The Real Problem With Global Trade

BRAD SETSER is Whitney Shepardson Senior Fellow at the Council on Foreign Relations. He served as a Senior Adviser to the U.S. Trade Representative from 2021 to 2022 and was Deputy Assistant Treasury Secretary from 2011 to 2015. SHAHIN VALLÉE is a Senior Fellow at the German Council on Foreign Relations. He served as Economic Adviser to the President of the European Council in Brussels from 2012 to 2014 and to the Economy Minister in France from 2014 to 2015. How China’s Currency Manipulation Is Warping the World Economy As the Group of Seven meets in Évian, France, beginning June 15, French President Emmanuel Macron has pushed to bring about a broad recognition that rising trade imbalances are a global economic problem. But G-7 leaders will nevertheless likely ignore one of the most important sources of those imbalances: the undervaluation of the currencies of Asia’s large economies, especially China’s. This is unfortunate. There is a growing consensus that Asia’s trade surplus has grown too big. But without discussion of currency undervaluation, there is little chance that the G-7 can mount a meaningful effort to change the policies that have given rise to these imbalances. In 2021, when China’s property bubble collapsed, it weakened the renminbi, which helped Beijing’s pivot to export-led growth. The currency’s reduced value made Chinese goods cheaper for foreign buyers, and foreign goods more expensive in China. Weak growth in demand, a falling currency and widespread industrial subsidies have led China’s overall trade surplus to triple since 2018. Moreover, Chinese state banks and other state institutions are now giving China’s exporters an artificial edge in foreign markets by holding China’s currency down. U.S. President Donald Trump’s tariffs were meant to slow China’s export juggernaut. But it has not worked out that way. Rather than assembling its own parts for shipment direct to the United States, China now ships intermediate goods—often high-tech components—to neighboring countries for final assembly, thus sidestepping tariffs. To keep their own exports competitive and workers in their manufacturing sectors employed, many of China’s neighbors have felt compelled to keep their own currencies weak. Indeed, several other Asian currencies are at historic lows against the dollar. These rising imbalances in global trade are as much a problem for Europe as for the United States. Europe’s automotive, chemical, steel, and machine-tool industries are on the frontline of this so-called second China shock. This is why Macron has made global trade imbalances a major theme of this year’s G-7. But in Europe, as in the United States, there is still a reluctance to make currency diplomacy integral to the broader trade discussion. This is an intellectual and policy blind spot that risks a failure of economic policy coordination. As long as it persists, trade imbalances will only grow. This situation is unsustainable. The G-7 must present Beijing with a choice: it must allow its currency to appreciate, or it must face new trade restrictions. Large surpluses and large deficits create financial risks as well as trade tensions. To address these problems, G-7 finance ministers have agreed to a minimal communiqué that does little more than highlight the “common interest” that surplus and deficit economies share in bringing down persistent trade imbalances. But they did not press for a change of China’s exchange rate policy. Moreover, the G-7’s call for yet another IMF report on the underlying drivers of imbalances are unlikely to persuade Beijing to move away from its current reliance on exports to achieve growth targets that it cannot meet from domestic demand. Chinese think tanks, state media, and officials still attribute its rising surplus to its comparative advantage in new industrial sectors. The United States, meanwhile, appears to have lost interest in an agenda that would try to facilitate a simultaneous reduction in trade surpluses and deficits. U.S. Treasury Secretary Scott Bessent’s early talk of a grand global economic reordering has disappeared into a world of communiqués that promise “constructive strategic stability.” Beijing likely understands this to mean that Washington will not demand major changes to its current set of economic policies. Bessent’s initial ambition to bring the fiscal deficit, which is once again trending back above six percent of GDP, down toward three percent seems to have vanished. The administration is instead celebrating a surge in AI-related capital goods imports that is likely to push the U.S trade deficit even higher. Against this backdrop, a strange disconnect has emerged, as the recognition of a growing problem has not translated into support for the most obvious solution. Economists across the ideological spectrum recognize that China’s scale, its technological sophistication, and the yawning gap between its rapidly growing exports and its stalled imports have cr

The Real Problem With Global Trade

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