Stop Worrying About China's Currency

As leaders from the world's 20 major economies prepare to meet in Seoul this week, tensions continue to flare over trade imbalances and currency rates, particularly when it comes to China. Some analysts even say a trade war is underway. In the meantime, Germany and Britain are creating a group of experts to promote trade liberalization across the globe. Co-heading this group will be Jagdish Bhagwati, 76, a Columbia University economist. In the lead-up to the G20, NEWSWEEK's Joel Schectman spoke to Bhagwati about the meeting's prospects for success.

Do you think that the U.S. and China should use this meeting to hash out an agreement on how the yuan is valued?

No. I think it's a mistake. The issue is overstated. What you should really be worrying about are the underlying mechanics, the policies, the fundamentals. The situation is going to be corrected by China's own self-interest point of view. Let's be a little more relaxed.

So what fundamentals should the U.S. and Europe focus on?

Let's do a mental experiment. Pretend that Greece had changed their exchange rate during their crisis. They couldn't because it's part of the euro zone, but pretend. As long as there was massive excess spending, no amount of devaluation would have made the slightest bit of difference, because the internal system will adjust to it. The focus really ought to be on excess spending in the U.S., because that is what causes a trade deficit.

So you believe that the U.S. should cut spending now? Even with the economy still sluggish?

No, in the short term we need to spend more, which will make the trade imbalance worse rather than better. On that I am very Keynesian. But in a few years the U.S. will have to get its own house in order if we are worried about the trade deficit. It's going to be tough.

The Fed recently went back to printing money. Is it fair for China to say that America is pushing down its currency, too?

If we are attacking their internal fundamentals, then there is a parallel to someone attacking our own internal fundamentals. But for the Chinese to complain that we are revising our economy through a combination of fiscal and monetary policy seems to be not kosher.

But they are complaining about us because we are complaining about them, right?

We are telling people to do this and do that. It's overbearing. And it creates a hostile atmosphere. Different countries have different internal fundamentals. It's like Germany: we tell them that they ought to be spending more. But they don't want to spend more. The Germans have a tremendous fear of hyperinflation because of the history of the Weimar Republic. You can't change that attitude. Politicians and even some economists are talking about a trade war. That would be very damaging.

The Korean free-trade agreement with the U.S. has been stalled for years. Do you think there is some chance of progress on that at Seoul?

The president is going to get it pushed through. I think he will make some gesture to that effect in Seoul. And now that the House has changed, it's going to be easier for him to do it. What was holding it up had been Detroit. Now Detroit has gotten these bailouts—in a way, they have been bribed. It's a security issue. South Korea is small potatoes, frankly, or midsize potatoes, in terms of international trade. But you have North Korea above it, you have China to the left of it, and Japan to the right of it. We have the history of solidarity [with South Korea]. We have troops there. Korea wants to see us back them.

What would be the best thing that could come out of this meeting?

For everyone to just cool it down. There is good cooperation going on with things that do matter, like capital requirements. We have learned something. There is more cooperation than before the crisis on managing the financial system. So we need to stop the atmosphere from worsening because of all this noise being made by writers and politicians. And then we can focus on the one thing that has really worked in the postwar period: trade. We need to pull back and reaffirm the tremendous benefits of an open world economy.