By  on March 29, 2011

WASHINGTON — The long-term diplomatic approach to prod China to reform its currency policies, starting with the Bush administration and continuing under President Obama, is making some headway, according to experts.

China gradually has allowed the value of its currency, the yuan, to appreciate by about 4 percent against the dollar since June, which has provided the Obama administration with some leverage in resisting calls by some in Congress to label the country a currency manipulator, a designation that can lead to sanctions against imports. But with an unemployment rate at 8.9 percent and the 2012 presidential election on the horizon, the issue is here to stay.

Lawmakers are not giving up their efforts to push through some form of legislation this year. Senate Democratic leaders said last month that currency legislation would be a key priority this year.

“In order to level the playing field and help U.S. businesses compete with China, Senate Democrats will support legislation that would give clear authority to the administration to respond to China’s undervalued currency, including allowing the U.S. government to impose duties on subsidized imports,” Democratic leaders said.

The bill they support would impose penalties on designated countries, primarily nonmarket economies such as China that deliberately undervalue their currencies to gain a trade advantage. Even if the bill does pass the Senate, it would face longer odds in the House, where Republican leaders, including Speaker John Boehner, voted against the China currency bill that passed the House last year.

Secretary Treasury Timothy Geithner has maintained the pressure on China, saying as recently as the Group of 20 meeting in Paris on Feb. 20 that China’s currency “remains substantially undervalued.” But Geithner has also started making another argument about China’s “real exchange rate” appreciation as he defends the administration’s approach.

“Because their inflation rates are so much higher than ours, it’s actually appreciating in real terms against the U.S. at a rate…roughly 10 percent a year or more,” Geithner told U.S. senators at a hearing in February. “If that were sustained, that would bring about a major shift in the competitive balance in our favor over time, which is necessary and important not just to us but for all of China’s trading partners.”

The Treasury Department last month again declined to cite China for currency manipulation in its biannual 2010 report.

“I think the Treasury Department hopes that China will continue to allow its currency to appreciate at a rapid rate” of around 10 percent if 5 percent is added for inflation to the current annual exchange rate of 5 percent, and “that inflation will hold up currency appreciation enough to make a significant difference,” said Nicholas Lardy, a senior fellow at the Peterson Institute for International Economics. “It’s a gamble. I hope that they are right, but I don’t know how you can count on it.”

Phillip Swagel, professor of international economic policy at the University of Maryland and a former Treasury Department official, said the administration has “got it right” on this issue.

“Soon enough, inflation will translate into higher wages for Chinese workers and, in a sense, the relative advantage they have had in production over us and other countries will erode, both because of the exchange rate but also because of higher inflation and wage growth,” Swagel said. “They are sure taking their time to adjust, but still they are doing it. That is why Treasury has not labeled them a currency manipulator, even though they feel China is not moving quickly enough.”

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