Currency Manipulation and US Trade Agreements

Edwin M. Truman (Former PIIE)



The issue of currency manipulation by foreign countries has become a major part of the debate over Trade Promotion Authority (TPA) in Congress. Central to the debate is whether currency manipulation is a real problem that must be addressed, and what tools should be used to deter countries from doing it. On May 22, 2015, the Senate passed its version of TPA, a step aimed at clearing the way for passage of the Trans-Pacific Partnership (TPP). Within TPA, the Senate adopted broad language on currency manipulation but rejected more explicit enforceable disciplines as advocated by sponsors of other amendments. The House has yet to vote on the TPA bill. Congress is also considering separate legislation that would authorize countervailing duties against imports in the United States allegedly subsidized by currency manipulation. Edwin M. Truman argues that such legislation is ill-advised in this blog post, written in part to respond to the view put forward by C. Fred Bergsten, who favors imposing trade sanctions on countries that manipulate their currency. This post is based on edited remarks from a presentation on April 21.

In my remarks I will not respond to Fred Bergsten, but rather lay out the case against responding to currency manipulation via US trade agreements.

First, I will review the economics of currency manipulation. It exists, but its importance is exaggerated.

Second, I will make the case against including provisions designed to respond to currency manipulation in US trade agreements or, in particular, in accompanying legislation.

Currency Manipulation

Like exports and imports, exchange rates are quintessentially international topics. At least two countries are on each side of a trade flow and on each side of an exchange rate.

Both are “endogenous” variables that are largely determined by other variables in the economic and financial system and policies designed to affect those variables. Necessarily these issues excite domestic and international political and policy interest.

What do we mean by currency manipulation? At the crudest level, currency manipulation is the policy actions of one country in managing its exchange rate that another country does not like, primarily because of impacts on trade flows but sometimes because of impacts on inflation.

The principal tool of exchange rate management is official, sterilized foreign exchange market intervention. But exchange rates are influenced by other policies: monetary policies, fiscal policies, and international borrowing and investment policies.

The principal objective of the International Monetary Fund (IMF) when it was established 70 years ago was to constrain the exchange rate policies of members, in particular to limit the scope for countries to depreciate their currencies to gain competitive advantage.

After the Bretton Woods system broke down, IMF members’ revised exchange rate obligations included a commitment to “avoid manipulating exchange rates or the international monetary system in order to prevent effective balance of payments adjustment or to gain an unfair competitive advantage over other members.” In 1977, the IMF adopted a set of principles for its use in the surveillance of members’ policies in this area.1

But IMF exchange rate obligations are not self-enforcing, and importantly they require judgments about intent. No judgment of manipulation has ever been fully agreed within the IMF. This is despite the fact that many observers, including yours truly, have concluded from time to time that specific countries have manipulated their currencies. Indeed, in December 2010, with the strong endorsement of Fred Bergsten, I authored a Policy Brief outlining a comprehensive reform of the IMF surveillance system with a focus on these issues. That framework subsequently was largely embraced in the February 2011 report of the Palais-Royal Initiative on reforming the international monetary system.

However, the macroeconomic costs of exchange rate manipulation are exaggerated. US observers often point to the 2004–07 period during which the US current account deficit averaged about 5.5 percent of GDP and the Chinese surplus expanded from 3.5 percent to 10 percent of GDP, suggesting that China was manipulating its exchange rate. Indeed, Chinese foreign exchange reserves increased $1.1 trillion during this period, which was substantially more than the cumulative Chinese current account surplus of $786 billion.

There are three problems with this analysis:

First, trade, current account, and exchange rate issues are inherently multilateral not bilateral issues.

Second, as far as the United States is concerned, during the 2004–07 period we had a positive output gap (the difference between actual output and potential output), unemployment averaged 5.0 percent, and employment increased by 6 percent. Consequently, we had little scope to reduce our current account deficit without increasing inflation or reducing other sources of net demand. In other words, estimates of the loss of US jobs in the work of my colleagues Joseph Gagnon and Fred Bergsten are, in my view, grossly exaggerated.

Third, critics of my thumbnail analysis of the 2004–07 period argue that during the subsequent global financial crisis, when unemployment rose substantially in the United States and other advanced countries, China continued to run unacceptably large current account surpluses. China’s surpluses were 9.2 percent of GDP in 2008 (but this was largely before the global financial crisis broke), 4.8 percent in 2009, and 4.0 percent in 2010 before dropping to 1.9 percent in 2011. (The renminbi appreciated in real effective terms by 10.6 percent from its low at the end of 2004 to the end of 2007 and by a further 44 percent by the end of 2014. And we all know that exchange rate changes have to be supported by macroeconomic policies and operate, in any case, with a lag.)  But this argument illustrates one of the key analytical and policy issues in this area: What is an unacceptably large (or excessive) current account surplus (or deficit)? Judgment on size, as well as on intent, has to be applied. This is why it is unlikely that any country, including the United States, would ever want to turn over such judgments to an “expert panel.”

