Paulson tells China: Let our banks do for you what they've done for us

Expectations Low for U.S.-China Economic Talks

By Martin Crutsinger
Associated Press
via Yahoo News
Saturday, June 7, 2008

http://news.yahoo.com/s/ap/20080607/ap_on_go_ca_st_pe/us_china_talks;_yl...

WASHINGTON -- A global credit crisis and record oil prices will be competing with traditional trade and currency issues when top officials from the United States and China gather in Annapolis, Md., later this month.

However, there is little expectation the fourth round of these high-level discussions will produce any major breakthroughs.

The discussions, given the weighty title of the "Strategic Economic Dialogue" when they were launched in 2006, could in fact be on life support, waiting to be put out of their misery by the next administration.

That is not the outcome envisioned by Treasury Secretary Henry Paulson, who had big plans when he came up with the idea to gather a large contingent of President Bush's Cabinet with their counterparts from the Chinese government twice a year, alternating between the two countries.

The next meeting was scheduled for June 17-18 at the U.S. Naval Academy with Paulson giving a speech in Washington on Tuesday outlining the administration's hopes for the gathering. Considering the daunting challenges he faces, he may well use his talk to try to lower expectations.

The two sides will certainly have a lot of concerns about the global economy to keep them occupied: soaring oil prices, a severe credit crunch, worries about a recession in the United States.

Oil prices took their biggest single-day leap ever on Friday, jumping by nearly $11 to $138.54 per barrel, an increase that helped drag down the Dow Jones industrial average by nearly 400 points as investors grew more worried about the fate of the U.S. economy.

Those fears were heightened by a report earlier in the day that the U.S. unemployment rate jumped one-half percentage point in May to 5.5 percent, the biggest increase in 22 years.

The administration would like to ease worries about employment in the United States by getting China to allow its currency, the yuan, to rise more quickly in value against the dollar. U.S. manufacturers contend that the Chinese have gained unfair trade advantages by keeping the yuan undervalued, making Chinese goods cheaper for American consumers and American products more expensive in China.

The yuan has risen almost 20 percent against the dollar since the Chinese revamped their currency system in July 2005. Critics say that is less than half of the distance it needs to go to erase an unfair trade advantage they contend has contributed to the loss of more than 3 million U.S. manufacturing jobs since 2001.

As part of the effort to encourage a swifter revaluation of the yuan, Paulson has been urging the Chinese to open their financial system to foreign banks and investment houses including major U.S. institutions. They have the expertise, he maintains, to help guide the Chinese to a more modern financial system with a currency whose value is not controlled by the government but set by free-market trading.

However, Paulson is likely to meet strong resistance from the Chinese in this area, given the billions of dollars in losses suffered by U.S. financial giants in the credit crisis that erupted last August. The Chinese are likely to say they don't need the financial innovation that has brought so much grief to U.S. firms.

Likewise, a U.S. effort to get China to promote greater energy efficiency as a way of reducing strains on global supplies will also face strong resistance. In fact, the Chinese have been moving in the opposite direction, providing ever greater subsidies to keep energy prices low as global prices have surged.

"Over the past year, China has really fallen off the energy conservation wagon," said Nicholas Lardy, a China expert at the Peterson Institute for International Economics in Washington. "This will make it very difficult for China to cut energy use relative to their gross domestic product."

And the Chinese are signaling that they do not intend to speed up the pace at which they are allowing their currency to rise in value against the dollar. They are going as fast as is prudent, they argue, despite demands in Congress to pass legislation that would impose economic sanctions on China if they do not move faster.

For one thing, if the dollar fell in value more quickly against the yuan it could trigger bigger dollar declines against other currencies such as the euro, where it has already touched record lows. Just this week, Federal Reserve Chairman Ben Bernanke said that the dollar's decline had contributed to an "unwelcome rise in import prices and consumer-price inflation," remarks which were seen as a signal that the Fed doesn't plan to cut interest rates further because of heightened inflation concerns.

"Right now, we are interested in getting some dollar stability and if China allowed the yuan to appreciate more quickly it could create more turmoil and a possible run on the dollar that would exacerbate our current plight," said Mark Zandi, chief economist at Moody's Economy.com.

Analysts are not expecting any breakthroughs on a host of other trade tensions between the two countries even though the U.S. deficit with China rose last year to $256 billion, the highest ever recorded with a single country and one-third of the total U.S. deficit with the world.

China has announced that it will bring a trade delegation along in conjunction with the upcoming talks with the expectation that the Chinese will embark on a buying spree to purchase U.S. products as a way of easing unhappiness over the trade gap. The Chinese delegation will have a new leader, Vice Premier Wang Qishan, who took over in March from the long-serving Wu Yi.

Wang and Paulson are expected to have a closer working relationship given their similar backgrounds. Wang headed one of China's largest banks for many years and Paulson was the head of investment banking giant Goldman Sachs before joining the Bush Cabinet.

With expectations for results low, it is unclear what Paulson will be able to produce, especially given the fact that the administration has only a few months left in office. The Chinese may well conclude that they would rather negotiate with the next administration come January.

However, the Chinese might be wise to give Paulson's team some victories or face the prospect that a new administration will decide to junk the whole exercise, which in the view of supporters would be a mistake.

"These talks have prodded China to make some changes over the past two years. It has not achieved everything we had hoped for but it has been a positive force," said Frank Vargo, vice president for international affairs at the National Association of Manufacturers.

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