Gradual appreciation of the yuan makes sense

While the United States and other countries are pressing for the appreciation of the yuan, economist Jeffrey Sachs believes that a "gradual" rise in the Chinese currency's value would be most desirable.

"Over the next year the renminbi strengthening 5 percent or even 10 percent against the dollar would be reasonable because China is growing quite fast," Sachs said in a recent interview with The Asahi Shimbun in Tokyo, where he attended a discussion panel at the Asian Development Bank Institute.

The director of the Earth Institute at Columbia University also predicted the yuan will grow into a major global currency on a par with the dollar and the euro.

Following are excerpts of the interview.

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Question: Let me ask you about the Chinese currency, the renminbi. You contend that rapid appreciation of the currency is not desirable. Could you explain why?

Answer: Yes. I think that after 2005, China allowed for a gradual strengthening of the renminbi, and then when the financial crisis came in 2008, it stabilized the currency against the dollar. Now that China has successfully weathered this crisis and resumed rapid growth, I think it can also resume a gradual appreciation of the renminbi.

This, I think, would be advantageous for China, because it would help to keep inflation lower. I think it would help to reduce the chance of real estate bubbles forming, and I think it would reduce the pressures, internationally, on the protectionism.

But what I also stress is that this is a decision that China should make cooperatively with the United States. The United States does not have the right to say that what China is doing is "currency manipulation" because China is within its rights right now. It should not be forced. And it also is not doing anything illegal in the international system. So the idea of any kind of unilateral action in the United States against China would be completely inappropriate and I think quite damaging to the international trade and finance system.

So I worry very much about these congressmen making such claims that the United States should find China a "currency manipulator" and that the United Sates should consider "unilateral tariff action" against China. Both of these positions are mistaken and inappropriate. These are politicians running for re-election in November, so they're speaking (about) quite a short-term perspective that I think is economically incorrect, and we need a long-term perspective of the system, not such a short-term election-driven perspective.

Q: What would happen if China moves toward, for example, a 40-percent rise in the value of its currency?

A: I think that if there were a very big adjustment, this would cause a lot of unpredictable consequences. In the Japanese case (of the yen's rapid appreciation following the 1985 Plaza Accord), I think that it helped to bring an abrupt end to Japan's growth.

Some people say that indirectly the government tried to offset the exchange rates through domestic expansion and that that led to the bubble, which then collapsed in the early 1990s.

I think that what is basically true is that the United States and China have established a mutual dependency over the last 10 years, where the United States fostered strong consumer spending and China built up an export sector to satisfy the U.S. demand, and that system needs to change because the U.S. consumer will not buy so much, and because China will then have to use its capacities in industry for domestic purposes, especially for urbanization.

So everybody agrees that change is needed, but I think that if it's very abrupt it could be destabilizing and put lots of political pressures on both sides that would not be advantageous. So a gradual turning of the ship, but a "decisive turning," I think, would be worthwhile. If both sides would see the adjustment with the perspective of five years, rather than a perspective of the next six months, it would be quite helpful.

So I do think that it would be useful if the U.S. government and the Chinese government talked about medium-term scenarios of adjustment, and the U.S. government said to the Chinese government, "Look, we are not going to declare you a 'currency manipulator.' We're not going to take actions on trade."

Q: Is there any desirable percentage of change from the midterm viewpoint? Is there any such framework?

A: I think that over the next year, the renminbi strengthening 5 percent or even 10 percent against the dollar would be reasonable because China is growing quite fast. It has its inflation challenges. It has a big current account surplus, and so I think it could absorb some of that appreciation. I think China would be worried about being pushed to 25-percent or 30-percent or 40-percent appreciation, and so a much more gradual change makes sense, and this is what should be the topic of negotiation.

Q: So you mean within five years or so, the appreciation of the renminbi could be as high as 40 percent?

A: It's possible, but maybe a shorter and small adjustment will be sufficient. I'm not saying that it has to be at that rate every year.

Also, some of the real appreciation will come through inflation rather than currency movements. And so, China is going to have to balance how much inflation versus how much currency appreciation, and that's another issue.

So I wouldn't want to make a guess right now about a five-year adjustment, but I would say that stopping at no adjustment is not a good idea. On the other hand, the more that the United States demands an adjustment, the less likely it's going to happen.

Q: What are your views on reforming the global currency system? Realistically, how soon do you expect a meaningful reform to be made?

A: I think that the consensus here, of which I am a part, is that we'll have a multi-currency system: the dollar, the euro, the renminbi as an international currency, possibly an Asian stronger cooperation among the yen, the renminbi, the yuan and the ASEAN currencies.

But I think that we all agree that the euro is here to stay. The renminbi will become internationalized. It, itself, will become more of a reserve currency, and cooperation within Asia reflecting the real economic integration will also strengthen considerably. So it's a little bit hard to see exactly how it will be, but I would say that we're moving to a tripolar world economy of the U.S., the euro-zone and an Asian area. Of course, maybe it's going to be more than three currencies in the end, but there will be at least three key currencies. I don't think anybody really feels that a single international reserve currency will play a dominant role in the next 10 years.

