colleagues are complaining that the Chinese government 
is essentially subsidising its exports by keeping its currency value 
low and want Washington to stop talking and to finally walk the walk. 
The Obama administration needs to pull `the trigger on (currency) 
manipulation,' explains Mr. Graham, whose own State of South Carolina 
has been experiencing an unemployment rate of more than 13 percent.
    He told reporters that ``we're all living in fear of what China 
might do'' since ``we borrow way too much money from them,'' adding 
that ``we need to break that fear and do what's right.''
    China has approximately U.S.$2.4 trillion of accumulated foreign 
reserves which explains why many economists believe that the yuan is 
undervalued as a result of a calculated policy pursued by China's 
financial authorities. They buy U.S. dollars and sell their own yuan, a 
policy that helps to keep the greenback's exchange rate fixed to their 
own currency. The result is a distortion of trade flows--cheap Chinese 
exports to the U.S. continue while imports from the U.S. into China 
remain expensive.
    But since the Chinese do not allow their currency to float freely, 
the same economists also disagree over the degree to which the Chinese 
undervalue their currency. Economists also differ in estimating the 
extent to which the appreciation of the Chinese currency will lead to 
the narrowing of the U.S. trade deficit with China. After all, reducing 
that deficit seems to be the main rationale for the proposed 
legislation on Capitol Hill.
    In fact, according to the Cato Institute's trade analyst Dan 
Ikenson, from 2005 to 2008, at a time when the yuan was appreciating 
against the U.S. dollar, the U.S. trade deficit with China actually 
increased from U.S.$202 billion to U.S.$268 billion. Thus, the think 
tank's analyst suggests, the level of the U.S. deficit is determined by 
many factors other than just the value of the Chinese currency.
    For example, Mr. Ikenson points out that the yuan was growing 
stronger between 2005 and 2008, U.S. imports from China increased by 
U.S.$94.3 billion, or 38.7 per cent. He suggests that one reason for 
continued U.S. consumption of Chinese goods despite the relative price 
increase may have been the shortage of or even the lack of substitutes 
for Chinese-made goods in the U.S. market.
    Moreover, only somewhere one-third and one-half of the value of 
U.S. imports from China is actually Chinese value-added, with the other 
half to two-thirds reflecting costs of material, labour and inputs from 
other countries.
    Hence, a stronger yuan actually makes imported inputs cheaper for 
Chinese producers, who may respond by reducing their prices for export, 
which means that the currency appreciation may lead to a rise--not a 
reduction--of American imports from China.
    Unfortunately, much of this economic common sense is probably not 
going to counter the political pressure from Congress on the 
Administration to `do something' that is fuelled, in turn, by America's 
economic distress and the ensuing populism that makes China such an 
easy target.
    A key Chinese official responded to this pressure from Congress by 
saying that his government has become a convenient scapegoat for 
America's trade problems. But this official needs to recognise that 
that kind of behaviour is a mirror image of sort of the way that some 
members of the Chinese communist establishment have been exploiting 
anti-American nationalist sentiment as part of a strategy to mobilise 
public support for the regime in Beijing.
    In a way, scapegoating the `other' seemed to have become the 
favourite political weapon by both Americans and the Chinese.
    The problem is that the back and forth sniping between Washington 
and Beijing over China's currency policy is more than just a `normal' 
economic dispute between two countries that has been exploited by 
politicians on both sides.
    Indeed, the global financial imbalances between the U.S. 
(consumption that created deficits) and China (savings that produce 
surpluses) helped create the conditions for the financial melt-down.
    And unless the two sides take steps to deal with these imbalances, 
the global financial system could experience more disasters in the 
future.
    From that perspective, China's massive trade and foreign exchange 
surpluses--reflecting the huge surpluses of exports over imports and 
saving over investment--should be seen not so much as a challenge to 
American economic interests but as a threat to the entire global 
economy, and eventually to China itself.
    The Americans need to cut their consumption and borrowing. But that 
could only take place if the U.S. dollars in China's government-
controlled banks are being spent to buy American products as opposed to 
its debts. And if and when that happens, the appreciation of the 
Chinese currency would be inevitable.
    In the meantime, a Chinese refusal to revalue its currency is bound 
to bring about retaliatory action by Washington and ignite a 
destructive economic war between the two nations.
    And the situation is only going to be aggravated if China continues 
to respond in a somewhat frantic way to not-very-unusual actions by the 
Obama administration (meetings with the Dalai Lama or arms sales to 
Taiwan).
    If anything, China's rising economic and diplomatic power require 
it to embrace a more nuanced, if not refined, diplomacy that one 
expects from a great power, especially when it is dealing with the more 
accommodating Administration in Washington.
    More important, there is no reason why China and the U.S. should 
not be able to settle their differences over currency in the same 
amicable way that the U.S. and Japan were able to during the 1980s.
    A failure to do that would be a recipe for another economic 
recession and perhaps even a new cold war from which no side would be 
able to decouple.

Copyright 2010 Singapore Press Holdings Ltd. All rights reserved.
                                 ______
                                 
                  PREPARED STATEMENT OF NICHOLAS LARDY
  Anthony Solomon Senior Fellow, Peterson Institute for International 
                               Economics
                             April 22, 2010

    China and the United States each contributed massively to the large 
global economic imbalances that emerged in the middle of the last 
decade. China was far and away the largest global surplus country by 
the middle of the decade. Its current account surplus reached an 
astonishing 11.0 percent of GOP in 2007 and for the 4 years from 2005 
through 2008 China accounted for about a fifth of the total global 
surplus. China's emergence as a large surplus country reflects the rise 
of domestic savings relative to investment over this period.
    The United States was far and away the world's largest deficit 
country in recent years, hitting a peak of 6 percent of GOP in 2006. 
For the same 4-year period the United States accounted for almost 60 
percent of the total global deficit. These very large U.S. deficits 
reflected our low national savings relative to our national investment.
    The imbalances in both countries contributed to the global 
financial crisis, though lax financial regulation in the United States 
was undoubtedly a more important underlying cause.
    But this situation has changed significantly over the past 2 to 3 
years. The external imbalances of both the United States and China have 
declined dramatically. From its 2007 peak China's current account fell 
by almost half to 6.1 percent of GOP in 2009 and in the first quarter 
of this year was running at an annual rate of only 1 percent of GDP. 
Similarly, the pace of official intervention, which prevents the value 
of the renminbi from appreciating, fell by three-fifths in the first 
quarter of this year compared to last year. The U.S. current account 
imbalance also has fallen sharply; the deficit fell to only 2.9 percent 
of GOP last year, about half the level of 2006.
    Given these developments it may appear that the renewed focus by 
the U.S. Congress on China's currency and its external imbalance is 
misplaced. In China the Ministry of Commerce now argues that the 
collapse of China's trade surplus shows that its currency is no longer 
undervalued and thus appreciation is not warranted. However, I believe 
that this conclusion is not well founded since the decline in China's 
external surplus in large part was caused by three factors that are 
likely to be transitory or already have been reversed.
    First, China was the first globally significant economy to begin to 
recover from the global recession. China's growth bottomed out in the 
fourth quarter of 2008 and then accelerated very strongly starting in 
the first quarter of 2009. Thus China's recovery predates that of the 
United States, its largest trading partner, by half a year and predates 
European recovery by an even longer period. China's early growth 
resurgence compared to the rest of the world boosted its imports 
relative to its exports, cutting the external surplus. But this factor 
will wane if the U.S. recovery gains traction and Europe begins to 
recover.
    Second, China's terms of trade have deteriorated dramatically over 
the past year, reflecting a sharp rise in commodity prices. Since China 
is the world's largest importer of a number of key commodities, sharply 
rising prices for these goods have added substantially to China's 
import bill, thus reducing its external surplus. This is unlikely to 
continue to be such a major factor going forward.
    Third, the renminbi appreciated 15-20 percent in real effective 
terms from late 2007 through the first quarter of 2009. This was a 
major factor contributing to the sharp reduction in China's surplus in 
2008 and 2009. But since the first quarter of 2009 the renminbi has 
depreciated in real effective terms by about 5 percent. This factor is 
likely to contribute to a rise in China's surplus, probably beginning 
in the second half of 2010.
    Thus I disagree with those who argue that China's currency is no 
longer undervalued. It seems more likely that China's external surplus 
will turn upward and that China's contribution to global economic 
imbalances should continue to be a focus of U.S. policy.
    However, the extraordinarily sharp and unexpected reduction in 
China's current account surplus over the past year surely suggests that 
there is substantial uncertainty surrounding most estimates of the 
degree of renminbi undervaluation. Moreover, we should recognize that 
the virtual disappearance of China's trade surplus, even if only 
temporary, means that within China it will be politically difficult for 
the government to quickly resume a policy of appreciation vis-a-vis the 
U.S. dollar. It also means that if this policy is adopted we are likely 
to see a slow pace of appreciation, at least until the global recovery 
strengthens and China's external surplus widens significantly.
    Furthermore, even if the degree of undervaluation of the RMB is 
very large, a rapid appreciation of the renminbi is not optimal from 
the Chinese perspective and probably not from the U.S. perspective 
either. With about fifty million people employed in China's export-
oriented manufacturing, the Chinese government will eschew rapid 
appreciation since that would result in a sharp fall in the output of 
these industries and eliminate many of these jobs. Their optimal 
strategy will be a gradual appreciation that would eliminate the growth 
of China's trade surplus and thus tend to stabilize the output and 
employment of these industries. In 2008, when my colleague Morris 
Goldstein and I believed the renminbi was very substantially 
undervalued, we argued the optimal time frame for eliminating currency 
undervaluation would be 4 to 6 years. \1\ Our colleague, Michael Mussa, 
points out that a very rapid elimination of China's currency 
undervaluation would not be desirable from the perspective of the 
United States since it would likely ``disrupt China's economic growth 
in ways and to an extent that could not plausibly be offset by other 
policy adjustments.'' \2\ A rapid deceleration in the growth of the 
world's second largest economy is not likely to enhance global economic 
recovery, nor would it likely contribute to the recovery of employment 
in the United States. Indeed, the opposite is more likely.
---------------------------------------------------------------------------
     \1\ Morris Goldstein and Nicholas R Lardy, ``China's Exchange Rate 
Policy: An Overview of Some Key Issues'', in Morris Goldstein and 
Nicholas R. Lardy, editors, Debating China's Exchange Rate Policy 
(Peterson Institute for International Economics, 2008), pp. 54-55.
     \2\ Michael Mussa, ``Global Economic Prospects for 2010 and 2011: 
Global Recovery Continues'', April 8, 2010. Available at http://
www.petersoninstitute.org.
---------------------------------------------------------------------------
    Ultimately reducing imbalances, whether in the United States or 
China, requires structural reforms that reduce the gap between national 
rates of savings and investment. The exchange rate is an important 
factor that can contribute to this process. But without supporting 
reform policies in both countries, the results of exchange rate 
adjustment alone are likely to be disappointing.
    In China, some progress has been made over the last couple of years 
to advance this broader rebalancing agenda. This progress is spelled 
out in greater detail in the attached Policy Brief, which was 
distributed by the Peterson Institute in March. The government has 
taken steps to reduce some of the factor market distortions that have 
artificially subsidized the production of export goods and goods that 
compete with imports and at the same time have inhibited the output of 
services, which are largely consumed at home. In 2009 the government 
raised the prices of some important inputs, notably fuels, which are 
predominantly consumed in the industrial sector. This reduced the bias 
of investment toward manufacturing, contributing to a larger increase 
in investment in services than in industry in 2009. This is a reversal 
from the pattern that had dominated Chinese investment for many years. 
Similarly the government continued to accelerate its build out of the 
social safety net by massively increasing expenditures on health, 
education, and pensions. This should contribute to a reduction in 
households' precautionary demand for savings and thus a reduction in 
China's large savings surplus. Finally, bank lending to consumers grew 
dramatically last year, facilitating a remarkable increase in household 
consumption expenditures.
    In addition to allowing its currency to appreciate, the Chinese 
government should adopt a number of other policy reforms to insure a 
sustained reduction in its global current account surplus and a 
successful transition to more consumption-driven growth. Low interest 
rates on bank loans continue to favor manufacturing (tradable goods) 
over services and thus contribute to China's external surplus. To 
address this problem China's central bank should end its policy of 
imposing a broad range of deposit and lending rates in favor of 
allowing supply and demand in the market to determine interest rates. 
Further price reforms would also contribute to sustaining the reduction 
in China's global current account surplus. For example, while the 
government last year raised the prices of gasoline and diesel fuel, 
electric power remains underpriced, continuing to provide an advantage 
to China's exports. And, after years of discussion, the government 
should introduce realistic environmental taxes and fees, which would 
help to level the playing field between industrial growth and exports 
versus services and consumption.

