Conclusion: Currency manipulation has not been a significant issue affecting the performance of the US macroeconomy in recent years. This fact dramatically weakens the case for including currency manipulation in US trade agreements or in any accompanying legislation.

Currency Manipulation and Trade Agreements

The case for including currency manipulation in the Trans-Pacific Partnership (TPP) trade agreement now in the final stages of negotiation is further weakened by the following seven considerations.

  1. US insistence on a provision in the TPP that would envision the possible withdrawal of concessions, rather than merely acknowledging existing obligations in this area, would be a classic deal breaker. None of the other 11 participants is interested.
  1. Many of them (Japan, Malaysia, Singapore, and potential member Korea) should be justifiably concerned that they would become subject to such a provision. Observers have identified each of them as a currency manipulator during this century.
  1. To obtain such a chapter, the United States would have to make other concessions in the core areas of trade and investment.
  1. Any currency provision, again, would not be self-enforcing. Necessarily, enforcement would require a judgment about facts as well as intent. It is highly unlikely that the participants would leave such a judgment to so-called independent experts. The process of designation would be stymied by political considerations and mutual defense, as in the IMF executive board.
  1. A currency chapter in the TPP could threaten the independence of US monetary policy because the IMF surveillance principles cover the influence of monetary policy on exchange rates, even if some think they should not. US monetary policy would be further politicized domestically and internationally. It is correct to argue that monetary policy’s effects on exchange rates and the global economy on balance add to (or subtract from) demand in the initiating country in contrast with sterilized foreign exchange market intervention whose intended effects are on switching demand from the rest of the world to the domestic economy or vice versa. But this analysis again underlines the fact one cannot escape from analytic judgments, which are far from agreed evaluations of intent.
  1. Moving in this direction would dramatically undermine the progress that has been achieved in recent years primarily via US pressures within the IMF, in the G-7 and G-20, and through the Treasury’s reports on exchange rate practices. During the past dozen years, the policy approaches of US administrations have achieved greater flexibility of exchange rates, reduced intervention, and greater transparency. Importantly, the US approach has been linked to the pressing of these issues within IMF.
  1. Bypassing the IMF in this area will further weaken the IMF’s legitimacy and credibility and undermine its central role in the international monetary and financial system, at a time when US support for the IMF is already being questioned by the failure of the United States to implement the 2010 IMF reform package that the United States crafted.

What about including a currency provision with teeth in accompanying US trade legislation, for example authorizing the Commerce Department to impose countervailing duties (CVDs) to offset the impact of currency manipulation on a US industry? This is an even more questionable proposal. Five of my seven previous arguments against a currency chapter in the TPP hold. The exceptions are the need to obtain international agreement on manipulation and the threat to US monetary policy.

Added considerations are:

First, countervailing duties are a microeconomic not a macroeconomic remedy.

Second, as Gary Hufbauer and Jeff Schott have argued persuasively, the CVD remedy is unlikely to pass muster in the World Trade Organization (WTO) and could do a lot of damage to the fragile trading system in the meantime.

What about the proposal for the US Congress to authorize countervailing intervention, or for the US administration to announce such a policy, for use when the US authorities judge that another country is manipulating its exchange rate through exchange market intervention with adverse effects on the US economy? This idea is very dangerous. First, the United States has never acted in this manner, nor has any other major country to any substantial degree. For the United States, the explanation involves the central role of the US dollar in the international monetary system since the end of World War II, like it or not. Second, of course the United States can use this tool now and does not need advance authorization by the Congress or to announce its availability. Third, this approach would signal an embrace of unilateralism in international monetary policy that the United States has used only once in the post-war period, with the closing of the official gold window in August 1971. Whatever one thinks of that episode in terms of the wisdom and motivation of US policy, one cannot deny that it had long-lasting effects on international monetary cooperation.

In my view, the most important argument against the parallel track on the currency manipulation issue is that it would, in effect, amount to an abandonment of the IMF as the arbitrator of exchange rate issues. As such it would be symptomatic of a US withdrawal from the cooperative, multilateral, global system that we have designed and nurtured since the end of World War II in favor of unilateralism.


1. They were slightly revised in 2007 and 2012, but the changes were minor. Among the developments that are to be considered in judging whether a country has met its obligation include: (1) protracted large-scale intervention in one direction in the exchange market; (2) official or quasi-official borrowing that leads to liquidity risks or excessive accumulations of foreign assets for balance of payments purposes; (3) restrictions on current or financial account transactions for balance of payments purposes; (4) monetary or other financial policies for balance of payments purposes; and (5) large and prolonged current account deficits or surpluses.

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