The foreign exchange market (FOREX), is the heart that pumps the lifeblood of global trade; currency transactions. Without this facilitator for trade, the era of globalization as we know it would simply not function.
However, what happens when a country purposefully manipulates their currency to gain a competitive advantage in the world of trade? In recent news, there are talks about China’s alleged currency manipulation practices as a tactic in the United States-China trade war. China’s role in currency manipulation can have significant ramifications on the global trade network, which is why a great deal of attention has been called to this issue. Additionally, President Trump’s accusations over China’s currency devaluation have only added fuel to the fire of a quite precarious situation between powerful nations, creating a large threat to the stability of global markets. By understanding the ramifications of currency manipulation, you will gain an insightful perspective to the current real-world problems stemming from the practice.
What is currency manipulation?
Currency manipulation is defined as the deliberate devaluing of a country’s currency through the purchase of foreign securities with domestic currency. The intent behind lowering a country’s currency boils down to the economic principle of a trade surplus. To put it simply, the more exports a country produces, the higher their gross domestic product (GDP). When a country manipulates their domestic currency to be worth less, this allows for their products to be cheaper to foreign customers, thus increasing the domestic exports. Additionally, the depreciation of the currency also makes foreign goods more expensive for the manipulating country, leading to other countries being unable to sell their goods to them, a decrease to the other country’s exports.
Why is currency manipulation bad?
Currency manipulation gives countries an unfair advantage in the realm of global trade, as they can artificially sway the benefits of trade into their favor at the expense of another country. The artificial appreciation of the targeted country is problematic as it damages the country’s GDP. Using what we know about currency manipulation, we can deduce that it is favorable for export-driven countries, such as China or Germany. Conversely, we can see that the repercussions of currency manipulation will be felt most strongly by import-driven countries, like the United States or the European Union. In particular, the United States is especially vulnerable to the consequences of currency manipulation for two reasons. First of all, the country is the largest importer in the world, which means countries would want the U.S. dollar to be more valuable against their own currency. Secondly, the U.S. dollar is the world reserve currency, a larger array of countries are willing to target the dollar when manipulating their currency.
How do countries manipulate their currency?
With currency manipulation, a centrally controlled institution such as a central bank or government artificially changes the value of their currency through open-market operations with domestic and foreign assets. China is currently being accused of non-sterilized currency manipulation, which essentially involves appreciating the USD and then taking reprehensible actions to further devalue the domestic currency, the yuan. If you want to learn the specifics, you can find them here. The current trade war started with China being accused of unfair trading practices with the U.S., and now, currency manipulation has been added to the list of offenses. The accusations regarding China’s currency manipulation pegs China as deliberately lowering their currency in order to increase their exports to the U.S. This is a particularly grievous offense, as it further mars China’s image as a practitioner of unfair trading tactics. Furthermore, their actions, if true, may be accelerating an economic slowdown in the US due to the massive gap between imports and exports. But has China actually devalued their currency?
How can laws banning currency manipulation be enforced?
The International Monetary Fund (IMF) is the regulating body that determines whether or not a country has tampered with their currency. However, even if a country is found guilty of currency manipulation, there is not much that can be done, as there is no way to control the actions of a foreign country’s central bank or government. Currently, the IMF cites no evidence suggesting that China has manipulated their currency (you can find the whole report here). Despite the lack of evidence, the United States Treasury Department along with President Trump are adamant that China purposely devalued their currency. If this issue goes unresolved, the future of trade relations between China and the U.S. remains up in the air. The only current approach to stopping currency manipulation is through economic sanctions, which have their own drawbacks.
The issue surrounding currency manipulation is one that is highly difficult to regulate. Countries must hold each other responsible to maintain fair practices, and come together to speak out against unfair trading tactics. In the age of globalization, the effort to advance towards free trade should be a top priority over making an extra dollar at the expense of another nation. By working together to stop currency manipulation, all countries can reap the rewards of uninfringed trade.