Origin, Advantages, and Disadvantages of High

Chapter 13. The Debate is Far From Over 429

13.4 Origin, Advantages, and Disadvantages of High

Savings can be divided into three categories: government, enterprise, and household savings. China has a high savings rate because these three categories are all very high. Government and enterprise savings continue to increase substantially, but household savings have been in a downward trend.

The sharp rise of the government savings rate continues to increase the total savings rate and thus the government revenue as well. This money is used for significant government-led investment and infrastructure, but spending on elderly support, medical care, education, scientific research, and residential housing is low.

Two major factors cause the increase in the household savings rate. First, given that the social security system has not been per- fected yet, people worry about elderly support, medical care, and children’s education so they dare not spend their money. Second, the first generation effect also plays an important role. A man’s con- sumption habit is formed in his youth with considerable inertia. The first generation in the economic take-off period will maintain a high savings rate. As the young generation gradually starts working, the high savings rate comes to an end and falls with increased per capita income. The savings rate often rises initially and then drops when poor countries catch up with rich ones. No country in the world can maintain a high savings rate for a long time. Chinese residents’

1The People’s Bank of China announced on April 14, 2012, that the floating range of the trade prices of the USD against the RMB in the inter-bank spot foreign exchange market would be expanded from 0.3% to 0.5% as of May 21, 2007.

The Debate is Far From Over 437

savings rate has been dropping. The history of South Korea and Taiwan indicates that a high savings rate usually lasts for only 20–25 years. Therefore, China’s high savings rate can be maintained up to 2015–2020.

Similar to water under the bridge, the formation of China’s high savings rate is consistent with the economic development law. The household savings rate inevitably declines every year. People must fear and adapt to the law and should not try to change it. Federal Reserve Chairman Bernanke et al. blame China’s high savings rate as the root cause of the global financial imbalance, which is unrea- sonable.

Generally, high housing price has no close relationship with the savings rate. If residents save money to buy a house, negative savings must appear after the house is bought. However, changes in residents’

expectations can affect the savings rate in the short term. Restricting purchasing and loaning, lifting the threshold of housing mortgage, and other measures may reduce residents’ consumption and raise the savings rate in the short term.

Residents’ savings deposits increase sharply and form a huge dammed lake after years of accumulation. The property rights of these savings deposits are difficult to control because they are scat- tered in thousands of houses. Consumption and investment can be regarded as the flood discharge channels, but savings are the rain that continually falls into the dammed lake. Therefore, the following actions should be taken: give guidance and adopt precautions at the same time; promote domestic demand and reduce the savings rate;

increase government spending on medical care, education, elderly support and low-rent housing, speed up tax system reform, increase employees’ wages by reducing enterprises’ tax burdens, and estab- lish and perfect the social security system to free residents of future troubles and increase consumption; open effective investment chan- nels for residents’ deposits and systematically guide domestic capital to go abroad; and reform the exchange rate formation mechanism, extend the floating range of the RMB exchange rate, and reduce the currency input by the central bank. The urgent task is to prevent high inflation.

438 From Trade Surplus to the Dispute over the Exchange Rate

Stimulating domestic demand by increasing wages under the existing system is completely wrong. The results must contradict the wishes.

13.5. Impact of RMB Appreciation on Employment and Foreign Trade

Adjusting the RMB exchange rate is a complex systematic project with a high degree of uncertainty. Some people in the country oppose RMB appreciation because they lack information about the impact of exchange rate changes. Given the lack of quantitative analysis, people are fearful of exchange rate changes. This fear stems from uncertainty, and it can be eliminated by deepening the people’s understanding and conducting quantitative analyses. Quantitative control is necessary in all macro-adjustments to avoid going from one extreme to another. In fact, China does not need to be afraid because exchange rate adjustment is conducive to its sustainable develop- ment. Therefore, a reasonable exchange rate adjustment range and path can be taken to protect China’s interests.

The computable general equilibrium model has behavior descrip- tions of different subjects in a system framework and constructs a consistent interaction mechanism within the economic system; this model fully reflects the general equilibrium characteristic of a slight move in one part that affects the whole situation. The GMCGE model established based on a continuous global input–output database distinguishes between processing trade and non-processing trade in input–output data, ensures the endogenous equilibrium of the social accounting matrix after the distinction, and completes the department classification according to the requirements of inter- national trade research. Accurately describing the global industrial chain and value-added process requires reorganizing the data with new methods and separating the processing data based on GTAP data, thus accurately reflecting the input–output relationship of the processing trade within the industries between different countries.

