US and China: A trade war brews

Now come signs of a trade war.

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What's happening is that the US is pressing China to revalue its currency by at least 10 percent, as a first step to a larger revaluation, and to clean up "unfair" trade practices. The Chinese government hasn't yet made such changes. And the US clamor doesn't help. Chinese leaders do not want to appear to be kowtowing to the US.

Neither side seems to grasp the dangers of such a deterioration in relations.

"The White House doesn't have a handle on it," says Harald Malmgren, an economic consultant in Washington, D.C. It's an "out-of-control issue."

The issue is important for Americans, and not just for those buying Chinese-made clothes at Wal-Mart. A major economic slowdown in China would hurt the world economy, slowing US economic growth and cutting jobs.

Moreover, the Chinese central bank is financing the massive US trade deficit by $1 billion a day. Without those loans, US interest rates would spike upward. Interest rates on mortgages would rise, hitting housing sales, and raising costs for millions of homeowners.

"This is a huge deal," says Clyde Prestowitz, president of the Economic Strategy Institute in Washington. "We are on life-support from China's central bank."

Both sides believe the other side has too much to lose to permit a trade fight, says Mr. Malmgren, who helped negotiate the Kennedy Round of world trade liberalization decades ago.

The US figures China needs access to American consumers for the host of manufactured goods it exports and will make concessions to safeguard that arrangement. On the other side, China sees the US wanting to continue to supply Chinese consumers with its farm products, and to protect its huge corporate investments already in China.

But Malmgren figures both Washington and Beijing assessments hinge on major miscalculations. Top Chinese officials have minimal knowledge of economic issues, he says. They aren't aware of the political dynamics in Washington. Moreover, they are preoccupied with keeping their capitalistic boom going at home and keeping a lid on domestic dissent.

But pressures are building in Congress to force the Bush administration to confront China in a tough way. Anti-China sentiment is rising among both Democratic and Republican legislators in Congress. But the US may not carry the economic clout it once had, experts say.

"The US will have to adjust to deal with another major power," says Mr. Prestowitz. "So far we are in a kind of denial."

In his new book, "Three Billion New Capitalists," he warns of developments that threaten to end 600 years of Western domination. They include the rise of Asia, unsustainable US trade deficits resulting in a buildup of dollar reserves in China and elsewhere, and the entrance of 2.5 billion Chinese and Indians into the world's job market.

The more immediate danger is a tit-for-tat trade fight. The US has already put quotas on imports of some Chinese textiles. China hints it might buy farm products such as soybeans from Brazil rather than the US.

In the US, Democrats charge the Bush administration with insensitivity to concerns of average working people by letting manufacturing jobs go to China.

As well, the emotional level on China is "running surprisingly high" among congressional Republicans, holds Malmgren. They worry about the safety of their seats in the 2006 election. So they take a strong stance against China and the "outsourcing" of work to China. They complain about Chinese piracy of US intellectual property, disputes with Taiwan, and inadequate Chinese pressure on North Korea to restrain its nuclear ambitions.

"China has not as much influence on North Korea as we think," cautions Prestowitz.

For a long time, the Bush administration has followed a policy of gentle, quiet efforts to persuade the Chinese to deal with currency and trade issues. But the US position has become "schizophrenic," according to Prestowitz. For instance, on June 4, Defense Secretary Donald Rumsfeld strongly criticized China for "its continuing large and expanding arms purchases."

Last Friday, China and the European Union reached a friendly agreement curtailing certain Chinese textile exports. Chinese negotiator Bo Xilai indicated China's preference for such a negotiated deal, rather than the US unilateral caps on China's textile exports. He reportedly cited a Chinese saying: "If you respect me by an inch, I'll respect you by a foot."

Both the Bush and Clinton administrations kept various issues with China - trade, currency policy, security, human rights, democracy, environment - on separate tracks. To Malmgren, that policy seems to have broken down. That's reflected in Congress where 67 Senators voted last month to call for a 27.5 percent tariff on all imports from China if it failed to alter its exchange rate substantially. That legislation is scheduled to come up again this summer, with a surprised administration trying to quell the uprising.

On the currency side, the US Treasury has sought to avoid designating China as a nation that manipulates its exchange rate to gain unfair competitive advantage in trade. If it did make such a designation, under existing legislation, it would be required by law to prepare sanctions or countermeasures.

The Treasury implied that China would have to revalue by the next semiannual currency report to Congress in October. China hasn't yet acted.