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What are the stakes in the U.S.-China yuan tussle?
WASHINGTON/BEIJING (Reuters) - China's reluctance to let markets play a freer hand in setting the value of the yuan, also called the renminbi, is a festering irritant that both the United States and China want to keep from getting out of hand.

China says it manages the yuan's exchange rate against a basket of currencies, but if there is a basket, the dollar is far and away the heaviest component. The history of China's "managed float" regime divides neatly into two parts: July 2005 to July 2008, when the yuan gradually rose 21 percent in a crawling peg to the dollar; and July 2008 to the present, when the yuan has been virtually repegged at about 6.83 to the dollar.

Since removing the yuan from a formal decade-old dollar peg in July 2005, Beijing has insisted that it is perfecting the exchange rate's "formation mechanism," but the renewed rigidity over the past year has fueled growing anger abroad.

U.S. critics, especially business lobbying groups, complain that China has stopped the yuan from appreciating despite the Asian export giant's growing clout in the global economy.

China says that a stable exchange is an important help for its beleaguered exporters and that it also promotes stability in the global economy.

WHY DOES THE UNITED STATES OBJECT TO CHINA'S POLICY?

The Obama administration feels that Beijing's policy thwarts normal market adjustments that would push up the value of the currency of a rapidly ascending economy like China's, thereby making its products more expensive for foreigners.

As a result, China is amassing huge trade surpluses as well as swelling foreign exchange reserves as money pours in from sales of its products around the world.

IS THIS JUST AN ISSUE FOR AMERICA?

The International Monetary Fund has urged China to permit more exchange rate flexibility as an important part of efforts to rebalance global growth and as a way for Beijing to gain more autonomy in setting monetary policy.

European countries have also trekked to Beijing to urge it to let the yuan rise. Others that see their stores becoming outlets for Chinese-made goods have also cried foul.

"They are running a great risk with this policy. It is a cause of some of the imbalances in the global economy. It is a contributing factor to some of the vulnerabilities that have existed and were realized," Bank of Canada Governor Mark Carney said recently.

WHAT WOULD HAPPEN IF CHINA LET ITS CURRENCY APPRECIATE?

Theoretically, the cost of Chinese-made products would rise for consumers around the world. If prices rise sufficiently, other countries' goods might be substituted for those China now makes. Some in the United States hope that domestic firms that now say they cannot compete might decide that they can boost their share of export markets, in turn cranking up production and hiring. If Chinese consumers were empowered with a stronger currency, they might become more aggressive importers, perhaps even swinging China's trade surplus to deficit.

In practice, though, the yuan's 21 percent rise from 2005-2008 barely registered on the price tags of Chinese goods abroad, as buyers -- often foreign firms like Wal-Mart -- demanded that costs be kept down and their suppliers were able to oblige, thanks in part to productivity gains. Continued...
http://www.reuters.com/article/hotStocksNews/idUKTRE5A14ED20091102