U.S.-China Trade Imbalance
Since 1784 when the first American cargo ship the Empress of China set sail for Canton with a shipment of ginseng, trade between the United States and China has waxed and waned, except for 22 years between 1949 and 1972 when there was no trade between the U.S. and Mao’s Communist China. Since economic reforms in late 1970s, China’s share of global trade has grown tenfold.
The U.S. has had a bilateral trade deficit with China since the late 1980s; annual deficits increased throughout the 1990s, and skyrocketed in the first half of the 21st century. At the beginning of 2008, America and China are each other’s second largest trading partner, while China has replaced Canada as the largest exporter to the U.S (China is America’s third largest export market). In 2007, the United States sent $65.2 billion worth of exports to China, and imported $321.5 billion worth of goods, running up a trade deficit of $256.3 billion, the U.S.’s largest trade deficit ever with a single country. U.S. lawmakers have threatened to slap tariffs and import duties on Chinese goods if China does not reduce its huge trade surplus with the U.S.
What accounts for the huge U.S.-China trade imbalance? Some of the most commonly cited explanations by critics include: i) China restricts access to its markets while aggressively supporting exports by its domestic firms; ii) China’s low-wage/low-cost advantage; iii) China’s artificially undervalued currency.
Does China have import tariffs and quotas that restrict access to Chinese markets, thereby causing such a big differential between their exports and imports?
Although China did impose quotas and licensing requirements on many goods when it first opened itself to world trade in the 1980s the Chinese government had, by 2005, eliminated most import quotas, as per the terms of accession to the World Trade Organization (WTO) in 2001. A handful of agricultural products were exempt until 2007. And although China still has some import tariffs, they are relatively low and import tariff exemptions are widespread. Figures indicate the effective tariff protection provided to domestic firms in China is among the lowest of any developing country. The accusation that China is restricting its markets to the U.S. is belied by the fact that U.S. exports to China rose 300% between 2000 and 2007, and nearly every U.S. state has recorded triple-digit growth in exports to China since 2000.
Is China’s low wage-advantage responsible for its enormous trade surplus with the U.S.?
China’s low-wage advantage does provide some advantage in international trade, but as has been discussed in “Labor”, the huge number of U.S. imports from China are in labor-intensive products (toys, apparel, shoes, furniture) - industries that have largely moved outside of the U.S. for many years now. While China imports are only 7.5% of American spending on all consumer goods, they constitute 80% of toys, 85% of footwear and 40% of clothing that Americans buy. It is therefore not a question of Chinese exports beating out U.S. exports of the same goods. On a macro level, there is not too much overlap between Chinese and American production, as ( http://www.uschina.org/statistics/tradetable.html) from the U.S.-China Business Council shows. If anything the U.S. exports to China of skill- and capital-intensive goods such as semiconductors and microprocessors, aircraft, machinery, and petroleum and iron-ore has the effect of raising the relative wages of skilled labor in the U.S. In the end, we are almost talking about apples and oranges here. It’s just that we buy more of their apples then they buy of our oranges.
Is China’s undervalued currency responsible for the huge trade imbalance?
Because an undervalued yuan makes China exports cheaper and American exports more expensive, most experts agree that some currency revaluation may lead to some decrease in the U.S.-China trade imbalance, but not by nearly as much as most people anticipate. It also may not reduce the U.S.’ global trade deficit. Some experts like Michael Pettis, professor at Peking University’s Guanghua School of Management, believe that China’s currency does affect the trade balance, not so much because of the impact of a stronger yuan on foreign demand for Chinese goods, but rather because of its impact on Chinese domestic monetary policy. For more on currency reform, see “Currency” .
Factors Driving the U.S.-China Trade Imbalance
Americans Consuming, not Saving: The U.S. has a large trade deficit not only with China but with much of the world. Simply put, this is because the U.S. imports much more than it exports and has done so for many years now. But since 2000 when the U.S. government relaxed its monetary policy to fight recession, the U.S. has been on an especially long-running spending spree, leading to a ballooning in imports. Aided by a long housing boom, Americans borrowed against their rising property values and consumed much more than they were saving. Consumer spending makes up two-thirds of the U.S. economy. The U.S. demand for goods meshed perfectly with China’s exports of labor-intensive consumer and household goods.
Relocation of Exports to China from elsewhere in Asia: Because of the way exports are calculated based on the final place of assembly and export, China, which has become the final assembly point for a number of products such as computers and other electronic items – the component parts of which are produced in other Asian countries - has absorbed the exports previously credited to countries such as Japan, Taiwan and Hong Kong. In fact, China’s share of the overall U.S. trade deficit rose from 27% in 1997 to 28% in 2006 while the share of the rest of East Asia fell from 43% to 17% in the same period. This shows that Americans may be importing more from China, but they are now importing less from other Asian nations.