                 PREPARED STATEMENT OF CHARLES H. BLUM
              Executive Director, Fair Currency Coalition
                             April 22, 2010

    On behalf of the members of the Fair Currency Coalition (FCC), \1\ 
I thank the Subcommittee for this opportunity to testify on what action 
the United States can and should take to remedy the persistent problem 
of currency undervaluation by China and other countries. The FCC and 
its antecedents have worked on this problem continuously for 7 years. 
In 2003-4, we developed a well researched and argued petition filed 
under Section 301 of the Trade Act of 1974 that was summarily rejected 
by the last Administration.
---------------------------------------------------------------------------
     \1\ See, Attachment 1 for the FCC's list of members.
---------------------------------------------------------------------------
    Only then did we turn to a legislative solution, developing and 
refining the legislation currently known as the Currency Reform for 
Fair Trade Act, introduced by Senators Stabenow and Bunning in the 
Senate (S. 1027) and by Reps. Tim Ryan and Tim Murphy in the House 
(H.R. 2378). \2\ We will continue to work on this problem until it has 
been resolved on an effective and lasting basis.
---------------------------------------------------------------------------
     \2\ As of April 20, 2010, S. 1027 has eight cosponsors, and H.R. 
2378 has 102 cosponsors.
---------------------------------------------------------------------------
A Remedy Delayed Is a Remedy Denied
    Currency misalignment is not a new problem, nor is it limited to 
the Chinese renminbi (RMB). On the contrary, it is a perennial problem 
for reasons that we will address in this testimony and one that 
continues to grow in severity.
    Consider the data contained in Attachment 2. They show that over 
the 10 years since China's accession to the World Trade Organization 
(WTO), the U.S. trade deficit with China has mushroomed, as have 
China's global trade surplus and its stockpile of official foreign 
exchange reserves. At the same time, U.S. manufacturing employment has 
plummeted by one-third.
    We do not suggest that the undervalued RMB is the sole cause of the 
loss of American manufacturing jobs, though the two clearly are 
related. Our point is simply that the long delay in our response to 
this persistent problem has allowed it to grow to the detriment of 
American workers and industries. Moreover, what would have been a more 
easily managed problem--had we acted on the Section 301 complaint in 
2004, the first version of our legislation in 2005, the improved 
version in 2007, or even the latest version introduced last year--has 
become an enormous problem.
    A remedy delayed is a remedy denied. The longer it is denied, the 
greater the injustice. History suggests that the currency problem will 
become even larger and harder to manage in the future unless we act 
now.
    Let's look at the options for near-term solutions.
Multilateral Rules Provide No Solution to Currency Misalignment
    For understandable reasons, many would prefer to find a solution in 
the multilateral rules and institutions that are supposed to provide a 
framework for settling monetary disputes among nations. Indeed, 
repeated attempts have been made to address the problem through these 
channels. By now it should be clear that existing multilateral rules 
and institutions are woefully inadequate to deal with the problem of 
currency misalignment per se. The problem lies not in the degree of 
effort by our government but rather in the weakness and imprecision of 
the rules themselves and the excessive length of multilateral dispute 
resolution processes.
    Consider the following the sorry performance of the International 
Monetary Fund:

    International Monetary Fund Article IV--the most relevant 
        international law on exchange rate practices--obligates members 
        to ``avoid manipulating exchange rates or the international 
        monetary system in order to prevent effective balance of 
        payments adjustment or to gain an unfair competitive advantage 
        over other members.'' \3\ The overriding aim of Article IV is 
        ``sound economic growth'' and the correction of imbalances that 
        threaten it.
---------------------------------------------------------------------------
     \3\ IMF, Article IV, Section (1).

    As part of its exchange rate surveillance mandate, the IMF 
        holds annual consultations with each of its members under 
        Article IV. Repeatedly, the IMF has in careful, diplomatic 
        language suggested that China should revalue the renminbi. Such 
        moral suasion is the only tool the IMF has, and it has never 
        been enough to persuade China to end its mercantilist currency 
        policy. Indeed, China has taken the extraordinary step of 
        blocking the release of the IMF's reports for 2007, 2008 and 
---------------------------------------------------------------------------
        2009, presumably because it does not like the conclusions.

    The weakness of its rules and the lack of any credible 
        enforcement power makes the IMF useless for all practical 
        purposes in addressing the problem of currency misalignment.

    Consider next the problem of addressing currency misalignment 
through the rules of the World Trade Organization:

    Article XV provides that WTO members ``shall not, by 
        exchange action, frustrate the intent of the provisions of this 
        Agreement nor, by trade action, the intent of the provisions of 
        the Articles of Agreement of the International Monetary Fund.'' 
        \4\
---------------------------------------------------------------------------
     \4\ General Agreement on Tariffs and Trade, Article XV, Section 4.

    Such broad language might conceivably form the basis for 
        action under WTO rules. A legal argument clearly exists that 
        undervalued misalignment of a currency constitutes an export 
        subsidy, a practice prohibited on manufactured goods by GATT 
        Article VI. In addition, it can be argued that undervaluation 
        constitutes a de facto additional levy on imports, nullifying 
        and impairing the tariff bindings under GATT Article II. 
        Indeed, such allegations were among those made by the 
        Coalition's Section 301 complaint in 2004, and we continue to 
---------------------------------------------------------------------------
        believe that they have legal and economic merit.

    While there is little question that an undervalued currency 
        has those deleterious effects on key elements of the basic 
        trade contract among WTO members, it is far less clear what 
        action the WTO might take in response to a complaint brought by 
        the United States or a group of countries.

    Novel issues pose substantial problems for the WTO's ad hoc 
        dispute settlement panels and the standing Appellate Body. 
        Panelists are drawn from the trade policy establishment around 
        the world. Their knowledge and experience vary, of course, but 
        few of them have any grounding in monetary affairs. As a 
        consequence, it is difficult to anticipate how they would 
        analyze, much less resolve, disputes centering on IMF standards 
        and concepts.

    Most importantly, the WTO arguably lacks a clear mandate to 
        deal with these issues on its own. Instead, GATT Article XV, 
        paragraph 2 requires the WTO to ``consult fully with the 
        International Monetary Fund'' in cases dealing with ``monetary 
        reserves, balances of payments or foreign exchange 
        arrangements.'' Worse yet, the WTO is obligated by that same 
        paragraph of Article XV to ``accept the determination of the 
        Fund as to whether action by a contracting party in exchange 
        matters is in accordance with the Articles of Agreement of the 
        International Monetary Fund.''

    Thus, the WTO must rely on the impotent IMF to decide the 
        issue, that same IMF that can't even find a way to convince the 
        Chinese to agree to the release of three annual consultation 
        reports that have no legal or practical consequences.

    In addition, the filing of a case by the U.S. government 
        under the WTO has other potential pitfalls. First, as the 
        plaintiff in the case, the burden of proof would be on the 
        United States to prove that action on currency manipulation 
        falls within the ambit of WTO rules. Thus, the United States 
        would be forced to meet a higher evidentiary threshold than the 
        defending country, likely China. Second, the adjudication and 
        remedy implementation process of WTO appellate panels is 
        painfully slow. Not only is the outcome difficult to predict, 
        it will take years to render and implement any decision--time 
        American producers facing subsidized import competition do not 
        have.

    This brief analysis helps explain why chances of any timely 
solution arising from the existing rules on currency manipulation or 
misalignment are for all practical purposes zero.
Multilateral Rules Cannot Be Upgraded in the Foreseeable Future
    Others have proposed that the solution lies in updating the 
existing multilateral rules to render them relevant to the realities of 
this century rather than the last. The most direct approach is that 
proposed by Arvind Subramanian of the Peterson Institute for 
International Economics and Aaditya Mattoo of the World Bank. They 
suggest that WTO rules be amended so as to prohibit currency 
undervaluation. They choose the WTO over the IMF because undervaluation 
has clear trade effects and because the IMF has no enforcement powers, 
especially when it comes to large creditor nations--just the ones who 
might benefit most from an undervalued currency.
    Theoretically, this concept seems direct and sensible. As a 
practical matter, however, there is little chance whatsoever that the 
WTO could be amended this way and no chance at all that it could be 
done expeditiously.
    For the foreseeable future, we are stuck with the multilateral 
rules as they are in dealing with this urgent and still growing 
problem.
Trade Remedies Are the Only Effective Tool for Addressing Currency 
        Misalignment
    Thus, by a process of elimination, we come to national trade laws 
as the only basis for effective legal action to counter currency 
misalignment. The FCC has long believed that the most effective, 
readily available tool is the countervailing duty law, the means 
authorized by WTO rules for any member to neutralize injurious 
subsidies.
    Under U.S. law and the WTO rules, there are three requirements for 
a determination of subsidy: (1) a financial contribution by or at the 
direction of the foreign government that (2) confers a benefit upon the 
recipient and that (3) is not generally available. In the case of 
undervalued currencies, the government-established rate--price fixing 
on a broad scale--forces banks to pay to the seller of an 
internationally traded good or service extra units of the home currency 
compared to the fair market value of the currency. The extra units of 
currency constitute the benefit. That benefit creates an incentive to 
export. Currency undervaluation thus seems to be a classic example of 
an export subsidy. Under GATT rules, export subsidies have been 
prohibited since the 1940s because they are inherently distortive of 
trade flows. Implementing the multilateral rules through the U.S. 
countervailing duty law thus seems to be a reasonable reliance on 
established international law.
    In our opinion, the Department of Commerce already has the 
authority to investigate currency subsidies. \5\ Determining it to be 
an export subsidy would seem to comport well with established Commerce 
practice and U.S. law. Until now, the Department has not agreed, 
although its position seems to have shifted at least once. That 
suggests that the Department would benefit from passage of legislation 
that clarified the status of currency subsidies under the 
countervailing duty law by distinguishing actionable from nonactionable 
forms. The Department would also benefit from clarity regarding the 
method of calculating the subsidy, the source of data to be used in 
that calculation, and other procedural matters.
---------------------------------------------------------------------------
     \5\ This opinion is shared by the 130 members of the House of 
Representatives who signed a letter to Commerce Secretary Gary Locke 
and Treasury Secretary Timothy Geithner dated March 15, 2010. Fifteen 
members of the Senate wrote to Secretary Locke on February 26, 2010, 
arguing that Commerce had sufficient authority under existing law to 
initiate a full investigation of alleged currency subsidies. Both 
document are available at http://www.faircurrency.org.
---------------------------------------------------------------------------
    The clear expression of Congressional intent would facilitate the 
application of existing law to a new area of economic activity, reduce 
the scope for controversy, strengthen the hand of the government in the 
litigation that inevitably will follow, and provide helpful guidance to 
trade practitioners--importers, exporters and foreign governments--
about the rules that will govern their trade.
    Recently, another significant legislative proposal emerged in the 
Senate, the Currency Exchange Rate Oversight Act of 2010 (S. 3134). The 
chairman of this subcommittee and Senator Graham are among the 18 
cosponsors. The bill seeks to update the Treasury Department's 
oversight of foreign government currency practices. An important part 
of the bill is the attempt to provide Treasury with credible 
negotiating leverage by authorizing the use of trade law remedies in 
response to currency undervaluation. The FCC welcomes this legislation. 
We have concerns about some of the current provisions, especially as 
they relate to countervailing duty remedies, and are working with the 
chief cosponsors, Senators Schumer and Stabenow, to strengthen them as 
much as possible. We do so in the firm belief that countervailing 
duties are the best available remedy to currency undervaluation.
Responsible Use of Trade Remedies Is Not Protectionism But Supports 
        Free Trade
    In closing, let me deal with the standard argument that any use of 
our trade laws is inherently protectionist. No less a free trader than 
Ronald Reagan explained his trade policy in a radio address to the 
Nation in the summer of 1986. Coincidentally, he did so shortly after 
the Plaza Accord led to a substantial realignment of major currencies.
    Reagan made three points: first, trade must be reciprocal--``Free 
and far trade with free and fair traders'' was his motto; second, trade 
must be based on a respect for the rules; and third, trade policy must 
produce results.
    Reciprocity. Respect for rules. Results. Those are three 
touchstones that should continue to guide U.S. trade and currency 
policy.
    As Martin Wolf wrote recently in the Financial Times, ``The U.S. 
was right to give talking a chance. But talk must lead to action.'' 
Legislation is the right thing to do. It is the only thing we can do. 
It is the one thing we must do. It's high time for the Congress to act 
by passing S. 1027.





