Cry Manipulation, and Let Slip the Dogs of Currency War

I have made the case several times that the Chinese government painted itself into a corner with their currency policy, most recently in The Logic of Strategy: Yuan Devaluation and the Road to Trade War.

Very simply: The central bank (PBOC) controls the exchange rate. The PBOC managed the rise in the yuan to keep it orderly, but the market was moving in the same direction, making their job relatively easy. The Chinese government, when attacked by countries such as the U.S., was blamed for not allowing the currency to rise faster.

Now the outlook for the yuan is reversed. The currency should devalue. If the PBOC manages a decline in the renminbi, the U.S. will attack it, saying the central bank is manipulating the currency lower. If the PBOC let's the market take over, a currency crisis is very possible. Here's the kicker: the Chinese decision to let the market determine the value of the currency is itself a political decision. American politicians critical of Chinese currency policy won't be happy if the result of market determined exchange rates is a 20%-plus devaluation in the yuan.

U.S. warns China over currency depreciation

The United States warned Beijing on Monday that the recent depreciation of the Chinese currency could raise "serious concerns" if it signaled a policy shift away from allowing market-determined exchange rates.

Last month, U.S. Treasury Secretary Jack Lew welcomed a decision by China to allow its currency to vary more against the dollar in daily trading.

Monday's comments by a senior official from the Treasury Department suggested the United States was not completely sold on China's intention to reduce authorities' interventions in exchange markets.

"If the recent currency weakness signals a change in China's policy away from allowing adjustment and moving toward a market-determined exchange rate, that would raise serious concerns," the official, who asked not to be named, told journalists in a phone call.

Protectionism is coming.