Greg Ip of the Wall Street Journal has become my favorite economics writer in the mainstream press. He has an illuminating piece today on Trump’s complaint about our trade deficit with Germany. He starts with a point about China’s currency manipulation:
…the persistence and magnitude of Chinese and German surpluses and U.S. deficits suggest actual policy decisions are at work.
This comes by interfering with currency markets. As Mr. King notes, a country with a weak economy and a trade deficit would expect its currency to fall to boost exports and restrain imports. That can’t happen if exchange rates can’t move, as is the case with China and Germany, though for different reasons.
China was the largest of a group of countries that from 2003 to 2013 spent more than $5 trillion intervening in foreign exchange markets to hold down their currencies and bolster trade surpluses, according to a new book by Fred Bergsten and Joseph Gagnon of the Peterson Institute for International Economics. That drew production and jobs from deficit countries like the U.S., worsening the 2007-2009 recession and holding back the subsequent recovery. They estimate U.S. employment was depressed by more than one million jobs between 2009 and 2014 as a result.
China’s behavior has changed in recent years. It has allowed its exchange rate to appreciate and since 2014 has intervened to support it, and the trade surplus has shrunk.
Messrs. Bergsten and Gagnon suggest a new approach to prevent China from reverting to its old ways: When a country buys dollars to hold down its currency for competitive advantage, the U.S. should respond proportionately by purchasing that country’s currency…
The situation with Germany is a little more complicated:
Since adopting the euro in 1999, it hasn’t controlled its own currency. However, it did win competitive advantage over its neighbors in the currency union. Labor-market reforms restrained domestic wages. In 2007, a payroll tax cut, which made German labor more competitive, was financed with an increase in the value-added tax, which exempted exports.
In previous eras, those reforms would have pushed the deutsche mark higher, squeezing Germany’s trade surplus. Inside the euro, though, the burden has fallen on Germany’s neighbors, including France, to compete by grinding down domestic wages and prices through high unemployment and fiscal austerity. That has kept the entire region’s economy weak, forcing the European Central Bank to hold down interest rates and thus the euro. That inflates the entire region’s trade surplus with the world.
Read the whole thing.