                PREPARED STATEMENT OF DANIEL J. IKENSON
  Associate Director, Center for Trade Policy Studies, Cato Institute
                             April 22, 2010

    Chairman Brown, Ranking Member DeMint, and Members of the 
Subcommittee, I am Daniel Ikenson, associate director of the Center for 
Trade Policy Studies at the Cato Institute. I appreciate the invitation 
to share my thoughts about the Chinese currency, its relationship to 
the bilateral trade deficit, the impact on U.S. jobs, and what, if 
anything, Congress should consider doing. The views I express are my 
own and should not be construed as representing any official positions 
of the Cato Institute.
Introduction
    Many economists believe that the Renminbi is undervalued, but there 
is disagreement about the magnitude. Disagreement is to be expected. 
After all, nobody can know the true value of the RMB unless, and until, 
it is allowed to float freely and restrictions on China's capital 
account are removed. \1\ Short of that, economists produce estimates of 
undervaluation--and those estimates vary widely. So that begs a 
practical question: How will we know when we are there?
---------------------------------------------------------------------------
     \1\ To float its currency and let markets determine the value, 
China would have to remove restrictions on its capital account, so that 
investment can flow in and out of the country freely. If China did 
this, it is not entirely clear that the value of the RMB would 
appreciate. It is possible that there would be more capital flight than 
inflow, as domestic savings are able to pursue investment options 
outside of China. This capital flight would have a depreciating effect 
on the value of the RMB.
---------------------------------------------------------------------------
    That question is important because Congress is once again 
considering legislation to compel the Chinese government to allow RMB 
appreciation under the threat of sanction. Regardless of whether 
sanctions take the form of an across-the-board surcharge or are the 
product of a countervailing duty investigation or are manifest in 
exchange rate conversions in antidumping calculations, a precise 
estimate of the market value of the Renminbi would have to serve as the 
benchmark. But respected economists from reputable institutions have 
produced a range of undervaluation of approximately 10 to 40 percent. 
So what should be the benchmark?
    Of course the sanctions approach is fraught with dangers. Not only 
would it amount to a tax on U.S. producers and consumers--felt 
particularly acutely by lower- and middle-income families--but it could 
spark retaliation from China and run afoul of U.S. World Trade 
Organization obligations at a time when the Obama administration is 
planning to hold our trade partners more accountable to their own WTO 
commitments, as part of its National Export Initiative.
    Many in Washington blame the undervalued Renminbi for the trade 
deficit with China, and blame the deficit for U.S. job losses. But 
those relationships are weak. Before doing something unnecessary or 
counterproductive, Congress should consider whether, and to what 
extent, RMB appreciation would even lead to more balanced bilateral 
trade. Recent evidence casts plenty of doubt.
Laser-like Focus on the Trade Deficit
    For many in Washington, it seems the issue is not that the Chinese 
currency is undervalued per se, but that the United States has a large 
bilateral trade deficit with China, which is popularly attributed to 
the undervalued RMB. \2\ Currency revaluation for many policymakers is 
just a proxy for reducing the trade deficit to zero--or better still, 
turning it into a surplus. There should be little doubt that many will 
take the position that the RMB is undervalued as long as U.S. imports 
from China exceed U.S. exports to China.
---------------------------------------------------------------------------
     \2\ Of course, there are many other important determinants of the 
trade account besides relative currency values.
---------------------------------------------------------------------------
    Leaving aside the question of whether bilateral deficit reduction 
should even be an explicit objective of policymaking in the first 
place, there is reason to be skeptical that currency revaluation would 
have the ``desired'' effect. It is assumed that Americans will reduce 
their purchases of Chinese products and that the Chinese will increase 
their purchases of American products if the value of the RMB increases 
against the dollar. But whether those trends would work to reduce the 
U.S. deficit with China depends on the extent to which consumers in 
both countries are responsive to the relative price changes.
    What matters for the trade account is how much Americans reduce 
their purchases of Chinese goods and how much the Chinese increase 
their purchases of U.S. goods. Import value equals price times 
quantity, so if the percent increase in price (appreciation of the RMB) 
exceeds the percent reduction in quantity of imports consumed (in 
absolute value), then import value will increase. For example, if the 
RMB appreciates by 25 percent and U.S. consumers reduce consumption of 
Chinese imports by only 10 percent, then the value of U.S. imports from 
China will be greater than before (adding to the trade deficit). The 
same 25 percent increase in RMB value, however, should lead to an 
unequivocal increase in U.S. exports to China because the dollar price 
charged (the price used to measure U.S. exports) remains the same, 
while the quantity sold to China increases because Chinese consumers, 
by virtue of RMB appreciation, face lower relative prices, and demand 
more goods. Thus, RMB appreciation should unambiguously increase U.S. 
export value, reducing the trade deficit. But its effect on U.S. import 
value is ambiguous.
    Whether the aggregate change in U.S. import and export value 
results in a lower trade deficit depends on the relative responsiveness 
(price elasticity) of American and Chinese consumers to the price 
changes they face. If U.S. consumers are responsive (they reduce the 
quantity of their purchases by a percentage greater than the price 
increase), then the trade deficit will decline, regardless of the 
degree of Chinese responsiveness. If U.S. consumers are not responsive 
(they reduce the quantity of their purchases by a smaller percentage 
than the price increase), then import value will rise and Chinese 
consumers would have to increase their purchases of American goods by a 
large enough percentage to offset the increased U.S. import value, if 
the U.S. trade deficit is to be reduced. \3\
---------------------------------------------------------------------------
     \3\ There is also an ``income effect'' from the change in currency 
values. When the dollar declines in value, U.S. consumers experience a 
decline in real income, which affects their consumption choices. Even 
though Chinese imports might be relatively more expensive than they 
were before the currency rise, they may still be less expensive than 
the alternatives. Accordingly, U.S. consumers with lower real incomes 
might be inclined to purchase more Chinese imports.
---------------------------------------------------------------------------
Weak Link Between Currency Values and Trade Flows
    Recent evidence suggests that RMB appreciation will not reduce the 
U.S. trade deficit and undermines the common political argument for 
compelling China to revalue. Between July 2005 and July 2008, the RMB 
appreciated by 21 percent against the dollar--from a value of $.1208 to 
$.1464. \4\ During that same period (between the full year 2005 and the 
full year 2008), the U.S. trade deficit with China increased from $202 
to $268 billion.
---------------------------------------------------------------------------
     \4\ Federal Reserve Board, Federal Reserve Statistical Release 
G5.A, Foreign Exchange Rates (Annual), release dates January 4, 2010 
and January 2, 2009. Since July 2008, the value of the Yuan against the 
dollar has not changed measurably.
---------------------------------------------------------------------------
    U.S. exports to China increased by $28.4 billion, or 69.3 percent. 
But how much of that increase had to do with RMB appreciation is very 
much debatable. The nearby chart shows that U.S. exports to China were 
already on an upward trajectory, increasing by $3 billion in 2001, $3 
billion in 2002, $6.2 billion in 2003, and $6.1 billion in 2004, when 
the exchange rate was consistently at 8.28 RMB per dollar. Natural 
sales growth from the confluence of market penetration and cultivation 
of Chinese demand was already evident.



