How to tackle trade deficit with China

As top officials from the US and China hold a strategic dialogue in Washington this week, the Bush administration faces congressional pressure to act – not just talk – to address a widening trade imbalance between the two nations.

For just the first three months of the year, Chinese exports to the United States exceeded imports by $57 billion. That's nearly one-third of America's overall trade deficit with the world. It's up sharply from five years ago, when the first-quarter trade gap with China was $19 billion, or about one-fifth of the trade imbalance.

Many economists agree that the US trade deficit is reaching levels that can't, and won't, be sustainable for the long term. But a key question, embodied in the current differences between a restive Congress and the Bush administration, is what to do about it.

Some say that the proposed fixes could be worse than the problem. One bill recently introduced in Congress would slap new import tariffs on Chinese goods, a penalty for alleged currency manipulation that favors Chinese exports to America.

"The imposition of a tax [such as a tariff] is a poor way to go about trying to resolve" differences with China, says Michael Cosgrove, an economist at the University of Dallas. "We end up hurting somebody else here at home."

For one thing, a law that penalizes Chinese imports could make consumer goods more expensive in the US. Many businesses, too, would face higher prices for products made partly in China.

Other nations, moreover, might follow America's lead, making the world less open to the commerce that has helped fuel several years of strong global growth.

That's one reason Treasury Secretary Henry Paulson and his Chinese counterpart, Wu Yi, are stressing patience and diplomacy as they meet in Washington from Tuesday through Thursday.

"The win-win nature of this [trade] relationship is amply demonstrated by the rapid growth of bilateral trade," Vice Premier Wu wrote last week in The Wall Street Journal.

But while this week's talks represent the goal of long-term engagement, short-term tensions are bound to be a focus as well.

Speaking to students at the Harvard Business School in Boston earlier this month, Secretary Paulson acknowledged that the "strategic economic dialogue," launched by both nations last year, faces pressure. "If you don't get some short-term results, you'll never get to the long term," he said.

Several issues are of central concern. One is the protection of intellectual property, everything from patents to copyrights on music and movies. Another is alleged subsidies in violation of US trade statutes. The value of the yuan looms the largest for many China critics, because it affects the terms of trade across all categories of goods.

Last week, China agreed to allow its currency to fluctuate within a wider band of values, but said this did not necessarily mean the currency would be allowed to rise significantly.

Sen. Charles Schumer (D) of New York was quick to voice skepticism about the move. "This is a nice gesture, but in the past, most of their gestures have not produced any concrete change," he said in a statement. "The Chinese should recognize that they face the prospect of strong WTO-compliant legislation if there isn't significant progress."

Any countervailing measures against China, designed to punish and deter unfair trade practices, must be able to pass muster with the World Trade Organization, the ultimate arbiter for its 150 member nations.

A higher yuan, over time, could be difficult for the US economy. Chinese imports would cost more for US consumers. Economists say that other Asian nations would probably allow their currencies to float higher as well. That could push up inflation.

But supporters of a stronger yuan, including labor unions and many small manufacturers, say it would also make US exports more competitively priced in Asian markets. And if it curbs American demand for Asian imports, that could help the US economy shift to a more sustainable path. They say America now imports too much and saves too little money.

"We need to proceed on several fronts," says Robert Scott, a trade expert at the Economic Policy Institute, a labor-allied research group in Washington. The White House has "been almost completely silent on this issue until just this year when the Democrats took control of Congress."

He urges stronger action by the administration to penalize China for illegal subsidies and more pressure to remove Chinese barriers to US exports, as well as addressing currency manipulation.

It's not clear whether legislation will pass in the current Congress, but analysts say the prospects have improved with the Democratic victories in last fall's elections.

The Fair Currency Act of 2007, the proposed measure to penalize "exchange-rate misalignment," has 100 bipartisan cosponsors led by Reps. Tim Ryan (D) of Ohio and Duncan Hunter (R) of California.

The tussling is not just between Congress and President Bush, but between global corporations and domestic interests.

China's export growth has been propelled by multinational corporations. Exports of foreign affiliates operating in China – mainly US and European companies – accounted for 58 percent of Chinese exports in 2006, up from 40 percent in 1996, according to research by Bank of America in New York.

These companies are generally reaping big profits in China and see much to gain by growing international trade. Hotly debated, however, is whether such trade has done much for US workers. "Corporate interest has diverged from the national interest," says Mr. Scott.