Question

The relationship between China and the United States is often in the news. To refresh your memory, here are four facts about the Chinese economy: 1. China manages its exchange rate with the dollar. 2. China runs a trade surplus with the United States. 3. The Chinese central bank owns a large number of U.S. Treasury bills. 4. Individual Chinese residents are not free to invest their savings in foreign countries as they would like. Any movement away from a managed exchange rate would probably include a relaxation of these restrictions.

Now evaluate the following claims below with three to five sentences for each. You should also feel free to use graphs or equations where appropriate. Your goal is to discuss why the claim is true, partially true, or not true at all.

i. “Cheap imports from China come a steep cost – lost jobs and lower wages for American workers.”

ii. “Over time, the Chinese government can maintain an unfair trading relationship with the United States by pegging its currency to the dollar at a low level.”

iii. “In the long run, if China continues to peg its currency to the dollar at an abnormally low value, it may incur a significant increase in its price level.”

iv. “The only way for the United States to close its bilateral trade deficit with China is to either raise national savings in the U.S. or reduce investment in new plant and equipment in the U.S.”

v. “Because China has a fixed exchange rate, it is unable to conduct discretionary monetary policy.”

vi. “If China stopped managing the value of its currency, the value of China’s currency would strengthen relative to the dollar and U.S. interest rates would rise.

Please answer all parts!!!!!

Answer 1

ANSWER TO THIS QUESTION

The relationship between China and the United States is often in the news. To refresh your memory, here are four facts about the Chinese economy:

China manages its exchange rate with the dollar. China runs a trade surplus with the United States.

The Chinese central bank owns a large number of U.S. Treasury bills.

Individual Chinese residents are not free to invest their savings in foreign coun-tries as they would like. Any movement away from a managed exchange rate would probably include a relaxation of these restrictions.

Now evaluate the following claims below with three to ve sentences for each. You should also feel free to use graphs or equations where appropriate. Your goal is to discuss why the claim is true, partially true, or not true at all.

A. Cheap imports from China come a steep cost-lost jobs and lower wages for American workers."

This statement is extremely false. In the long run, the number of jobs in the U.S. is determined by the position of the labor supply schedule. That means that the number of jobs does not depends on trade policy. Although, the theory of the comparative advantage indicates that trade makes countries better off, and thus the country as a whole is better off when receiving cheaply goods from other countries. However, trade can make some workers ineffective. Workers will have to get new jobs or receive lower wages because of Chinese imports. So the statement would be altered to say that Chinese imports come at a steep cost to some U.S. workers, but not the country as a whole.

B. Over time, the Chinese government can maintain an unfair trading relationship with the United States by pegging its currency to the dollar at a low level.

This statement is extremely false. In the long-run, a country's net exports (N-X) are knowing by its savings less investment (S-I), not by trade policy. The real exchange rate adjusted to bring this equality about. Because this is a real exchange rate, a country will not peg in the long run. However, China might be able to peg the currency in the short run (while prices are sticky). If so, then the country might be able to affect trade flows over that horizon. Of course, whether we think this is “unfair" depends on our views of how imports affect the U.S.

C. In the long run, if China continues to peg its currency to the dollar at an abnormally low value, it may incur a significant increase in its price level."

This statement is true. This is related to Claim b, in that this will concerns the inability of the Chinese government to peg the real exchange rate in the long run. If the Chinese government is pegging the exchange rate at an abnormally low value, then it will definitely expanding the domestic money supply more than it otherwise would. Higher money will tends to raise the price level, and that is the mechanism by which the real exchange rate would significantly rise. China may be able to forestall this increase in prices by “sterilizing" its foreign currency intervention, but in the long run, if the real exchange rate is to rise at a constant level of the nominal exchange rate, then this must be accomplished by a rise in the Chinese price level relative to the U.S. price level.

D. The only way for the United States to close its bilateral trade deficit with China is to either raise national savings in the U.S. or reduce investment in new plant and equipment in the U.S."

This statement is partially true. An increase in Saving over the Investment in the United States would close the U.S. multilateral trade deficit, but did not necessarily have to have an effect on the bilateral trade deficit that the U.S. runs with China. Although China is a big trading partner with the U.S., a decline in the U.S. multilateral trade deficit could probably involve some shrinkages of the U.S.-China trade deficit as well. In any case, the only way for the U.S. to close the multilateral trade deficit is to raise Saving over the investment.

E. Because China has a fixed exchange rate, it is unable to conduct discretionary monetary policy."

This statement is false. The “irreconcilable trinity" of open-economy macro-economics is that a country must choose two options among the following three: A fixed exchange rate, the ability to perform discretionary monetary policy, and open capital markets. China has chosen the first two and has therefore imposed controls on the ability of its citizens to invest abroad. That means it can pursued discretionary domestic monetary policy.

F. If China stopped managing the value of its currency, the value of the China's currency would strengthen relative to the dollar and U.S. interest rates would rise.

This statement is partially true. That statement maps out one potential scenario for what would happen if China will stopped managing its exchange rate with the United States. The Chinese central bank would reduce its purchases of U.S. Treasury bills, which would shrink the amount of Chinese currency that required to move itself into dollars. The dollar could fall at the same time that interest rates in the U.S. could rise (due to the decline in price of U.S. Treasury bills and the resulting increase in Treasury yields). However, if China will relaxing its capital controls at the same time that it will relaxing its peg, then individual Chinese residents would probably want to invest some of their savings abroad, including in dollar-denominated assets like U.S. bank accounts and the equity and debt of U.S. companies. This outflow of savings would be new source of Chinese currency that wanted to turn itself into dollars. Consequently, the U.S. dollar will not decline as much as some people have argued. The dollar might even strengthen.