    In 2005--the first year in which there was a slight RMB 
appreciation--the value of exports increased by $6.8 billion. Exports 
jumped another $12.5 billion in 2006, a year in which the RMB 
appreciated by 2.8 percent. But in 2007, despite an even stronger 4.7 
percent RMB appreciation, the increase in exports was only $9.3 
billion. And in 2008, the RMB appreciated by a substantial 9.5 percent, 
but the increase in exports fell to $6.8 billion. If currency value 
were a strong determinant, then export growth should have been much 
more robust than it was in 2007 and, especially, in 2008. Other 
factors, such as Chinese incomes and Chinese savings propensities, must 
have mitigated the lower relative price effects.
    On the import side, recent experience is even more troubling for 
those who seek deficit reduction through currency revaluation. The 
evidence that an appreciating RMB deters the U.S. consumption of 
Chinese goods is not very compelling. During the period of a 
strengthening RMB from 2005 to 2008, U.S. imports from China increased 
by $94.3 billion, or 38.7 percent. Not only did Americans demonstrate 
strong price inelasticity, but they actually increased their purchases 
of Chinese imports. One reason for continued U.S. consumption of 
Chinese goods despite the relative price increase is that there may be 
a shortage of substitutes in the U.S. market for Chinese-made goods. In 
some cases, there are no domestically produced alternatives. \5\ 
Accordingly, U.S. consumers are faced with the choice of purchasing 
higher-priced items from China or foregoing consumption of the item 
altogether.
---------------------------------------------------------------------------
     \5\ The dearth of substitutes is probably a function of retailers 
not wanting to incur the costs of having to reconfigure their supply 
chains. If the cost of reconfiguring and sourcing products from other 
countries is similar to the cost of maintaining Chinese suppliers with 
their exchange-induced higher prices, then retailers may be more likely 
to stick with the status quo and pass on their higher costs to 
consumers.
---------------------------------------------------------------------------
    It is doubtful that members of Congress, who support action to 
compel Chinese currency appreciation, would proudly announce to their 
constituents that they intentionally reduced their real incomes. But 
that is the effect of relative dollar depreciation.
Globalization Mutes the Effect of Currency Changes
    Something else is evident about the relationship from those 2005 to 
2008 data. The fact that a 21 percent increase in the value of the RMB 
was met with a 38.7 percent increase in import value means that the 
quantity of Chinese imports demanded after the price change increased 
by nearly 15 percent. \6\ Higher prices being met with greater demand 
would seem to defy the law of demand.
---------------------------------------------------------------------------
     \6\ Assume that the price of imports is $1 and the quantity 
demanded is one unit. The import value is then $1. If a 15.2 percent 
increase in price leads to a 38.7 percent increase in value, then 
quantity must increase by 20.4 percent because: (1.152 x price) x 
(1.204 x quantity) = 138.7.
---------------------------------------------------------------------------
    Chinese exporters must have lowered their RMB-denominated prices to 
keep their export prices steady. That would have been a completely 
rational response, enabled by the fact that RMB appreciation reduces 
the cost of production for Chinese exporters--particularly those who 
rely on imported raw materials and components. According to a growing 
body of research, somewhere between one-third and one-half of the value 
of U.S. imports from China is actually Chinese value-added. \7\ The 
other half to two-thirds reflects costs of material, labor, and 
overhead from other countries. China's value-added operations still 
tend to be low-value manufacturing and assembly operations, thus most 
of the final value of Chinese exports was first imported into China.
---------------------------------------------------------------------------
     \7\ Robert Koopman, Zhi Wang, and Shang-Jin Wei, ``How Much of 
Chinese Exports Is Really Made in China? Assessing Foreign and Domestic 
Value-Added in Gross Exports'', U.S. International Trade Commission, 
Office of Economics, Working Paper no. 2008-03-B, March 2008.
---------------------------------------------------------------------------
    RMB appreciation not only bolsters the buying power of Chinese 
consumers, but it makes China-based producers and assemblers even more 
competitive because the relative prices of their imported inputs fall, 
reducing their costs of production. That reduction in cost can be 
passed on to foreign consumers in the form of lower export prices, 
which could mitigate entirely the effect desired by Congress, which is 
to reduce U.S. imports from China. That process might very well explain 
what happened between 2005 and 2008, and is probably a reasonable 
indication of what to expect going forward.
    A 2006 Cato paper on the topic of exchange rates and trade flows 
found that despite considerable dollar depreciation between 2002 and 
2005 against the Canadian dollar, the Euro, the Japanese yen, the 
Korean won, and the Brazilian real, the U.S. trade deficit expanded 
during that period with Canada, Europe, Japan, Korea, and Brazil. \8\ 
Factors other than currency movements, such as income and the 
availability of substitutes, influence trade flows, particularly when 
exporters are willing to absorb the costs of those currency changes.
---------------------------------------------------------------------------
     \8\ Daniel J. Ikenson, ``Currency Controversy: Surplus of 
Controversy, Deficit of Leadership'', Cato Free Trade Bulletin no. 21, 
May 31, 2006.
---------------------------------------------------------------------------
    In a recently published paper from the U.S. International Trade 
Commission, economist Cathy L. Jabara observes a weak relationship 
between exchange rates and U.S. import prices, particularly with 
respect to imports from Asia. Exchange rate pass-through is quite low 
because exporters often ``price to market'' to absorb costs and 
maintain market share. She notes that the economic literature supports 
her findings of low exchange rate pass-through, particularly for 
consumer goods. Ironically, she also notes that economist Paul Krugman, 
who is among the most outspoken advocates of U.S. intervention on the 
currency issue, was one of the first to explore and describe the 
potential for exchange-rate pass-through to mitigate the impacts on 
trade flows. \9\
---------------------------------------------------------------------------
     \9\ Cathy L. Jabara, ``How Do Exchange Rates Affect Import Prices? 
Recent Economic Literature and Data Analysis'', U.S. International 
Trade Commission, Office of Industries Working Paper no. ID-21 
(revised), October 2009.
---------------------------------------------------------------------------
Economic Benefits
    Although it may be fashionable to think of China as the country to 
which the U.S. manufacturing sector was offshored in exchange for 
tainted products and a mountain of mortgage debt, the fact is that the 
bilateral relationship has produced enormous benefits for people in 
both countries, including most Americans. China is America's third-
largest export market, and has been our fastest-growing market for a 
decade, providing 20.2 percent annual sales growth for U.S. businesses 
between 2000 and 2008, when overall annual export growth to all 
countries stood at just 6.8 percent. \10\
---------------------------------------------------------------------------
     \10\ U.S. Department of Commerce, Bureau of the Census, Foreign 
Trade Statistics, http://www.census.gov/foreign-trade/balance/
c5700.html#2009. China was the fastest-growing market among America's 
top 25 largest export markets between 2000 and 2008. In 2009, overall 
U.S. exports declined 12.9 percent, but exports to China held steady, 
declining by just 0.23 percent.
---------------------------------------------------------------------------
    American businesses, portfolio investors, and 401(k) participants 
also have benefited handsomely from China's high rate of sustained 
economic growth. Likewise, American consumers have benefited from their 
access to Chinese goods. Imports from China have helped keep prices in 
check, raising real incomes and easing the strain on family budgets.
    What is perhaps less well known--because they are often portrayed 
as victims--is that large numbers of American producers and workers 
benefit from the bilateral relationship, as well. This is the case 
because the U.S. economy and the Chinese economy are highly 
complementary. U.S. factories and workers are more likely to be 
collaborating with Chinese factories and workers in production of the 
same goods than they are to be competing directly. The proliferation of 
vertical integration (whereby the production process is carved up and 
each function performed where it is most efficient to perform that 
function) and transnational supply chains has joined higher-value-added 
U.S. manufacturing, design, and R&D activities with lower-value 
manufacturing and assembly operations in China. The old factory floor 
has broken through its walls and now spans oceans and borders.
    Though the focus is typically on American workers who are displaced 
by competition from China, legions of American workers and their 
factories, offices, and laboratories would be idled without access to 
complementary Chinese workers in Chinese factories. Without access to 
lower-cost labor in places like Shenzhen, countless ideas hatched in 
U.S. laboratories--which became viable commercial products that support 
hundreds of thousands of jobs in engineering, design, marketing, 
logistics, retailing, finance, accounting, and manufacturing--might 
never have made it beyond conception because the costs of production 
would have been deemed prohibitive for mass consumption. Just imagine 
if all of the components in the Apple iPod had to be manufactured and 
assembled in the United States. Instead of $150 per unit, the cost of 
production might be multiple times that amount. \11\
---------------------------------------------------------------------------
     \11\ Production of Apple iPod's is the quintessential example of 
the benefits of transnational production and supply chains. The degree 
of international collaboration embedded in the value of an iPod has 
been described in a few other Cato publications, including: Daniel 
Ikenson, ``Made on Earth: How Global Economic Integration Renders Trade 
Policy Obsolete,'' Cato Trade Policy Analysis no. 42, December 2, 2009.
---------------------------------------------------------------------------
    Consider how many fewer iPods Apple would have sold; how many fewer 
jobs iPod production, distribution, and sales would have supported; how 
much lower Apple's profits (and those of the entities in its supply 
chains) would have been; how much lower Apple's research and 
development expenditures would have been; how much smaller the markets 
for music and video downloads, car accessories, jogging accessories, 
and docking stations would be; how many fewer jobs those industries 
would support; and the lower profits those industries would generate. 
Now multiply that process by the hundreds of other similarly ubiquitous 
devices and gadgets: computers, Blu-Ray devices, and every other 
product that is designed in the United States and assembled in China 
from components made in the United States and elsewhere.
    The Atlantic's James Fallows characterizes the complementarity of 
U.S. and Chinese production sharing as following the shape of a 
``Smiley Curve'' plotted on a chart where the production process from 
start to finish is measured along the horizontal axis and the value of 
each stage of production is measured on the vertical axis. U.S. value-
added comes at the early stages--in branding, product conception, 
engineering, and design. Chinese value-added operations occupy the 
middle stages--some engineering, some manufacturing and assembly, 
primarily. And more U.S. value-added occurs at the end stages in 
logistics, retailing, and after-market servicing. \12\ Under this 
typical production arrangement, collaboration, not competition, is what 
links U.S. and Chinese workers.
---------------------------------------------------------------------------
     \12\ James Fallows, ``China Makes, the World Takes'', Atlantic, 
July/August 2007, http://www.theatlantic.com/doc/200707/shenzhen.
---------------------------------------------------------------------------
Economic Frictions
    Despite the enormous benefits of the bilateral relationship, 
Americans are more likely to be familiar with the sources of friction. 
Americans have heard that underhanded Chinese policies have had a 
deleterious impact on U.S. manufacturing. They have been told that 
China manipulates its currency to secure an unfair trade advantage; 
``illegally'' dumps and sells government-subsidized products in U.S. 
markets; maintains policies that discriminate against imports and favor 
domestic industries; steals American intellectual property; treats its 
workers poorly; degrades the environment; sells us tainted products; 
and even caused the U.S. financial crisis by lending America too much 
money. \13\
---------------------------------------------------------------------------
     \13\ It is particularly ironic to hear this last accusation from 
spendthrift members of Congress who overlook the fact that their own 
profligacy is what brought China to the U.S. debt markets in the first 
place.
---------------------------------------------------------------------------
    There is some truth in some of those claims. But there is also a 
good deal of exaggeration, misinformation, and hypocrisy in them. Some 
ring hollow because the U.S. government--usually at the behest of the 
same interests clamoring for action against China--commits the same 
sins.