Before 2005, the RMB exchange rate was pegged to the U.S. dol- lar, causing the U.S. deficit to increase. After 2005, RMB appreci- ation continued to increase the U.S. deficit. No correlation between

The Debate is Far From Over 439

RMB appreciation and the U.S. trade deficit is supported by statis- tical laws.

China’s trade surplus against Europe and the U.S. is related to the global intra-industry division of labor. Many multinational com- panies (primarily from Europe and the U.S.) invest in China. These companies import raw materials and spare parts from countries all over the world (primarily Japan, South Korea, and Taiwan), man- ufacture the products in China, and then export them. The inter- mediate inputs provided by Europe and the U.S. are lower than the consumed products made in China so they have high trade deficit against China according to customs statistics. Japan, South Korea, and Taiwan provide a number of spare parts but consume few prod- ucts; thus, they have trade surplus against China. The intra-industry division of labor is the result of market competition and is consistent with the law of economic development. This division is conducive to both sides of the trade and globalization and is thus favorable. There- fore, searching for ways to correct the distortions in the pattern of international trade should be continued.

13.5.1. Influence of RMB appreciation

on labor-intensive and high-technology products

RMB appreciation significantly influences the export of labor- intensive products. Minimal RMB appreciation cannot offset the competitive advantage of products made in China and maintains orders, but significant appreciation will cause orders to move to other countries. RMB appreciation negatively affects labor-intensive industries (e.g., the clothing, shoe, hat, furniture, and textile indus- tries), does not affect the chemical, smelting, electrical equipment, transportation, communications, computer, electronic equipment, and general equipment industries, and positively affects the special equipment, non-metallic mineral, instrument, and meter manufac- turing industries. RMB appreciation affects industries dominated by science and technology less significantly than those involving little science and technology.

440 From Trade Surplus to the Dispute over the Exchange Rate

RMB appreciation reduces export surplus in general trade in the high-technology product market but increases that of high-techno- logy products, with intra-industry trade as the primary trade yearly.

After combination, the impact of RMB appreciation on the trade surplus of high-technology products is insignificant.

13.5.2. Impact of RMB appreciation on processing trade and general trade

Nearly half of China’s foreign trade is processing trade, and the impact of RMB appreciation on general trade is significantly higher than that on processing trade. The trade surplus of departments with a small proportion of processing trade is reduced by RMB appreci- ation, but that of departments with a large proportion of process- ing trade is increased. When reducing employment in general trade departments, RMB appreciation increases that in processing trade;

when reducing employment in tradable departments, RMB appreci- ation can increase that in non-tradable departments.

13.5.3. Impact of RMB appreciation on employment RMB appreciation positively or negatively affects employment in dif- ferent industries and sectors. Changes in both macroscopic employ- ment and employment in specific industries should be considered.

RMB appreciation is conducive to industrial upgrading and thus transfers part of the labor force from labor-intensive industries to high-technology and service industries. RMB appreciation is also con- ducive to the structural adjustment of China’s export commodities.

An inflection point exists between the exchange rate and the new domestic level of employment. Exchange rate appreciation lower than the inflection point does not affect domestic employment, but appre- ciation beyond the inflection point may reduce domestic employment opportunities. Moderate appreciation (e.g., about 10%) does not seri- ously affect the domestic employment market but stabilizes domes- tic finance, reduces inflation pressure, corrects trade imbalance, and promotes the sustainable development of China. To a certain extent,

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RMB appreciation does not reduce jobs in departments with strong competitive advantages.

Exchange rate adjustment has less impact on unemployment than on industrial upgrading. Unemployment in the Pearl River Delta is more significantly affected by industrial upgrading than by RMB appreciation.

13.5.4. Controlling the range of RMB appreciation

The RMB inevitably appreciates because of the large amount of for- eign capital flowing in. Moderate appreciation conforms to economic law. As a reasonable equilibrium exchange rate cannot be deter- mined, a one-off appreciation adjustment scheme does not exist. In terms of both theory and practice, exchange rate adjustment is a continuous and gradual process.

If the RMB exchange rate appreciates by 5% every year, China’s trade surplus will decline yearly, and the gap between China’s imports and exports is expected to be negative for the first time in 2016. If the real exchange rate appreciates by 10%, China’s trade deficit will increase in 2013. The average annual appreciation of the real RMB exchange rate by 5% insignificantly affects China’s domes- tic production as measured by physical output. Increasing the real appreciation range to 10% will significantly reduce China’s real GDP.

Controlling RMB appreciation within a certain range will increase the difference between the increase in job opportunities in the service industry and processing trade sector and the reduction in jobs in the labor-intensive industries. Instead of declining, overall employment will improve; this observation explains why China’s job market does not decline with RMB appreciation. The annual appreciation of the real RMB exchange rate by 10% will seriously impact China’s labor market expectations and reduce the creation of new jobs.

