EU Backs China's Gradual Yuan Moves, Splits With U.S. (Update3)
April 3 (Bloomberg) -- The European Commission backed China's policy of switching to a more flexible exchange-rate system at its own pace, rebuffing U.S. calls for faster steps to boost the yuan, according to a confidential document.
The commission, the European Union's Brussels-based economic watchdog, warned that sudden moves to strengthen the Chinese yuan as demanded by some U.S. officials could further weaken the dollar against the euro.
``China should introduce greater exchange-rate flexibility in a gradual manner,'' according to a document obtained by Bloomberg News. A gradual move would lessen the risk of the dollar, euro and Japanese yen ``overshooting'' on the markets.
The U.S. is pushing for a more flexible exchange-rate system to boost American exports and erode the U.S. trade gap with China, which reached a record $201.6 billion in 2005. U.S. officials complain that China keeps the yuan, a denomination of the renminbi, artificially depressed so Chinese products are cheap in the marketplace.
The yuan has appreciated 1 percent against the dollar since China on July 21 replaced a decade-long peg to the dollar with a basket of currencies and let its exchange rate rise 2.1 percent immediately.
No. 1 Customer
The U.S. is the biggest market for the 12 European countries using the euro. European exports of 184.8 billion euros ($223 billion) to the U.S. last year dwarfed exports to China of 43.5 billion euros. Europe's trade deficit with China, at 74.1 billion euros in 2005, was less than half the U.S. level.
``An abrupt de-pegging of the renminbi, and possibly other Asian currencies, from the dollar could give rise to a sudden reversal of Asian capital flows into the U.S., which might risk an excessive additional downward movement of the dollar against the euro,'' said the commission document, which was prepared for an April 6 meeting of European finance ministers in Vienna.
Finance chiefs from Asian countries including China and Japan will meet the EU ministers on April 7 and 8.
``The Europeans are concerned that should China allow more appreciation in the yuan that we could see an acceleration of dollar weakness, and that could spill over into major markets, and we could see European currencies strengthening,'' said Sabrina Jacobs, a currency strategist at Dresdner Kleinwort Wasserstein in London.
The euro bought $1.2063 at 3:15 p.m. Brussels time, compared with an average of $1.2453 last year.
U.S. Pressure
The U.S. raised the pressure on China last week, with Treasury Undersecretary for International Affairs Tim Adams saying the Chinese government has been ``far too cautious'' on currency policy and should switch to a more flexible system now.
With congressional elections in November, the U.S. has taken the lead in calling for a currency revaluation in China, which has leapfrogged the U.K. to become the world's fourth- largest economy. Steps so far have ``not satisfied the demand of U.S. policy makers,'' said the commission document.
U.S. Senators Charles Schumer and Lindsey Graham are calling for 27.5 percent tariffs on Chinese imports, though last week they delayed a vote on the proposal until September. Some U.S. analysts predict legislation punishing China for the undervalued currency will pass before the November election.
``There has been more aggressive rhetoric from the U.S., but rhetoric is not going to make the Chinese move faster,'' said Marios Maratheftis, a currency strategist in London at Standard Chartered Plc, a bank that makes about two-thirds of its profit in Asia. ``They're on the correct path with a gradual strengthening of the yuan. Gradual is the key word.''
Currency Manipulation
Separately, the U.S. Treasury is considering whether to brand China a currency manipulator for the first time in more than a decade. That ruling may be delayed until after Chinese President Hu Jintao's April 20 visit to Washington, Adams said last week.
The yuan declined to 8.0199 against the dollar today in Shanghai, from 8.0172 on March 31, according to data Bloomberg compiled.
European governments have sought to whittle away at China's trade advantages by imposing tariffs or filing complaints at the World Trade Organization. Last month the EU slapped duties on some Chinese leather shoes, following last year's decision to set limits on Chinese clothing imports.
Pushed by French President Jacques Chirac, EU leaders last year considered dropping a ban on arms sales to China that was imposed after the 1989 Tiananmen Square crackdown against pro- democracy demonstrators. Pressure from the U.S. and a change in government in Germany led the EU to keep the ban in place.
In a rare joint move, the U.S. and EU last month threatened to take China to the WTO for setting tariffs on car parts that raise costs for foreign auto factories in China.
Forecasting Difficulties
Looking at U.S.-European economic relations, the commission document said it is ``unclear'' whether the dollar will continue to recover or weaken against the euro this year. While interest rates and economic growth remain in the dollar's favor, the end of the phase of U.S. interest-rate increases could benefit the euro, the document said.
Some Asian governments, flush with dollars in their reserves, may let their currencies strengthen this year as an insurance policy against future crises, said the document, prepared by the commission's economics department and dated March 17.
Also weighing on the currency markets is the risk of a widening U.S. current-account deficit along with increasing surpluses in Asia, the document said. The result may be a ``disorderly'' realignment of the world's major currencies.
``There remains the risk that, as imbalances continue to widen, the likelihood of a disorderly correction increases,'' the document said. ``Even if a disorderly correction is the less likely scenario, it may involve very large costs.''
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