Manufacturing the Myth of Decline \14\
    Nefarious  Chinese trade practices are often blamed for the decline 
of U.S. manufacturing. But the first problem with that presumption of 
causation is that U.S. manufacturing is simply not in decline. Until 
the onset of the recent recession (when virtually every sector in the 
economy contracted), U.S. manufacturing was setting new performance 
records year after year in all relevant statistical categories: 
profits, revenues, investment returns, output, value-added, exports, 
imports, and others. In absolute terms, the value of U.S. manufacturing 
has been growing continuously, with brief hiccups experienced during 
recessions over the past several decades. As a percentage of our total 
economy, the value of manufacturing peaked in 1953 and has been 
declining since, but that is the product of rapid growth in the 
services sectors and not--as evidenced by its absolute growth--an 
indication of manufacturing decline.
---------------------------------------------------------------------------
     \14\ For more comprehensive treatments refuting the myth of 
manufacturing decline in the United States, see, Daniel Ikenson, 
``Thriving in a Global Economy: The Truth About Manufacturing and 
Trade'', Cato Trade Policy Analysis no. 35, August 28, 2007; Daniel 
Ikenson and Scott Lincicome, ``Audaciously Hopeful: How President Obama 
Can Help Restore the Pro-Trade Consensus'', Cato Trade Policy Analysis 
no. 39, April 28, 2009, pp. 12-16; and Daniel Griswold, ``Trading Up: 
How Expanding Trade Has Delivered Better Jobs and Higher Living 
Standards for American Workers'', Cato Trade Policy Analysis no. 36, 
October 25, 2007.
---------------------------------------------------------------------------
    The preponderance of Chinese and other imported goods on retail 
store shelves may give the impression that America does not make 
anything anymore. But the fact is that American factories make lots of 
things--in particular, high-value products that are less likely to be 
found in retail stores--like airplanes, advanced medical devices, 
sophisticated machinery, chemicals, pharmaceuticals, and biotechnology 
products. American factories are, in fact, the world's most prolific, 
accounting for 21.4 percent of global manufacturing value-added in 
2008, while China accounted for 13.4 percent. \15\ The main reason for 
continued American industrial preeminence is that the U.S. 
manufacturing sector has continued its transition away from labor-
intensive industries toward higher value-added production.
---------------------------------------------------------------------------
     \15\ United Nations Industrial Development Organization, 
``National Accounts Main Aggregates Database, Value Added by Economic 
Activity'', (2008 data are the most recent available), http://
unstats.un.org/unsd/snaama/resQuery.asp.
---------------------------------------------------------------------------
    Regardless of manufacturing's operating performance, the metric 
that matters most politically is the number of jobs in the sector. That 
figure reached a zenith of 19.4 million jobs in 1979 and has been 
trending downward along roughly the same trajectory ever since. China's 
entry into the WTO and the subsequent increase in bilateral trade did 
nothing to accelerate the decline. Manufacturing job loss has very 
little to do with trade and a lot to do with changes in technology that 
lead to productivity gains and changes in consumer tastes. China has 
also experienced a decline in manufacturing jobs. In fact, many more 
jobs have been lost in Chinese manufacturing and for the same reasons--
productivity gains. According to a 2004 study published by the 
Conference Board, China lost 15 million manufacturing jobs between 1995 
and 2002, a period during which 2 million U.S. manufacturing jobs were 
lost. \16\
---------------------------------------------------------------------------
     \16\ Yuan Jiang, Yaodong Liu, Robert H. McGuckin, III, Matthew 
Spiegelman, and Jianyi Xu, ``China's Experience With Productivity and 
Jobs'', Conference Board Report Number R-1352-04-RR, June 2004, http://
www.conference-board.org/publications/describe.cfm?id=809.
---------------------------------------------------------------------------
    Policymakers in Washington have been citing a figure from the 
Economic Policy Institute that attributes 2.4 million manufacturing job 
losses between 2001 and 2008 to the bilateral trade deficit with China. 
But that figure approximates job gains from export value and job losses 
from import value, as though there were a straight line correlation 
between the figures. And it assumes that imports do not create or 
support U.S. jobs. But U.S. producers--purchasing raw materials, 
components and capital equipment--account for more than half of the 
value of U.S. imports annually, according to the U.S. Bureau of 
Economic Analysis. Those imports support U.S. jobs in a wide range of 
industries.
    Furthermore, according to the results from a growing field of 
research, only a fraction of the value of U.S. imports from China 
represents the cost of Chinese labor, materials and overhead. Most of 
the value of those imports comes from components and raw materials 
produced in other countries, including the U.S.
    In a 2006 paper, Stanford University economist Lawrence Lau found 
that Chinese value-added accounted for about 37 percent of the total 
value of U.S. imports from China. \17\ In 2008, using a different 
methodology, U.S. International Trade Commission economist Robert 
Koopman, along with economists Zhi Wang and Shang-jin Wei, found the 
figure to be closer to 50 percent. \18\ In other words, despite all the 
hand-wringing about the value of imports from China, one-half to nearly 
two thirds of that value is not even Chinese. Instead, it reflects the 
efforts of workers and capital in other countries, including the U.S. 
In overstating Chinese value by 100-200 percent, the official U.S. 
import statistics are a poor proxy for job loss.
---------------------------------------------------------------------------
     \17\ Lawrence J. Lau, et al., ``Estimates of U.S.-China Trade 
Balances in Terms of Domestic Value-Added'', working paper no. 295 
(Palo Alto, CA: Stanford University, October 2006; updated November 
2006).
     \18\ Robert Koopman, Zhi Wang, and Shang-jin Wei, ``How Much of 
Chinese Exports Is Really Made in China? Assessing Foreign and Domestic 
Value-Added in Gross Exports'', U.S. International Trade Commission, 
Office of Economics, working paper no. 2008-03-B, March 2008.
---------------------------------------------------------------------------
    The fact that China surpassed Germany to become the world's largest 
exporter last year--a milestone that prompted a string of ``end-of-
Western-civilization'' newspaper commentaries--says less about Chinese 
economic might than it does about the extent of global economic 
integration. The global division of labor enabled by intricate 
transnational production and supply chains still assigns to China 
primarily lower-value production and assembly operations. \19\ That 
alone speaks to the complementary nature of the U.S. and Chinese 
economies, underscores the meaninglessness of bilateral trade 
accounting, and magnifies the absurdity of predicating policy on the 
goal of reducing a bilateral trade deficit.
---------------------------------------------------------------------------
     \19\ For a more comprehensive treatment of this topic, see, Daniel 
Ikenson, ``Made on Earth: How Global Economic Integration Renders Trade 
Policy Obsolete'', Cato Trade Policy Analysis no. 42, December 12, 
2009.
---------------------------------------------------------------------------
    Despite occasional fireworks, both governments have mutual interest 
in harmonious economic relations. Our economies are extremely 
interdependent. U.S. economic performance will continue to be a 
determinant of Chinese economic performance--and vice versa--and 
barring destructive policies, the pie should continue to grow larger. 
Much more can be done to cultivate our areas of agreement using carrots 
before seriously considering the use of sticks.
Less Provocative Alternatives
    Another reason the Chinese government worries about RMB 
appreciation is that Chinese investors owns about $800 billion of U.S. 
debt. A 25 percent appreciation in the RMB would reduce the value of 
those holdings to approximately $640 billion. That's a high price for 
China to pay, especially in light of the fact that U.S. inflation is 
expected to rise in the coming years, which will further deflate the 
value of those holdings (and ease the burden of repayment on U.S. 
taxpayers). Likewise, mass dumping of U.S. government debt by Chinese 
investors--the much ballyhooed ``leverage'' that China allegedly holds 
over U.S. policy--would precipitate a decline in the dollar as well, 
which also would depress the value of Chinese holdings. The assertion 
that China holds U.S. debt as a favor to America, and would withdraw 
that favor on a whim, is a bit far-fetched.
    China, it seems, is guilty of a failure to heed the first law of 
investment: it failed to diversity its portfolio adequately. The 
overwhelming investment focus on U.S. public debt has left China 
exposed to heavy losses from dollar inflation and RMB appreciation. The 
fact that the inflation rate is in the hands of U.S. policymakers makes 
China even more reluctant to allow large-scale or, at least, 
precipitous, RMB appreciation.
    As of the close of 2008, Chinese direct investment in the United 
States stood at just $1.2 billion--a mere rounding error at about 0.05 
percent of the $2.3 trillion in total foreign direct investment in the 
United States. That figure comes nowhere close to the amount of U.S. 
direct investment held by foreigners in other big economies. U.S. 
direct investment in 2008 held in the United Kingdom was $454 billion; 
$260 billion in Japan; $259 billion in the Netherlands; $221 billion in 
Canada; $211 billion in Germany; $64 billion in Australia; $16 billion 
in South Korea; and even $1.7 billion in Russia. \20\
---------------------------------------------------------------------------
     \20\ Bureau of Economic Analysis, ``Foreign Direct Investment in 
the United States: Selected Items by Detailed Industry of U.S. 
Affiliate'', 2004-2008, http://www.bea.gov/international/xls/
LongIndustry.xls.
---------------------------------------------------------------------------
    If it is desirable that China recycle some of its estimated $2.4 
trillion in accumulated foreign reserves, U.S. policy (and the policy 
of other governments) should be more welcoming of Chinese investment in 
the private sector. Indeed, some of China's past efforts to take equity 
positions or purchase U.S. companies or buy assets or land to build new 
production facilities have been viewed skeptically by U.S. 
policymakers--and scuttled--ostensibly over ill-defined security 
concerns.
    A large inflow of investment from China would have a similar impact 
as a large increase in U.S. exports to China on the value of both 
countries' currencies, and on the level of China's foreign reserves. In 
light of China's large reserves and its need and desire to diversify, 
America's need for investment in the real economy, and the objective of 
creating jobs and achieving sustained economic growth, U.S. policy 
should be clarified so that the benchmarks and hurdles facing Chinese 
investors are better understood. Lowering those hurdles would encourage 
greater Chinese investment in the U.S. economy and a deepening of our 
mutual economic interests.
    To reduce bilateral tensions and foster greater cooperation from 
China with respect to market access, intellectual property theft, and 
other legitimate U.S. concerns, the United States should offer to 
reform its punitive trade remedies practices toward China. Ending the 
practice of treating China as a nonmarket economy in antidumping cases 
would probably do more to improve bilateral economic relations than 
just about any other possible reform.
    China has made no secret of its desire to be designated a market 
economy. In essence, China's NME status is an asset to U.S. 
policymakers--but a rapidly depreciating one. In accordance with the 
terms of its WTO accession, China's economy cannot be treated as an NME 
after 2016, so U.S. policy will have to change in 6 years anyway. If 
U.S. policymakers want anything of value from China in exchange for 
designating it a market economy, that designation has to come soon. The 
longer this inevitable reform is delayed, the less valuable it becomes.
    Short of graduating China to market economy status, U.S. 
policymakers could reduce bilateral tensions by addressing another 
systemic, methodological problem that results in Chinese exporters 
being penalized twice for the same alleged infraction. Since the 
Commerce Department resumed applying the countervailing duty law to 
nonmarket economies in 2007 (after a 22-year moratorium), it has failed 
to account for the problem of ``double-counting'' in cases where 
imports are subject to both the antidumping and countervailing duty 
laws.
    Under NME methodology, a Chinese exporter's U.S. prices are 
compared to a surrogate value based on costs in a third country, such 
as India. Any difference between the U.S. price and that surrogate 
accounts for both the dumping and subsidy margin because the surrogate 
represents a nondumped, nonsubsidized price. However, U.S. practice has 
been to treat that difference as reflecting only the margin of dumping, 
while calculating an additional margin to reflect the subsidy only. 
Both the dumping margin (which already reflects the amount of the 
subsidy) and the subsidy margin are applied as duties on Chinese 
imports, resulting in a double counting of the countervailing duty.
Some Hypocrisy in U.S. Allegations
    Claims are numerous that China maintains discriminatory policies 
that impede imports and foreign companies. Indeed, some of those claims 
have been substantiated and remedied. Others have only been 
substantiated. And still many more have been merely alleged.
    The United States maintains formal and informal channels of 
communication with the Chinese government through the Strategic and 
Economic Dialogue, the Joint Commission on Commerce and Trade, and 
other venues, through which sources of economic and trade friction are 
discussed and often defused. On eight occasions, the United States 
decided that bilateral process alone was insufficient, and lodged 
official complaints with the WTO Dispute Settlement Body about various 
Chinese practices. Outcomes in two of the cases are still pending, but 
six of the eight cases produced satisfactory outcomes from the 
perspective of the U.S. government: either China agreed during 
consultations to change its rules or practices, or a dispute panel 
affirmed most of the U.S. complaints and issued opinions requesting 
that China bring its practices into conformity with the relevant WTO 
agreements.
    It is difficult to find merit in the suggestion that U.S. trade 
policy toward China should change tack and become more unilateralist or 
provocative, when the WTO dispute settlement system has worked well as 
a venue for resolving U.S. complaints. The United States has brought 19 
cases against Europe in the WTO, but there is not much talk about 
adopting a more strident trade policy toward the EU.
    The fact is that China has made substantial progress since 
beginning its reforms to join the WTO. Nevertheless, some trade 
barriers and subsidy programs still exist or have emerged that, if 
challenged, likely would be found to violate China's various WTO 
commitments. And China should be held accountable to its market 
liberalizing commitments. Still, it is up to the USTR, in conjunction 
with other stakeholders, to evaluate the evidence and weigh the costs 
and benefits before deciding whether and when to lodge official WTO 
complaints.
    One of the costs of bringing cases against Chinese market barriers 
or policies that favor domestic firms would be the exposure of U.S. 
hypocrisy. The U.S. government subsidizes chosen companies and 
industries, too. The past 18 months is littered with examples, such as 
General Motors and Chrysler. Though the U.S. business community is 
concerned about the emergence of technical market barriers in China 
favoring local companies, the U.S. government maintains opaque 
technical barriers in a variety of industries, which hampers and 
precludes access to the U.S. market for foreign food products, in 
particular. Mexican trucks cannot even operate on U.S. highways. There 
is an element of the pot calling the kettle black in U.S. allegations.
    By and large, though, the Office of the U.S. Trade Representative, 
in its December 2009 report to Congress about the implementation of 
China's WTO commitments, strikes the right tone and reassures that the 
economics can and should be shielded from the vicissitudes of politics:

        China has taken many impressive steps over the last 8 years to 
        reform its economy, while implementing a set of sweeping WTO 
        accession commitments that required it to reduce tariff rates, 
        to eliminate nontariff barriers, to provide national treatment 
        and improved market access for goods and services imported from 
        the United States and other WTO members, to protect 
        intellectual property rights, and to improve transparency. 
        Although it still does not appear to be complete in every 
        respect, China's implementation of its WTO commitments has led 
        to increases in U.S. exports to China, while deepening China's 
        integrations into the international trading system and 
        facilitating and strengthening the rule of law and the economic 
        reforms that China began 30 years ago. \21\
---------------------------------------------------------------------------
     \21\ United States Trade Representative, 2009 Report to Congress 
on China's WTO Compliance, December 2009, p. 4.
---------------------------------------------------------------------------
Conclusion
    The world would be better off if the value of China's currency were 
truly market-determined, as it would lead to more optimal resource 
allocations. The impact on the bilateral trade account--meaningless as 
that statistic is in a globalized economy--would be impossible to 
predict. But compelling China to revalue under threat of sanction could 
produce adverse consequences--including reductions in Americans' real 
incomes and damaged relations with China--leaving us all worse off 
without even achieving the underlying policy objectives.
    For now, it would be better to let the storm pass and allow China 
to appreciate its currency at its own pace.
                                 ______
                                 
                 PREPARED STATEMENT OF JACK W. SHILLING
Retired Executive Vice President and Chief Technical Officer, Alleghany 
                     Technologies Incorporated, and
          Chairman, Specialty Steel Industry of North America
                             April 22, 2010

    I am grateful to participate in today's hearing. My conviction, 
based upon my previous experience--most recently as Executive Vice 
President, Corporate Development and Chief Technical Officer of 
Allegheny Technologies Incorporated and as Chairman of the Specialty 
Steel Industry of North America--is that it is vitally important for 
job creation, the overall economy and national security that the United 
States strengthen and expand its manufacturing base. An integral part 
of this effort must be an international system of exchange rates that 
reflect market fundamentals and that adjust as those fundamentals 
fluctuate.