Significant RMB appreciation, which considerably increases the unemployment rate, may be beyond the capacity of society. There- fore, the pace should be slowed down, and reform should be divided into several steps.

442 From Trade Surplus to the Dispute over the Exchange Rate

13.6. A Win–Win Free Trade Agreement is Better than a Lose–Lose Trade War

Economic sanctions involve restrictions on finance, import, and export. The success rate is only 17.9% for export restriction and 20%

for import restriction, but the success rate of restrictions on both import and export is 20%. Combining the restrictions on finance, import, and export increases the success rate to 40.3%.

Economic sanctions inevitably cause anti-sanctions on the other side; thus, both sides pay the price. In fact, all economic sanctions force the other side to suffer economic losses at the expense of one’s own economic losses. From the economic interest point of view, eco- nomic sanctions benefit no one but damage the attacker. Considering the non-economic factors as more significant than economic factors causes economic sanctions to have an effect.

The “five commandments” of trade war are as follows: (1) Do not impose sanctions on large powers; (2) Impose sanctions on your friends; (3) The intensity of the sanction exceeds the limit of the other side; (4) Form a united front; and (5) Set a few goals only and win quickly.

The trade war between China and the U.S. depends on the reason- ing of both sides with regard to dealing with major international con- flicts. Generally, the U.S. government considers if it will win, whereas the Chinese government considers if it can afford to lose in making decisions. If the U.S. loses even just a little, Americans are expected to quarrel bitterly. Therefore, the U.S. may lose not in business or in the battlefield but to itself.

As no alternative exists between the export products of China and the U.S., RMB appreciation is likely to promote U.S. exports as well as U.S. prices. As a result, domestic production measured by physical output will slightly drop. Significant RMB appreciation (e.g., by 10%, 15%, and 20%) reduces U.S. residents’ consumption by 0.17%, 0.27%, and 0.37%, respectively, thus causing inflation pres- sure without any job opportunity created. RMB appreciation most significantly impacts the U.S. auto industry.

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The U.S.–China trade war does not contribute to increasing the U.S. domestic production (physical production changes between

−0.07% and 0.07%), driving the investment (which falls by 0.44%

to 1.57%), stimulating consumption (price rises by 0.13%–0.18%), or increasing the domestic employment (3,000–15,000 jobs lost). The only advantage is that the trade deficit slightly declines (only by 0.05%–0.45%). This practice, which benefits no one but disadvan- tages the agent, is unreasonable.

Neither side gains in the trade war. The U.S. may lose and lose more significantly than China. The key to prevent a trade war is to let the U.S. right-wing forces know about the damage of a trade war to itself and to not do anything rash.

Cooperation is better than confrontation, and free trade is better than a trade war. Rather than engage in a trade war, a China–U.S.

free trade zone should be created. If this zone is established in 2011, the growth rate of U.S. goods export will rise by 1.7% and the import growth rate by 1.3%. U.S. exports to China will increase by about 17.2%, and U.S. imports from China will increase by about 23.4%.

To promote U.S. exports, CUS-FTA may create more than 480,000 new jobs in the U.S., increase the growth rate of the U.S. economy by 0.18%, and increase the net benefits of the U.S. by more than

$28.1 billion. After the implementation of CUS-FTA, China’s export growth rate measured by physical output will increase by 1.1% and the import growth rate by 1.21%; China’s exports to the U.S. will increase by about 36.8%, and its imports by about 32.2%, increasing the growth rate of the economy by about 0.45%. CUS-FTA can also provide China with about 800,000 jobs and more than $13.6 billion of net benefits.

Within five years of implementing CUS-FTA, the average growth rate of U.S. exports measured by physical output will increase by 2.84% and that of the imports by 1.95%. The average annual growth rates of U.S. exports to and imports from China in the next five years will increase by 17% and 15%, respectively. In other words, CUS-FTA will increase U.S. exports to China 2.14 times and imports two times within five years. Implementing CUS-FTA will create 285,600 jobs in the U.S. in the first year, 363,500 in the second, 399,600 in the third,

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231,200 in the fourth, and 250,100 in the fifth, which is a total of 1.53 million jobs within five years. In the long run, the export growth will increase the U.S. economic growth rate by about 0.18% annually on average. If free trade creates a win–win situation for both China and the U.S., why not agree on it?

The trade war noises made by the U.S. are only for show. As long as the Americans are informed of the consequences of a trade war, the U.S. will not really provoke a full-scale trade war. Despite the continuous China–U.S. trade friction, a full-blown war is unlikely to erupt.

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