Q: You don't think one single currency, like the bancor, an international currency proposed by John Maynard Keynes, will materialize?

A: I think the difference is that instead of one central currency, there will be three regional currencies and they will have a flexible exchange rate between them. So we probably are not on our way to any kind of global currency or single global reserve system, like the bancor.

We're probably more regional in orientation. I do think Europe will overcome this short-term "euro crisis" and that the euro will be a major reserve currency alongside the dollar.

And I believe that at least the renminbi, and also the yen, could become more of a reserve currency. Certainly over a period of 20 years, even the Indian rupee could become more of a currency, because that's a very big country, with 1.1 billion people and also growing quite rapidly.

But for the moment, I would say the internationalization of the renminbi would come first.

Q: Do you expect a new "basket global currency" to be created in the end?

A: I think what will happen is that the different regions will do most of their transactions within a respective regional currency, and then across the regions there will be floating exchange rates and there will be some kind of arrangements between the major central banks for liquidity and swaps.

And then the question is, whether those cross-arrangements between the European Central Bank, People's Bank of China, the Bank of Japan and the Fed will work mainly through the IMF or whether they will work through more informal cooperative mechanisms. That remains to be seen.

Q: Do you think it is possible for a basket currency involving the renminbi, the yen and the won?

A: It would be nice, but maybe a little bit idealistic to expect the yen, the yuan and the won to form some kind of joint currency. I don't think the political relations are close enough to lead that way, though the economic relations are becoming closer and closer.

What I do think would be a good idea is to continue to have the G-3, of China, South Korea and Japan, coordinating very closely, and also the G-3 plus ASEAN having a lot more intensive interactions and a lot more regional responsibility to help countries ensure liquidity and build regional bond markets and gradually internationalize the renminbi as well, so that one way or another the major currencies here start to coincide in function. Maybe that leads to a basket approach. Maybe it leads even to an Asian currency approach down the road. But that's still a ways off.

Q: The United States does not seem to embrace the idea of ASEAN plus 3 because it does not want to be excluded. Any comment on this?

A: I do think that the U.S. would be smart to let Asia cooperate more closely without a significant U.S. role. I think the political progress within Asia, of closer cooperation of China, South Korea, Japan and ASEAN, would be good, just as European integration has been good.

The U.S. actually promoted, of course, first the European Community and then the European Union, and it didn't say, "We need to be inside." It said, "We'll help to have that happen, but we'll be outside." I think that's pretty analogous to the situation it should take in Asia.

Q: Politicians in the United States seem to be uncomfortable with the notion that Japan gets closer to Beijing.

A: Right. Of course, this question of the balance of power in Asia is a very sensitive and important question. I think there's no doubt that China will become more and more central to this story, and that Japan, I hope, will continue to have good relations with the United States. But I'm sure that Japanese relations with China will become closer and closer.

And the old scenario of Japan simply relying on the United States within Asia as the balancing power is going to change over time, and that while the United States will still play a role in Asia, the growth of China and India is changing the international geopolitics a lot. I don't think there's a going back to that. And this will require closer political relations between Japan and China.

The economic situations are quite complementary, and so they're getting closer and closer, and I think politics will follow that.

Q: Let me ask about the United Nations' Millennium Development Goals, which range from halving extreme poverty to halting the spread of HIV/AIDS and providing universal primary education, all by the target date of 2015.

You must feel frustrated or irritated or even angry about the slow pace of implementation.

A: Well, I think the big disappointment is that the rich countries promised a lot and then they didn't deliver. They take the problems of the poor countries as secondary or even tertiary in their politics. No one of our countries really has much of a domestic constituency for development assistance, and so the politicians don't really like it. They don't understand it. It doesn't go to their districts, yet the world requires it. And this is the big problem.

The frustration is that Japan, the United States and Europe promised a lot but delivered really very little. And what's needed to make a big difference in the lives of the poor is not very much money. But even with the small amounts . . . we don't achieve what's promised.

I think from my point of view, if you look at this from a historical perspective, the long-standing goal that we've had now for 40 years, that the rich countries would give 0.7 of 1 percent of their GNP (gross national product) in development aid, is a pretty modest target. After all, why shouldn't the rich world give something that's not even 1 percent to help solve deep global problems?

When we fail to solve those problems, we get even bigger problems. We get wars. We get violence. We get terrorism. We get diseases that are not under control. And so, we end up paying a big price for extreme poverty, but we pay it in other ways. And when we end up in war in Afghanistan or in Somalia or other places, unfortunately our politicians don't make the link to say . . . "Oh! If I had solved the poverty problem I wouldn't have this problem."

Instead, they tend to view these conflicts as purely military or ideological issues, and they don't "connect the dots" to say that poverty is at the core of this problem.