I. To What Extent Is China's Currency Misaligned?
    For the past 16 years, China has engaged in the protectionist 
policy of currency depreciation by effectively pegging the renminbi 
(RMB) to the U.S. dollar, and other countries have compounded this 
problem by undervaluing their currencies in an attempt to remain 
competitive with China.
    There is a broad consensus that the RMB is substantially 
undervalued. The Peterson Institute estimates that the renminbi remains 
misaligned by about 25 percent on an overall, real-effective-exchange-
rate basis and by about 40 percent relative to the U.S. dollar on a 
bilateral, real-exchange-rate basis. This 40-percent undervaluation 
vis-a-vis the U.S. dollar is as large today as it was 6 years ago 
before a modest revaluation and nominal appreciation of the RMB by 
China between July 2005 and July 2008. China's intervention in the 
exchange markets is now approximately $30-$40 billion per month, and 
China's foreign reserves are estimated to be at least $2.4 trillion and 
possibly as much as $3 trillion. \1\ These numbers are staggering and 
contribute to a huge, artificial and competitive advantage for China in 
various ways.
---------------------------------------------------------------------------
     \1\ See, Fair Currency Coalition, ``Fact of the Week--China's 
Record Reserves'', (Jan. 26, 2010), available at, www.faircurrency.org.
---------------------------------------------------------------------------
II. What Effect Does the RMB's Undervalued Misalignment Have on the 
        Trade Deficit and U.S. Employment?
A. Background
    The U.S. manufacturing base has been eroding for a long time, while 
manufacturing capability in China has been increasing dramatically over 
the same time period. This shift has been well documented by others. 
The large and growing trade imbalance with China is one confirmation of 
this situation.
    Loss of our domestic manufacturing base presents serious economic 
and national security problems as documented recently in the 
President's Framework for Revitalizing American Manufacturing. These 
problems include a significant loss of more highly compensated 
employment opportunities for our citizens. There are many factors 
affecting the competitiveness of U.S. manufacturers that are far more 
important than labor rates, which are often cited incorrectly as the 
reason for this loss of competitiveness.
    One of the most important and most easily understood factors 
undermining U.S. competitiveness is the impact of exchange rates, and 
particularly the actions of the Chinese government to prevent the RMB 
from appreciating relative to the U.S. dollar. In order to understand 
the importance of exchange rates to competitiveness and, therefore, to 
the U.S. trade imbalance with China and loss of American jobs, it is 
helpful to understand how products are generally sold and then to apply 
that knowledge to both imports and exports in various market segments. 
Some examples are provided below.
B. How Products Are Sold
    The following factors come into play when a decision is made by a 
supplier and a customer to enter into a purchasing agreement: (1) price 
and its impact on profit margin; (2) availability; (3) supply chain 
management issues; (4) quality; (5) product capability; (6) short-and 
long-term customer-supplier relationships; and (7) strategic 
considerations. All other things being equal, price becomes the 
dominant issue where exchange rates have a direct and obvious impact. 
However, in order to understand a specific purchasing decision, it is 
often necessary to consider some or all of the other factors just 
mentioned.
C. Imports From China Into the United States
    A 40 percent undervalued RMB has a dramatic impact on imports. When 
a product made in China is sold in the United States, the invoice is 
paid in dollars and then converted to RMB in China to pay the Chinese 
producer. If the Chinese product is sold for $100 in the United States, 
approximately 683 RMB are provided to the supplier in China under the 
current exchange rate between the RMB and the U.S. dollar. If the costs 
of manufacturing are 500 RMB in China, the Chinese producer's operating 
profit is 183 RMB.
    If, on the other hand, the RMB were allowed to appreciate to market 
rates, 40 percent higher in value, only 409 RMB would be generated in 
China, resulting in an operating loss of 91 RMB. The net result would 
be an unwillingness by the Chinese producer to export that product to 
the United States at the original price of $100, and the Chinese 
producer's export price would rise, making U.S.-origin products more 
competitive.
    Note that the Chinese producer's export price to the United States 
would not necessarily rise by 40 percent. The specific price increase 
would depend upon the degree to which costs could be lowered in China 
and the minimum profit margin that would be acceptable to the Chinese 
producer. The Chinese producer's price increase would also depend on 
some of the other factors mentioned above, such as product availability 
from U.S. domestic suppliers and strategic considerations, including 
the ability of the Chinese supplier to decrease prices over time 
through cost reductions, the Chinese producer's ability to supply other 
products of interest to the U.S. purchaser, and the perceived long-term 
importance of the business to the Chinese supplier and U.S. customer.
    Importantly, a 40 percent revaluation of the RMB could have a 
significant favorable impact on a Chinese producer's costs. A central 
consideration is the benefit the Chinese producer would realize when 
purchasing raw materials or energy in U.S. dollars with a more valuable 
RMB. For instance, over 50 percent of the value of stainless steel is 
in inputs such as nickel, chromium, molybdenum, and natural gas that 
are priced globally based on U.S. dollars. With reference to the 
previous illustration, if 50 percent or 250 RMB of the Chinese 
producer's total costs of 500 RMB were in U.S. dollar commodities, with 
a 40 percent revaluation of the RMB the Chinese producer's costs would 
decrease by 100 RMB to 400 RMB, and the loss of 91 RMB after 
revaluation of the RMB that was postulated above would become a small 
operating profit of 9 RMB. Nevertheless, such a large revaluation would 
still have a substantial, unfavorable effect on profitability even 
after taking such purchasing benefits into consideration.
    To summarize, above all else a long-term, chronic undervaluation of 
the RMB has led and will always lead to the gradual loss of American 
manufacturing competitiveness, particularly when the undervaluation is 
so large. The larger the exchange-rate misalignment, and the longer in 
time that this misalignment is allowed to persist, the more price will 
become the determining factor and allow the Chinese producer time to 
resolve all other issues at least to parity with the U.S. domestic 
producer. In addition, the longer this misalignment is allowed to 
persist, the higher the probability is that U.S. competitors will cease 
to exist when the misalignment is corrected.
D. Exports to China From the United States
    The same logic that applies to imports into the United States from 
China, as discussed above, also applies to exports by the United States 
to China. In this case, the important issue is how many U.S. dollars a 
U.S. producer will receive when the U.S. product is sold in China in 
RMB and the RMB are then converted back into U.S. dollars. If the price 
in RMB doesn't change and the RMB-U.S.$ exchange rate is allowed to 
appreciate by 40 percent, a U.S. producer in the abstract should 
receive an effective price increase of over 60 percent in U.S. dollars. 
\2\
---------------------------------------------------------------------------
     \2\ If the unit price in China remained at 100 RMB for a U.S. 
producer's product, for instance, the U.S. producer would receive only 
U.S.$14.64 at the current exchange rate of 6.83 RMB/U.S.$1, but would 
receive U.S.$24.45 at the revalued exchange rate of 4.09RMB/U.S.$1, an 
increase of 67 percent.
---------------------------------------------------------------------------
    Such a huge revenue increase would be expected to significantly 
improve U.S. competitiveness and result in U.S. producers quoting on 
business in China that otherwise would produce inadequate margins. 
However, it is unlikely that such success would be completely realized. 
One reason relates to cost reductions that would occur for Chinese 
producers associated with dollar-denominated purchases of input 
materials and energy, as discussed above. In addition, it is critically 
important to the Chinese government that China be able to maintain a 
large GDP growth rate. If it is assumed that current prices produce 
acceptable profit margins to Chinese producers, many of whom have 
significant ownership by the Chinese government, it seems very likely 
the Chinese government would intervene in the future in some manner 
other than an undervalued RMB to prevent a significant disruption to 
the ability of Chinese producers to supply their own market. In other 
words, price has not been, nor will it be, the only factor considered 
in purchasing decisions made in China. We can all speculate on how 
China would accomplish this, but it seems highly likely that following 
a significant currency realignment, e.g., by 40 percent, action can and 
would be taken by the Chinese government to protect China's ability to 
continue to grow its own GDP and keep its citizens employed.
    Because of its impact on jobs and national security, it is my 
opinion that the impact of Chinese currency manipulation on imports 
into the United States from China and the resulting inability of U.S. 
domestic manufacturers to supply their own U.S. market is a much larger 
problem than a lost opportunity to export products from the United 
States to China, although both are important.
E. Example 1: Specialty Metals
    1. Titanium Condenser Tubing--This is a high-tech product used for 
seawater cooling in conventional and nuclear power plants. The 
important issues to understand here are (a) this product is critical to 
the functioning of these systems and (b) China has not had the 
capability to supply their own market with acceptable quality product. 
In situations like this, China has been unable to export product and 
depends on imports. Pricing relative to Chinese competition has not 
been a factor, and therefore the exchange rate has not been an issue. 
Orders are frequently quoted in U.S. dollars, and the currency risk 
(although there is none if the exchange rate is pegged) is assumed by 
the purchaser.
    However, as China builds this ability over time (as it is 
attempting to do today), most likely using foreign technology, pricing 
will become a factor for both imports and exports of this product as 
discussed above, and exchange rates will become very important. So, as 
we look to the future, it is very important that we act now to help 
preserve the technology advantage that currently exists with high-tech 
products like titanium condenser tubing produced by U.S. manufacturers.
    2. Grain-Oriented Electrical Steel (GOES)--This steel also is a 
high-tech specialty metal product critical to the efficient 
distribution of electricity in any advanced or emerging economy. 
Electrical power is generated in power plants. In order to use this 
electricity, it must be distributed widely to all sectors of the 
economy. These distribution systems employ many large transformers, and 
GOES is critical to their efficient operation.
    Ten years ago, the story of GOES in China was much the same as the 
titanium condenser tubing story. But over the intervening time period, 
China has added sufficient capacity using foreign technology for the 
most part so that Chinese producers can now supply their own market. 
The Chinese government recently implemented antidumping and 
countervailing duties claiming trade agreement violations by U.S. 
producers of GOES. The U.S. industry feels these decisions are 
unjustified and is considering its options.
    During the last 5 years or so, imports of this product into the 
United States from China have not been significant, because China did 
not have an adequate domestic supply. Exports from U.S. producers to 
China, however, have occurred because of inadequate supply in China. As 
China increased capacity over this time period, exchange rate issues 
became more of a factor. With large import duties now imposed due to 
China's trade cases against the U.S. producers, exchange rate issues 
are of significant importance. If and when these duties are removed, 
exchange rates will remain important to future U.S. exports of GOES to 
China and will be critically important to the ability of U.S. producers 
of GOES to supply their own domestic market assuming increasing imports 
into the United States of Chinese product.
    3. Commodity Stainless Steel Sheet and Strip--This product is 
considered a commodity product, because world-wide competition uses 
very similar technology. Highly productive processes have been 
developed that make labor costs less important relative to other cost 
components such as energy and raw materials. In addition, China has 
built significant capacity over the last 10 years using foreign 
technology. Major suppliers in China are government-owned, and in that 
sense, return-on-investment issues are most likely of lesser importance 
than is true for a normal, free-enterprise company.
    Over the last decade, U.S. producers have been unable to sell 
significant quantities of this commodity product in China, whereas 
China has become one of the largest exporters of stainless steel sheet 
and strip to the United States. See, Attachment 1. If the Chinese 
currency were revalued by 40 percent, one would expect imports of this 
product into the United States to be significantly reduced. However, it 
is unlikely in my opinion that U.S. exports of commodity products to 
China would increase as much for the reasons discussed above. China 
would be expected to intervene in some manner to prevent this from 
happening.
F. Example 2: Consumer Products
    Gas grilles are an instructive example of how the RMB's enforced 
undervaluation affects trade between China and the United States in 
consumer products. Most gas grilles sold in big box stores were 
developed originally in the United States. But now, virtually all of 
these products are made in China and imported into the U.S. market.
    These gas grilles are sold strictly on the basis of price. Were the 
exchange rate allowed to appreciate by 40 percent, it is highly likely 
that imports from China would be reduced over time as U.S. 
manufacturers restored capacity allowing significant production to 
return to the United States. Not only would such a transition benefit 
the U.S. producers of gas grilles, but a significant benefit would 
accrue as well to the U.S. domestic manufacturers of gas grilles' 
component parts and raw materials, such as commodity stainless steel. 
At the same time, it is unlikely that U.S. exports to China would 
increase to nearly the same extent for the reasons discussed above 
along with the fact that significant Chinese capacity now being used 
for the U.S. market would need to be diverted to the Chinese market.
G. Economic Segments
    The charts and tables in Attachment 2 set forth data with respect 
to major segments of products traded between China and the United 
States from 2000 through 2009. During those years China far and away 
exported more products to the United States in these segments than the 
United States exported to China. Further, China's exports to the United 
States have covered a wide diversity of products in terms of technology 
and sophistication and met a broad spectrum of basic needs for the U.S. 
economy. In addition, China's exports to the United States during this 
period generally expanded and grew over time, particularly in the 
segment of computer and electronic products. U.S. exports to China, in 
contrast, have been far less. These overall trends are underscored when 
specific products are analyzed. Considering the discussion above, it 
seems most likely that significant currency realignment would have the 
best chance of improving the trade balance between the U.S. and China 
by reducing imports over time in the following segments: Computer and 
Electronic Products; Apparel and Accessories; Electrical Equipment; 
Appliances and Components; Furniture and Fixtures; and Fabricated Metal 
Products.

