China’s Baby Step

Whatever the ultimate economic effects of China’s first modest step towards floating its currency, one has to admire its strategic brilliance. The genius of China’s mini-move (allowing the Yuan to rise 2% against the dollar) is that no one can tell when or what is going to happen next.

Protectionists in the United States and Europe, itching to slap huge punitive tariffs on Chinese goods, have been caught flat-footed. They want to keep bathing in press coverage, but if they push their China-bashing too far and too fast, the protectionists will be seen as hindering delicate behind-the-scenes negotiations.

But no one knows whether China’s baby step is the start of something much bigger, as China’s authorities hint one day and deny the next. By relenting just a little to intense global pressure to revalue its exchange rate, the Chinese leadership has masterfully stifled the growing chorus of demands to rein in its growing trade surplus. The key question, however, remains whether China is defying market forces at its own risk.

On the surface, at least, the mini-revaluation hardly seems to have compromised China’s ability to bend exchange markets to its will. Foreign experts had warned that a small Yuan appreciation might be worse than none. While hardly denting global trade imbalances, a small move would bring in a flood of foreign capital, overwhelming China’s currency defenses and leading to chaos. So far, that has not happened and, China once again seems to have gone its own way and proved the experts wrong.