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The Uneasy U.S.-Chinese Trade Relationship

Author: Eben Kaplan
April 19, 2006
This publication is now archived.

Introduction

Ever since Deng Xiaoping ushered in a wave of liberalization in the late 1970s, the world has witnessed a surge in Chinese economic power. Over the last quarter century, China has averaged 9.5 percent growth annually, more than quadrupled its gross domestic product (GDP), and lifted over 400 million of its citizens out of poverty. In 1977, China had the thirtieth-ranked trade volume in the world; in ten years it is projected to be the world's top trading nation; and in fifteen, it will likely have the world's largest GDP.

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This rapid rise was aided by the normal trade relations China established with the United States in 1979, and later by China's accession into the World Trade Organization (WTO) in 2001. But U.S.-Chinese trade relations have always been somewhat uneasy; for many years, Congress used an annual review of China's "Most Favored Nation" trading status to link trade liberalization with Beijing's human rights record. More recently, U.S. leaders have begun to worry about a massive trade imbalance that continues to grow. Protectionists in Washington and Beijing have begun to dig in their heels against the powerful economic forces that are changing their nations, while U.S. calls for China to revalue its currency and crack down on counterfeiting have not made much headway.

Trade Volume

A major factor in China's quick rise has been its vigorous trade activity with the United States. Trade volume between the two nations reached $211.6 billion in 2005, more than eighty times the $2.4 billion exchanged in 1979, the year they established normal trade relations. This has accelerated in recent years; from 2001 to 2005, the volume of U.S.-Chinese trade increased an average of 27.4 percent a year. The United States has become the top destination of Chinese merchandise exports and China is buying up more and more U.S. goods, with U.S. exports to China rising 21.5 percent each of the last four years.

Trade Imbalance

In 2005 the United States ran a bilateral trade deficit with China of $202 billion, up from $162 billion the previous year. Senator Charles Schumer (D-NY) said in a statement to press that these figures should be "a red flag to the Congress and to the global economy." Many Americans worry the United States is too dependent upon China for its imports, and blame the deficit for the loss of U.S. manufacturing jobs. Despite public fervor, the trade deficit does not have all economists worried. "I personally don't believe the bilateral trade deficit is dangerous for the United States," says Benn Steil, a CFR senior fellow and director of international economics. This is partly because, while China has a massive trade surplus with the United States, its overall trade surplus is not excessively large. Furthermore, the bilateral deficit doesn't take into account products manufactured in China by U.S. and other foreign companies. CFR Senior Fellow Adam Segal says some of the increase in the trade deficit is because "China has replaced all the Asian producers the United States used to import from."

There is some concern the imbalance might not be good for China's economy either. Brookings Fellow Jing Huang told a recent audience that 80 percent of China's GDP is derived from trade, which he cautions is a sign China's economic development is uneven. But Steil says there is no cause for alarm: "That statistic is not that outlandish by international comparison," he says.

Another concern is that, with its focus on exports, China has failed to develop a domestic consumption base. This reliance upon outside markets, warns Huang, has created an "investment bubble," leaving China's economy vulnerable in the event of a downturn in its export markets. But Carnegie Endowment economist Albert Keidel says warnings of an investment bubble are "very loose talk about something that hasn't happened yet."

Many experts say U.S.-Chinese trade relations are generally normal and healthy. Brookings Fellow Jeffrey Bader told a February 16 meeting of the Brookings Council that Chinese exports have had some rather positive effects for the United States. Cheaply manufactured goods have kept inflation low, easing the burden on poor and middle-class consumers. Bader also points out that Chinese investment has helped finance U.S. debt, while U.S. investors have generally profited from their ventures in China. Washington Post columnist Sebastian Mallaby wrote in an April 17 op-ed, "American business is in a golden phase right now because its imaginative culture fits the challenges of the post-industrial age. A low-wage economy that crams on science is not going to take that away from us."