III. What Happened When China Allowed the RMB To Appreciate From 2005-
        2008? Why Did the U.S. Trade Deficit Not Narrow During This 
        Time?
    Between July 2005 and July 2008, the Chinese government allowed the 
RMB to appreciate nominally relative to the U.S. dollar by 17.6 
percent, from 8.28 RMB/U.S.$1 to the current rate of 6.82 RMB/U.S.$1. 
During those 3 years, China's foreign reserves rose from $711 billion 
to $1.8 trillion, and the U.S. trade deficit and number of jobs lost 
likewise increased substantially. There are two basic reasons why China 
gained ground and the United States lost ground despite this 
appreciation of the RMB during those 3 years.
    First, the time between July 2005 and July 2008 was one in which 
China's economy was growing rapidly, and China's ability to supply the 
U.S. market was increasing dramatically, both in terms of manufacturing 
costs and product capability. Moreover, as seen in the examples above, 
as Chinese producers have become more self-sufficient there has been 
less reason for China to import from the United States. Each of these 
influences contributed to a more pronounced trade deficit by the United 
States with China.
    Attachment 3 gives a graphic picture of total trade between China 
and the United States from 2000 through 2009 and shows the extent of 
the increasing trade deficit by the United States with China over that 
time. As depicted in Attachment 3, the U.S. trade deficit worsened 
considerably during the period of 2005 through 2008, and the largest 
trade deficit incurred by the United States with China occurred in 
2008.
    Second, the RMB's appreciation between July 2005 and July 2008 was 
in nominal terms, but then as now the RMB's undervaluation relative to 
the U.S. dollar was around 40 percent on a bilateral, real-exchange-
rate basis. What was needed then, in other words, was a meaningful 
revaluation of the RMB in that amount in accordance with inflation-
adjusted, trade-weighted exchange rates. The same is true today. \3\
---------------------------------------------------------------------------
     \3\ Morgan Stanley has said that it expects China will permit the 
renminbi to appreciate to 6.54 RMB/U.S.$1 by the end of 2010 and to 
6.17 RMB/U.S.$1 by the end of 2011. Morgan Stanley, ``China Economics--
Renminbi Exit from USD Peg: Whether, Why, When, How'', at 1 (Apr. 5, 
2010). Yet that nominal appreciation from the current rate of 6.83 RMB/
U.S.$1 would be only 9.7 percent, about the same pace over the next 21 
months as the pace China set between July 2005 and July 2008. That pace 
of nominal appreciation will be no more effectual than the RMB's 
nominal appreciation was between July 2005 and July 2008.
---------------------------------------------------------------------------
IV. If China Were To Allow for a Currency Revaluation, What Is an 
        Appropriate Appreciation? What Tools Should Congress Consider 
        To Remedy This Imbalance? What Are the Multilateral Policy 
        Options?
    What is needed is for China to revalue the RMB relative to the U.S. 
dollar by 40 percent on a bilateral, real-exchange-rate basis. But what 
should we do if this does not happen in a timely manner? Unfortunately, 
while the International Monetary Fund for the last 5 or 6 years 
especially has been sounding the alarm about China's undervaluation of 
the renminbi, the IMF's authority is so limited under its Articles of 
Agreement that China has been able to block publication of the IMF's 
2007, 2008, and 2009 reports on China's currency policy. It is apparent 
that a strengthening of the multilateral rules on protracted currency 
depreciation is imperative.
    In the absence of unilateral action by China to appropriately 
revalue its currency, a first step that can be taken by Congress and 
the Executive Branch against this protectionist practice is to 
authorize the imposition of countervailing or antidumping duties 
against imports from any country with a fundamentally undervalued 
currency. This approach would be a reasonable implementation in U.S. 
domestic law of the World Trade Organization's provisions, would assist 
materially injured U.S. industries and workers, would act as a 
deterrent, and would underscore that protracted currency depreciation 
will not be tolerated.

V. Conclusions
    Currency manipulation by the Chinese government has significantly 
affected the bilateral trade deficit of the United States with China, 
primarily through its effect on the levels of imports into the United 
States from China. From 2002 to 2009, the United States ran a 
cumulative trade deficit of nearly $5.4 trillion for All Merchandise, 
including a deficit of almost $1.6 trillion with China. China's share 
of the U.S. trade deficit in All Merchandise rose from 22 percent in 
2002 to 45.3 percent in 2009. \4\
---------------------------------------------------------------------------
     \4\ See, Fair Currency Coalition, ``Fact of the Week--RMB Peg 
Fuels China Trade Surpluses, Undercuts U.S. Recovery'', (Feb. 23, 
2010), available at, www.faircurrency.org.
---------------------------------------------------------------------------
    This deficit has resulted in a significant loss in the United 
States of important manufacturing capability and its higher-paying jobs 
that would have been used to supply the U.S. market at realistic 
prices. Prices of Chinese imports are artificially low due to the 
effective subsidization associated with the undervalued Chinese 
currency vis-a-vis the U.S. dollar. As the Economic Policy Institute 
reported in a study last month, the RMB's substantial undervaluation 
has been a major reason for the United States' imbalanced trade with 
China, the loss of 1.6 million manufacturing jobs in the United States 
between 2001 and 2008, and depressed and lower wages for many more 
millions of U.S. workers. \5\
---------------------------------------------------------------------------
     \5\ Robert E. Scott, ``Unfair China Trade Costs Local Jobs'', 
(Economic Policy Institute, Mar. 23, 2010).
---------------------------------------------------------------------------
    As devastating to the United States as these trends are, the 
longer-term prognosis if China persists in its behavior is even more 
troubling. In addition to further trade deficits and lost jobs, the 
renminbi's undervalued misalignment is an important factor in making 
investment in China more attractive and feasible than investment in the 
United States. It is not necessary or even desirable to stop investment 
overseas by multinational companies, but it is critical that the 
protectionist policy of China's enforced undervaluation of the RMB 
should not be tolerated. If not countered, that policy will 
increasingly drain the United States of knowledge and expertise, 
continue to contribute to the demise of its basic manufacturing 
capability, as well as jobs and revenue, by weakening companies in 
areas such as the U.S. specialty metals industry, which are constantly 
developing new technology that has essential applications to the U.S. 
economy and national defense.
    The major benefit associated with China allowing the RMB to 
appreciate by 40 percent to market levels, or otherwise mitigating this 
problem, will be to allow U.S. manufacturers to recapture the U.S. 
market that has been lost or will be lost to Chinese imports. Less 
benefit to exports of U.S. products into China is anticipated, because 
the Chinese government's emphasis on large increases in GDP each year 
will almost certainly be reflected in other measures that favor Chinese 
domestic production and sales, thereby compensating in part for any 
meaningful revaluation of the RMB.
    Virtually all segments of the U.S. economy should benefit, but 
major sectors representing high levels of imports into the United 
States from China would be advantaged the most. As indicated by the 
charts and tables in Attachment 2, these segments include computer and 
electronic products, primary metal manufacturing, textile mill 
products, apparel and accessories, plastics and rubber products, 
electrical equipment, appliances, and components, furniture and 
fixtures, and other fabricated metal products.
    The importance of this issue, and its potential impact, is directly 
proportional, or perhaps even geometrically proportional, to the 
magnitude of the currency misalignment and its remediation. Current 
estimates of 40 percent misalignment are enormous in this context. 
Likewise, token efforts to reduce this misalignment will be generally 
ineffective.
    It is critically important that we act now. Pushing the problem 
ahead will only produce a bigger problem in the future as U.S. GDP 
weakens and U.S. manufacturing and technology capability is lost. In 
the absence of unilateral action by China to appropriately revalue its 
currency, a first step that can be taken by Congress and the Executive 
Branch is to authorize the imposition of countervailing or antidumping 
duties against imports from any country with a fundamentally 
undervalued currency.









                  PREPARED STATEMENT OF MARK A. SUWYN
 Executive Chairman of the Board, NewPage Corporation, Miamisburg, Ohio
                             April 22, 2010

