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Force Beijing to revalue the yuan

`Economists and analysts the world over searched for a rational explanation for the global disaster, but fear of China's influence stopped them from getting to the heart of the matter ... This is exactly the same mistake as was made in 1997.'

On March 5, President Chen Shui-bian (陳水扁) made his pro-independence "Four Wants" speech at a dinner marking the 25th anniversary of the Formosan Association for Public Affairs, a pro-independence group based in the US formed by overseas Taiwanese. The next day saw stock markets around the world fall. The TAIEX was no exception and suffered a drastic drop of 285.59 points, or 3.74 percent. When someone asked me if the drop was influenced by Chen's remarks, I told them that, "It would be nice if Taiwan's president could exert so much influence."

But market observers with an international outlook should be aware that the 8.8 percent drop on China's stock market two weeks ago was the direct cause of last week's falling share prices all over the world. News spreading through the Chinese stock market on that day that there would be a crackdown on illegal trading resulted in a panic sell-off.

Prior to that, the Chinese government had revealed that it would levy an incremental land value tax, prompting real estate shares on the Chinese stock market to take a nose dive. The purpose for this revelation was to keep its currency undervalued in order to continue to enjoy benefits from world trade out of proportion to its contributions.

In 1994, the Chinese currency depreciated to 8.30 yuan to US$1 from 8.5 yuan to US$1 in 1980. The weakness of the yuan made Chinese products very competitive around the world and within the span of just 12 years China's foreign exchange reserves rose to a total of US$1 trillion. Countless countries were hurt by the yuan's undervaluation. While Thailand was the spark that set off the 1997 Southeast Asian financial crisis, it was fueled by China's undervalued currency.

In 1990, Taiwanese businesses recognized the low labor costs resulting from the cheap yuan and scrambled to invest in China. This caused products from China's traditional industries to sweep across Southeast Asia and steal European and US markets from many Southeast Asian exporters. This put the brakes on international income for Thailand, the Philippines and other countries.

The imbalance in international trade finally boiled over in Thailand in July 1997 and quickly spread to countries throughout the region. That month I publicly stated that the source of the trouble was China, not Southeast Asia. The boldness of my argument meant that it was well received at the time, but 10 years later, it has become commonly accepted.

On March 4, the Commercial Times, Chinese-language newspaper, ran an article saying that the devaluation of the yuan was the real source of the crisis.

In 2001, Taiwan relaxed restrictions on investments by the integrated chip industry in China. In one fell swoop, China became the world's dominant manufacturer of information hardware and the powerful effects of the undervalued yuan spread further to Japan, the US and Europe. Last year, the US trade deficit with China reached an astronomical US$232.5 billion.

On March 5, the problem reached its breaking point and exploded around the world. Hong Kong's Hang Seng Index fell 4 percent, Japan's Nikkei Index fell 3.34 percent and the Philippine Stock Exchange 4.5 percent. Economists and analysts the world over searched for a rational explanation for the global disaster, but fear of China's influence stopped them from getting to the heart of the matter. Some people try to deflect criticism from China and attempt to place the blame for the disaster on "carry trading" with the yen. This is exactly the same mistake as was made in 1997.

An undervalued yuan is not entirely a good thing for China either. The accumulation of foreign reserves is certain to lead to soaring housing prices and stock market volatility. Yet Beijing still chooses to forgo action, and tries to put out the fires with various currency policies. This is because the way Beijing sees things, an undervalued yuan is the only fast track to Chinese economic dominance. But it also carries with it the danger of an even bigger future catastrophe.

Last December, Taiwan's government once again relaxed restrictions on moving computer wafer plants, packaging and testing to China. This breathed new life into China's near-dead wafer industry.

Barring any change in the status of the yuan, which was allowed to appreciate by only 3 percent every year, China's position as a major technology power will strengthen. World trade imbalances will become more pronounced, eventually having an impact on the global political and economic system.

The safest road is to encourage the US and Japan to press China to re-evaluate its currency. Before that, Taiwan should at least adopt an "only depreciation, no appreciation" strategy for its own currency.

Respecting market mechanisms is the highest principle of our currency exchange rate policy. But when faced with China -- which does not respect market mechanisms, profits at its neighbors' expense and leaves the international community with no other option -- neither we nor Japan can sit idly by and wait for destruction.

Huang Tien-lin is a former national policy adviser to the president.

Translated by Daniel Cheng and Marc Langer
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