Overcounting China exports: Many of China’s exports are actually produced by foreign-invested firms in China, among them many American companies, who then ship these products back to the U.S. for sale. In fact, in recent years, the majority of China’s exports, nearly 60% by value, have been produced by foreign-invested enterprise but have been counted as Chinese exports, thus helping to drive up China’s export figures, even though the reality is that U.S. firms are selling to U.S. consumers. For example, Apple’s iPod is conceived, patented, and designed in the U.S., but is assembled in China by a Taiwanese firm using component parts from different parts of the world. China, however, only receives $3.70 from the wholesale price of $224. Most of the profits flow back to Apple even though the item is labeled “Made in China” and gets counted as a Chinese export. Typically, about 20% of revenues from each mobile phone, and 30% from each computer made in China are returned to the original investors or patent owners in the U.S. and other countries.
Undercounting U.S. sales: Conversely, due to the same method of calculating exports, the sale of goods and service to the Chinese by U.S. foreign affiliates operating in China are not counted as U.S. exports to China. This figure totaled $86.5 billion in 2005 (latest available) and was 70% larger than U.S. exports in the same year. If these figures were counted as U.S. “exports”, then the total amount of U.S. sales to China would look quite different and the trade imbalance would not be quite so large. Thus are the U.S.-exports side of the numbers in this bilateral trade relationship somewhat misleading and not reflective of the actual balance of commerce. If anything, the primary means by which U.S. firms sell goods services in China is via their foreign affiliates and not via exports, but this is almost never accounted for in the trade debate. Until a better more nuanced method of calculating becomes available, American politicians and citizens alike will have the opportunity to continue to use these somewhat inaccurate numbers to suit their own political ends.
Who has benefited from China’s big trade surplus with the U.S.?
Certain American Companies: American companies and businesses, especially large firms who have been able to relocate or outsource to China, have been the big beneficiaries as they’ve seen their comparative costs reduced. In fact, U.S. firms have profited handsomely from their businesses in China with over $4 billion in profits in 2007, 50% more than a year ago. These companies are also the ones most likely to lobby Congress against passing tariffs.
American Consumer: The average American consumer has benefited from the huge volume and wider variety of lower-cost goods (for everything from toys to clothing, footwear and electronics) coming out of China.
American Government: The American government has also benefited from China’s trade surplus as China has recycled its foreign exchange surplus into U.S. Treasury securities, which have helped fund everything from America’s wars to the bailout of the U.S. sub-prime mortgage crises (See “Foreign Currency Reserves” ).
If so many Americans have benefited from China’s huge trade surplus, why are critics still blaming China for the huge trade imbalance with the U.S.?
Displaced American Workers: Because there is one big and politically powerful group of Americans that have been negatively impacted in China’s trade surplus: American workers who have lost their jobs as a direct result of American companies relocating or outsourcing to China. The United States has lost 3.4 million manufacturing jobs lost since 1998, of which the AFL-CIO estimates about 1.3 million were tied to China. While many economists believe that on balance the low-cost of Chinese-made goods outweighs the loss of American manufacturing jobs, the difficulty is that the benefits of outsourcing (cheaper goods) are more widely distributed, while the negative toll, which although very real for those out of work, is more sector and region-specific, and tends to affect select groups of U.S. workers. These workers can often and do form a strong political bloc to apply pressure on politicians, or are often in “swing states” such as Pennsylvania, Michigan and Ohio that are important to politicians’ electoral success. For these displaced workers and politicians, blaming China can be easier than blaming the companies that chose to move their operations to China, and from whom they may be buying cheap goods from at the same time!
Easier than Addressing Domestic Problems: For politicians, blaming China, with its large trade surplus and consistently high growth rates around 10% a year, is easier to do than to address the underlying systemic causes for job loss (see "Labor") and to look for ways in which the United States might be more competitive. For example, experts fear that America’s global competitiveness may already be undermined by the erosion of its education system, especially in the maths and sciences.
Chinese Government's Response
Reduced Incentives for Exporters: After years of complaints from the U.S. and other countries about its growing trade surplus, China has removed or reduced tax rebates on hundreds of items for export including toys, clothing, wood, leather and other goods, which is effectively a tax on these exports, making them more expensive. At the same time, the Chinese say that they cannot be blamed for American’s voracious appetite for inexpensive goods.
Decrease of China Exports: As of mid-2008, as the United States appears be heading into, if it isn’t already in, some kind of recession, demand for Chinese exports will likely decrease. In China, a confluence of factors (including high domestic inflation, more stringent labor laws, the scrapping of export tax rebates, and the stronger value of the yuan) has led to an increase in the cost of doing business in China. Whether and how much those rising costs are passed onto American consumers will likely vary as given today’s long and complex supply chains, there are a number of places along the way where Chinese manufacturers and/or the American importers/companies can take on more of the financial burden by cutting into their own profit margins in order to maintain market share. Assuming some increased cost is passed on to American consumers, expect the number of exports from China to the U.S. to decrease as recession-hit Americans reduce their consumption, all of which will certainly lead to some reduction in the trade imbalance (assuming U.S. exports to China remains more or less at the same level).