    Mr. Chairman, Mr. DeMint, and Members of the Subcommittee, I 
appreciate the opportunity to appear on this panel to discuss China's 
exchange rate policy and trade imbalances. My name is Mark Suwyn and I 
am Chairman of NewPage Corporation. NewPage was founded in 2005, when 
the company purchased certain paper operations of MeadWestvaco. NewPage 
produces printing and writing papers, including coated and uncoated 
free sheet and groundwood papers and paperboard, newsprint, 
supercalendered paper, and specialty paper. NewPage is headquartered in 
Miamisburg, Ohio, and has production facilities in Kentucky, Maine, 
Maryland, Michigan, Minnesota, and Wisconsin. NewPage has about 7,500 
employees, and is the largest producer of coated printing and writing 
papers and paperboard in North America. Production of these papers is a 
multibillion dollar industry in the United States. Today, I would like 
to speak about how the U.S. paper industry has been impacted by China's 
exports of coated paper and paperboard, and in particular about the 
large and distortive subsidy that Chinese paper producers benefit from 
as a result of China's undervalued currency.
    China's undervalued currency is a very significant problem for U.S. 
paper producers, as it is for many other U.S. manufacturers that 
compete with imports from China. The United States has a significant 
competitive advantage over China in the production of paper and 
paperboard used domestically for printing and writing, a fact that has 
been confirmed regularly in market research studies. Paper producers in 
this country have access to abundant and renewable fiber sources, and 
we have a plentiful supply of water required for paper processing. We 
have a highly skilled workforce with generations of experience 
producing paper, and state-of-the-art paper equipment. And we have the 
advantage of being close to our customers in the U.S. market. By 
contrast, the Chinese producers have to import the vast majority of the 
virgin fiber they use to produce paper, much of it from Latin America. 
They also lack an adequate water supply. And although wage rates are 
lower in China than they are in the United States--paper manufacturing 
is not very labor intensive, accounting for only about 10 percent of 
the cost of producing paper--the Chinese do not gain any real advantage 
from having lower wage rates. The Chinese use comparable state-of-the-
art production equipment that U.S. producers use. Finally, Chinese 
producers are an entire ocean and half a continent away from our 
customers in the Midwest. Nonetheless, Chinese paper producers have 
been able to lower prices, increase exports, and gain market share in 
the United States, all because of large subsidies provided by the 
Chinese government and their willingness to dump their product in the 
U.S. market. And the biggest subsidy of all is the 40 percent 
undervaluation of the Chinese currency.
    In September of last year, NewPage, along with other members of the 
domestic industry and the United Steelworkers Union, filed antidumping 
and countervailing duty petitions covering certain types of coated 
paper from China and Indonesia. In the countervailing duty petition 
covering Chinese subsidies, we listed a host of subsidy programs that 
benefit Chinese paper producers, including an allegation covering 
China's undervalued currency.
    Our currency allegation provided information demonstrating that all 
three legal requirements for finding the existence of a countervailable 
subsidy were met: (1) that the Chinese government had provided a 
financial contribution, which (2) resulted in a benefit, and (3) which 
was specific to a particular industry or group of industries in China. 
With respect to the financial contribution, we explained that by 
requiring foreign exchange that is earned from export activities to be 
converted into Chinese yuan at a rate that is set by the Government, a 
rate which is universally recognized to be about 40 percent below its 
true value, Chinese exporters reap an enormous windfall. Specifically, 
Chinese exporters get 40 percent more yuan for every dollar that they 
exchange than they otherwise would absent Chinese government 
intervention in the foreign currency markets. This provides an 
enormous, continuing benefit to those exporters, and allows them to 
significantly under-price U.S. producers. We also alleged and 
documented that this subsidy was specific to exporters in China, 
because it is directly linked with exports and creates a powerful 
incentive for Chinese producers to export their products to the United 
States, rather than sell them at home.
    The Chinese currency is clearly undervalued. A January 2010 policy 
brief by Dr. Lardy's colleagues at the Peterson Institute estimates 
that China's currency is undervalued by 41 percent on a bilateral basis 
against the dollar. Other estimates are within this range.
    Much to our disappointment, the Commerce Department did not 
initiate an investigation into our allegation when we first made it in 
September of last year, claiming that we had failed to sufficiently 
allege that the receipt of the excess yuan is contingent on export or 
export performance--in other words that we had not shown how the 
subsidy was specific. But in January of this year, we submitted a 
revised allegation, this time providing an expert report from an 
independent economist which demonstrates that based on the Chinese 
government's own data, 70 percent of China's foreign exchange earnings 
from Current Account transactions and from long-term Capital and 
Financial account transactions were derived from the export of goods. 
The study concluded that no other category of foreign exchange inflows 
comes close to matching the $1.4 trillion foreign exchange earnings of 
Chinese exporters. Because Chinese exporters garner the overwhelming 
share of benefits from the undervaluation of the RMB, the subsidy 
benefit is de facto specific to exporters as a group.
    As of the preparation of this written statement, the Department of 
Commerce has not announced whether it will initiate an investigation 
into whether China's undervaluation of its currency confers a 
countervailable subsidy. We believe, as do many Members of Congress, 
that Commerce has a legal obligation to investigate this practice. We 
hope an initiation occurs soon, so that Commerce will have sufficient 
time to fully analyze this allegation.
    China's undervalued currency, as well as the other subsidies from 
which Chinese coated paper producers benefit have had a significant 
negative impact on NewPage and other members of the U.S. coated paper 
industry. These consequences are documented in the preliminary 
unanimous injury determination by the International Trade Commission 
(ITC), which was issued in November of last year. Among other things 
the ITC noted:

    The increase in the U.S. market share of imports from China 
        (and Indonesia) which rose from 15.3 percent in 2006 to 25.7 
        percent in the first half of 2009.

    The large increase in the supply of low-priced subject 
        imports in the first half of 2009 was accompanied by a decline 
        in prices for the domestic product in the first half of 2009.

    The domestic industry faced increasing pressure to lower 
        prices or lose market share, particularly in the first half of 
        2009 as a result of the pervasive underselling by subject 
        imports.

    Significant underselling by Chinese producers led to price 
        depression during the first half of 2009.

    Imports from China led to decreases in U.S. producer's 
        production, shipments, and employment in 2009.

    NewPage and others in the domestic industry have had to 
        close many mills and converting facilities over the past 4 
        years, including mills in Kimberly and Niagara, Wisconsin; 
        Muskegon, Michigan; and Columbus, Mississippi, and a converting 
        facility in Chillicothe, Ohio.

    The U.S. industry's financial condition deteriorated in the 
        first half of 2009 as the U.S. industry was forced to reduce 
        prices in order to compete with substantially increasing 
        imports, with operating losses of $17.2 million in the first 
        half of 2009 compared with operating profits of $44.3 million 
        in the first half of 2008.

    The impact of Chinese subsidies on the U.S. coated paper industry, 
including currency undervaluation, is well-document in the ITC 
determination. It is notable that the deterioration in our industry 
accelerated in the first half of 2009, which coincides with the time 
when China halted its gradual appreciation of the yuan in November of 
2008. However, the impact goes beyond the borders of the United States. 
Despite the fact that we have had some success in the past year in 
increasing our exports to other markets, we have not been able to 
export paper products to China. The severe undervaluation of China's 
currency effectively imposes a 40 percent tax on any potential exports 
from our U.S. mills. This affects not only exports to China, but also 
exports to other third markets where we compete with the Chinese.
    So what is the appropriate response to China's undervalued 
currency? We believe that the best outcome would be for China to allow 
its currency to float freely and reflect market forces. This would be 
the most favorable outcome for all U.S. manufacturers. I would note, 
however, that past efforts to negotiate with China either bilaterally 
or multilaterally through the IMF, have thus far produced no result. 
Whatever may be accomplished through long term negotiation, we believe 
that the Department of Commerce needs to investigate China's 
undervalued currency as a countervailable subsidy to Chinese coated 
paper producers, and to ultimately impose countervailing duties to 
offset the level of undervaluation. We believe this is required by the 
U.S. countervailing duty law, and is critical to prevent material 
damage to the U.S. paper industry and the jobs and local communities 
that rely on our industry.
    Again, I appreciate the opportunity to appear before you today, and 
would welcome any questions you might have.

                  PREPARED STATEMENT OF DEREK SCISSORS
     Research Fellow, Asian Studies Center, The Heritage Foundation
                             April 22, 2010









        RESPONSES TO WRITTEN QUESTIONS OF SENATOR VITTER
                     FROM DANIEL J. IKENSON

Q.1. Article IV, Section 1 of the Articles of Agreement of the 
International Monetary Fund (IMF) commits member countries to 
``avoid manipulating exchange rates or the international 
monetary system in order to prevent effective balance-of-
payment adjustment or to gain unfair competitive advantage over 
other member countries.'' Moreover, the principles and 
procedures for implementing the Fund's obligation (in Article 
IV, Section 3) ``to exercise firm surveillance over the 
exchange rate policies of members'' call for discussion with a 
country that practices ``protracted large-scale intervention in 
one direction in exchange markets.'' Would it be incorrect to 
state that China's exchange rate policy violates most relevant 
international norms and standards?

A.1. China's exchange rate policy is no doubt frustrating to 
policymakers who believe--or who want their constituents to 
believe--that the undervalued Yuan is a major cause of the 
bilateral trade deficit, and that the bilateral trade deficit 
is a major cause of unemployment in the U.S. manufacturing 
sector. Although those causal connections are extremely weak, 
the Chinese currency is more than likely undervalued. That 
undervaluation has a positive effect on some Chinese and 
American interests, and a negative effect on other Chinese and 
American interests. Accordingly, it is crucial that 
policymakers consider the broader effects of Chinese currency 
appreciation--its impact on U.S. prices, global commodities 
prices, the costs of production for U.S. manufacturers that 
rely on imported raw materials and components, et cetera--
before pulling the trigger on legislation designed to compel 
Chinese revaluation.
    Despite all of the media and political hype, it would be 
difficult to convince an objective jury that China's exchange 
rate policy ``violates most relevant international norms and 
standards.'' Why? For starters, China is only one of 58 
countries in the world that pegs the value of its currency to 
the value of another currency or to the value of a basket of 
other currencies. Nearly one-quarter of the world's sovereign 
nation-states engages in overt currency manipulation. So, in 
that sense, China's behavior is not extraordinary.
    The standard articulated in Article IV, Section I of the 
Articles of Agreement of the International Monetary Fund (IMF) 
to ``avoid manipulating exchange rates or the international 
monetary system in order to prevent effective balance-of-
payment adjustment or to gain unfair competitive advantage over 
other member countries'' is a difficult one to meet. How does 
one prove that ``prevent[ing] effective balance-of-payments 
adjustment'' or ``gain[ing] unfair competitive advantages over 
other member countries'' is the motive for currency 
manipulation, as opposed to some other more benign motive? It 
is quite plausible that the Chinese government is worried about 
the effect of Yuan appreciation vis-a-vis the U.S. dollar 
because its investment portfolio includes nearly $1 trillion of 
U.S. government debt. A 25 percent depreciation of the dollar 
amounts to a loss of $200 billion of those debt holdings. Thus, 
protecting the value of those holdings may be an important 
motive for keeping the exchange rate stable.
    At the end of the day, though, China stands out among the 
group of 58 countries that peg their currencies to the value of 
another. China is the largest economy among them and its 
enormous volume of trade and investment flows require a much 
higher level of intervention in currency markets, which has 
resulted in the accumulation of nearly $2.5 trillion in foreign 
currency reserves. China and the world would be better off if 
the value of the Yuan were market determined, and if those 
foreign reserves were reinvested around the world, where 
capital is most needed and can be deployed most productively 
and efficiently.
    But it would be a reflection of political expedience and 
economic mismanagement if sanctions were imposed to compel 
China to revalue or float its currency because such actions 
would likely generate even greater costs for the U.S. economy 
and have more serious consequences for the bilateral 
relationship.

Q.2. Given that China refuses to use nominal appreciation to 
rebalance the Chinese and global economies, assuming currency 
manipulation and protectionism are not the root cause, what is 
the economic rationale for China's insistence on a stable RMB?

A.2. The desire for stability, as opposed to uncertainty, 
explains the Chinese government's commitment to a currency peg. 
Investors like certainty; planners like predictability. Within 
that framework, I believe the Chinese government knows it is in 
China's best interest, eventually, to allow supply and demand 
to determine the value of its currency. The government 
recognizes that the Chinese economy will have to become less 
reliant on exports and more reliant on domestic consumption to 
fuel its economy, which is a transition that is fostered by an 
appreciating currency. But at the same time, the government is 
worried about disrupting the double-digit annual economic 
growth it has experienced nearly without interruption for three 
decades. China's reluctance on the currency issue is a 
reflection of the government's aversion to tinkering with a 
model that has been hugely successful.
    Does China's insistence on currency intervention harm U.S. 
interests? It carries adverse consequences for some interests 
and benefits for other, just as appreciation of the Yuan will 
carry benefits for some and costs for others. The undervalued 
currency probably suppresses, somewhat, the sales of U.S. 
exporters, which, incidentally, have been rising by 20 percent 
each year since China joined the World Trade Organization in 
2001. But the effect of an undervalued Yuan on import-competing 
U.S. producers is less clear. The cheaper Yuan artificially 
inflates the costs of production in China, where one-half to 
two-thirds of the value of Chinese exports is first imported 
into China as raw materials and components. Yuan appreciation 
will reduce the cost of production by making those inputs 
cheaper, enabling Chinese producers to lower their prices for 
export to the United States.
    Finally, currency stability acts as a buffer that supports 
the value of China's nearly $1 trillion holding of U.S. 
government debt. Yuan appreciation against the dollar will 
reduce the value of those holdings, which is already exposed to 
devaluation that would result from inflationary U.S. monetary 
policy. Since the rate of U.S. inflation is purely in the hands 
of U.S. monetary authorities, China is reluctant to relinquish 
its control of the exchange rate.
    If the U.S . Congress were more responsible with the 
taxpayers' money, and did not insist on spending beyond its 
means, there would be no need to borrow from the Chinese or any 
other government. And the corresponding interest of those debt 
holders in a strong dollar would be mitigated.

              Additional Material Supplied for the Record

LETTER FROM DAMON A. SILVERS, POLICY DIRECTOR AND SPECIAL COUNSEL, AFL-
                                  CIO







 LETTER FROM ERIK O. AUTOR, VICE PRESIDENT, INTERNATIONAL TRADE COUNSEL



















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