Currency

One of the hot-button issues in U.S.-Chinese trade relations is the value of China's currency, the yuan (also known as the renminbi or RMB). U.S. critics allege that China is artificially keeping the value of the yuan some 40 percent below what its value would otherwise be on the open market. This, they say, makes Chinese goods cheaper in the United States and U.S. goods more expensive in China, thus contributing to the large trade imbalance between the two nations. According to Schumer, "China's refusal to play by international economic rules cripples our ability to compete on a level playing field." Schumer and fellow senator Lindsey Graham (R-SC) sponsored a bill that would have levied a 27.5 percent tariff on all Chinese imports unless the yuan was substantially revalued. The bill was withdrawn in March after the two senators visited China and were persuaded that Beijing was committed to currency reforms.

In July 2005, China agreed to a 2.1 percent increase of the yuan's value, and rather than pegging it to the dollar, began pegging it to a "basket" of international currencies. Since then the yuan has appreciated a mere 0.5 percent, and critics allege China has not made good on a pledge to let "market supply and demand" play a greater role in determining the exchange rate.

C. Fred Bergsten, director of the Institute for International Economics, told a March 29 hearing of the Senate Finance Committee (PDF), that a substantial increase in the value of the Chinese currency is essential to reduce the imbalances in the global economic system. Many experts agree with Bergsten. But others, like Steil, suggest a revaluation of the yuan would simply redistribute U.S. imports and raise U.S. prices. However, Steil says, "a controlled appreciation of the currency is in China's interest," because it would help keep down inflation.

Keidel, on the other hand, does not believe China's currency is overvalued. He writes in a policy brief (PDF), "Instead of decrying China's exchange rate, Washington policy makers should turn their attention to the task of raising U.S. productivity."

Protectionism

Growing protectionist elements within the United States and China have at times opposed trade agreements between the two nations. In the United States showdowns with Chinese investors have been focused mainly on security and based in part on what Segal describes as "a general distrust of China." In August 2005, congressional uproar over energy security caused the Chinese energy company CNOOC to withdraw a bid to buy the U.S. oil company Unocal. In 1999, as the Hong Kong shipping company Hutchinson Whampoa was about to take control of the shipyards lining the Panama Canal, retired U.S. admiral and former Chairman of the Joint Chiefs of Staff Thomas H. Moorer predicted a "nuclear Pearl Harbor." That deal, however, went through. Security concerns are also at the root of a U.S. ban on trading military or dual-use technologies with China.

Segal and another CFR senior fellow, Elizabeth Economy, describe in a Washington Post op-ed that a growing chorus of Chinese critics worry that their economy has integrated too quickly and that foreign elements will gain too much control of China's economy. At the March gathering of the National People's Congress, a long-awaited law to improve the protection of private property was blocked at the last minute. The same month, China's commerce ministry blocked the U.S.-based Carlyle Group from purchasing a majority stake in the Xugong Group Construction Machinery Co.

Intellectual Property

Intellectual property rights (IPR) are another source of tension in U.S.-Chinese trade relations. Reports of IPR violations extend well beyond the somewhat familiar software and DVD pirating to include potentially more harmful counterfeits, including pharmaceuticals, automobiles, and even airplane parts.

For its part, the Chinese government has imposed anti-counterfeiting laws and established special courts to prosecute offenders, but so far this has had little effect. As Economy explains, "There's very little incentive for local officials to crack down," especially when counterfeits provide locals with jobs and likely fill officials' wallets with kickbacks.

There is some hope that as Chinese innovation creates new products, it will become more rigid in its enforcement of IPR laws. Segal is not optimistic. He says that in China "there is a lot of pressure to reverse engineer*, which would create more IPR issues."

The United States has threatened to bring the dispute up before the WTO, though it's not a very palatable option, as China might actually come out on top in arbitration. Segal says that in terms of pressuring China on IPR violations, "We really don't have a lot of tools."

*Reverse engineering involves disassembling and analyzing the parts of a device to discover the concepts involved in its construction, with the intention of producing something similar. Source: Merriam-Webster's Collegiate Dictionary, Eleventh Edition.

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