In the end, the only significant way in which the U.S. trade deficit with China, and with the rest of the world, will decrease is if the U.S. consumes less. Americans’ low savings rate means that even if the yuan were to rise appreciably, the U.S. trade deficit will just shift to other countries.
The Battle over Free Trade: It is commonly accepted that most economists, including the many experts cited in these pages, are advocates of free trade. Economists at the Institute for International Economics and the Center for Strategic and International Studies, for example, argue that over the last 60 years, the U.S. economy is “about a $1 trillion per year richer as a result of the expansion of international trade…and could gain another $500 billion annually if the world were to move to totally free trade.” There would, however, also be losses of around $50 billion per year in the form of lost jobs, and lower wages for some. It is likely that most of these same economists advocating for free trade are highly skilled and will not have to worry about losing their jobs to another economist in China or India. But for the majority of American workers, the pain of job losses is very real. Little wonder, then, that there is much ambivalence in the U.S. about free trade, as is reflected in the fact that major trade legislation in Congress in the last decade has had about equal numbers of supporters and detractors. For better or worse, China has become the face of globalization, and rightly or wrongly, has become an easy target for many Americans’ anxieties. Ultimately, politicians need to know that the attitude of Americans towards global trade will depend in large part on the degree to which the U.S. can provide the proper education and (re)training programs to move displaced workers into new jobs that can take advantage of globalization.
American politicians arguing for tariffs on China exports or worse, an outright ban on certain products, will hurt not only American consumers, but also many American businesses with operations in China. This could in turn lead to greater unemployment back home as these same affected American businesses start to lay off workers here. Also hurt will be Americans who may be shareholders in any of these businesses.
1 C. Fred Bergsten, Bates Gill, Nicholas R. Lardy, Derek Mitchell, “China in the World Economy: Opportunity or Threat?,” in China: The Balance Sheet: What the World Needs to Know Now About the Emerging Superpower, New York: PublicAffairs™, 2006, 78.
2 The U.S.-China Business Council, “U.S. Exports to China By State: 2000-2007”, The U.S.-China Business Council Report, 2007, http://www.uschina.org/public/exports/state_exports_2007.html (accessed 7/22/08).
3 Bergsten, “China in the World," 84.
4 The U.S.-China Business Council, “U.S. Exports to China By State.”
5 David Barboza, “China’s Inflation Hits American Price Tags,” New York Times, February 1, 2008, http://www.nytimes.com/2008/02/01/business/worldbusiness/01inflate.html?_r=1&oref=slogin (accesed 7/23/08).
6 Bergstein, "China in the World," 74.
7 Michael Pettis, blog post on “The value of the RMB does matter to the trade balance (2)” China Financial Markets Blog, posted December 3, 2007, http://www.piaohaoreport.sampasite.com/china-financial-markets/blog/d/2007-12-03.htm (accessed 12/28/07).
8 Catherine Clifford, “Consumer spending shows slow economy,” CNNMoney.com, May 30, 2008, http://money.cnn.com/2008/05/30/news/economy/personal_income/index.htm?postversion=2008053009 (accessed 7/22/08).
9 William Overholt and Pieter Bottelie, “Cost of Unleashing China’s Currency,” Christain Science Monitor, July 13, 2007, http://www.csmonitor.com/2007/0713/p09s02-coop.html (accessed 7/22/08).
10 Michael Enright and Sun Hung Kai, “China’s Economy Into the Future,” in China Into the Future: Making Sense of the World’s Most Dynamic Economy, ed. W. John Hoffmann and Michael J. Enright. (Singapore: John Wiley & Sons (Asia) Pte. Ltd.), 33.
11 Joseph Quinlan, “The Top Ten Things Every Investor Should Know About U.S.-China Relations,” Kiplinger Business Resource Center, December 2007, http://www.kiplinger.com/businessresource/summary/archive/2007/china_checklist_quinlan.html (accessed 1/6/08).
12 Jianxiong Zhang, “Acknowledging China,” The Globalist, February 28, 2008, http://www.theglobalist.com/DBWeb/StoryId.aspx?StoryId=6657 (accessed 3/8/08).
13 Quinlan, “The Top Ten Things.”
14 David D. Hale and Lyric Hughes Hale, “Reconsidering Revaluation: The Wrong Approach to the U.S.-China Trade Imbalance,” Foreign Affairs, January/February 2008, http://www.foreignaffairs.org/20080101faessay87104/david-d-hale-lyric-hughes-hale/reconsidering-revaluation.html (accessed 1/2/08).
15 Committee of 100, “American Jobs Displacement Dispute,” Committee of 100, Issue Brief, April 2007, http://committee100.org/publications/publications_issue.htm (accessed 12/5/08).
16 Committee of 100, “Committee 100 Outsourcing Resource Guide,” Committee of 100 Initiatives Publication, November 30, 2003 – May 31, 2004, http://committee100.org/initiatives/publications_outsourcing.htm (accessed 7/22/08).
17 Bergsten, “China in the World," 77.
18 Bergsten, “China in the World”.
19 Bergsten, “China in the World,” 77-78.