Yuan diplomacy to wreck the world economy

The Obama-Geithner duo is busy pursuing yuan pressure diplomacy, with statements to the effect that the global community should make the Chinese increase the value of the yuan vis-à-vis the dollar. Also, recently Donald Trump took the Obama team to task for not exerting enough pressure on China to let the yuan appreciate. What exactly does Donald Trump want the administration to do when he talks about using muscle against China ? He has charged that the Chinese use their best and brightest brains while the Obama administration does not. What exactly does Trump want the US negotiators to do ? Engage the Chinese mandarins in a battle of sophistry, confuse them into believing that they should increase the price of the yuan and have them walk away scratching their heads ? Or does he want the administration to use the threat of nuclear weapons ? Or does he want the Obama economic team to dazzle the Chinese team with false and misleading computer models about how a more expensive yuan is better for everybody ? And then have four laughing Buddhas go about the job of lifting the yuan higher ?

Coming back to this Obama-Geithner obsession with the yuan, if the yuan appreciates, all Chinese goods become more expensive. Since China and the US specialize in different areas of the value-added chain, one possible scenario is that the Americans end up buying less from the Chinese and the Chinese end up buying less from the Americans ( although the relative amounts shift towards more purchase of US goods ) and the overall volume of trade shrinks. In this scenario, jobs will be lost both in China and in the US. Clearly not a good thing in the middle of a job slump.

The other possibility is that if American demand for low and medium value added Chinese manufactures is inelastic, then Americans will buy about the same amount of Chinese goods despite the higher yuan, leading to inflation in America. Whether the Chinese buy more American goods or whether they end up buying more American bonds or whether they end up buying more of other forms of American assets is anybody’s guess. Without computer modeling, it is very difficult to predict if the first scenario, the second scenario or some other scenario will obtain. Nothing that I have read or heard assures me that the Obama team has done such modeling to predict the impact and to understand the cost-benefit aspects.

The first scenario leads to job losses in the US ( and may be inflation as well ). The second scenario leads to inflation in the US, with no clear indication as to whether it will reduce the trade deficit. Either way, it looks like the team in charge in Washington has a visceral dislike for the current crankshaft, while it has no idea about what to do about the engine, the transmission, the axle or the wheel. Clearly, tinkering with the crankshaft alone without changing the entire design is a dangerous exercise. And it seems that is precisely what the administration is hell-bent on doing. China is being increasingly regarded as the manufacturer to the world, and the Obama economic team wants to make Chinese goods more expensive for everybody. This may be a recipe for unnecessarily forcing a worldwide double dip recession when everybody wants to avoid it.