U.S. Treasury keeps India on currency watch list

Context:

India is one of the 11 countries on the U.S. Treasury’s ‘Monitoring List’ with regard to their currency practices, according to the April 2021 edition of the semi-annual report, the first from the Biden administration. India was on the list in the December 2020 report as well.

Relevance:

GS-III: Indian Economy, GS-II: International Relations (Foreign policies that affect India’s Interests)

Dimensions of the Article:

1. About the recent designation by U.S.
2. Currency Manipulator Designation by the U.S.
3. Back to basics: How does Currency Manipulation work?

About the recent designation by U.S.

The report on Macroeconomic and Foreign Exchange Policies of Major Trading Partners of the United States, which is submitted to the U.S. Congress, reviews currency practices of the U.S.’s 20 biggest trading partners.

Three criteria are used to review partners:

1. A significant (at least $20 billion) bilateral trade surplus,
2. A material current account surplus, and
3. A ‘persistent one-sided intervention’ in forex markets.

India met two of the three criteria —

1. The trade surplus criterion and
2. The “persistent, one-sided intervention” criterion, according to the U.S Treasury Department.

The other 10 countries on the list with India that merit “close attention to their currency practices” according to the U.S. Treasury are China, Japan, Korea, Germany, Ireland, Italy, Malaysia, Singapore, Thailand, and Mexico. All of these, except Ireland and Mexico, were on the December 2020 list.

Currency Manipulator Designation by the U.S.

• Currency manipulator is a designation applied by United States government authorities, such as the United States Department of the Treasury, to countries that engage in what is called “unfair currency practices” that give them a trade advantage.
• Such practices may be currency intervention or monetary policy in which a central bank buys or sells foreign currency in exchange for domestic currency, generally with the intention of influencing the exchange rate and commercial policy.
• Policymakers may have different reasons for currency intervention, such as controlling inflation, maintaining international competitiveness, or financial stability.
• In many cases, the central bank weakens its own currency to subsidize exports and raise the price of imports, sometimes by as much as 30-40%, and it is thereby a method of protectionism.
• The Treasury’s goal is to focus attention on those nations whose bilateral trade is most significant to the US economy and whose policies are the most material for the global economy.

Back to basics: How does Currency Manipulation work?

• Let’s take China as an example for a country that manipulates its currency to gain an unfair advantage.
• We can first consider the fact that – the value of China’s exports in goods annually surpasses the amount it imports from the rest of the world – (China’s global trade surplus for the first 11 months of 2020 is $460 billion, up by more than 20% in comparison to 2019.)
• In the normal Scenario – when China exports a particular good (say “X”) to the U.S., it receives payment for the goods in Dollars which the U.S. firms importing “X” use, and upon conversion at the current exchange rate, the Chinese exporters receive the amount in Yuan.
• Now, if China intervenes by releasing more Yuan into the exchange market by buying Dollars, the value of Yuan drops (its exchange rate weakens, so now one receives more Yuan for a Dollar on exchange).
• In such a scenario, the Chinese Exporters can now price their product “X” lower in terms of Dollars in comparison to domestic sellers and sell “X” in the U.S. while receiving the same or higher amount in Yuan upon conversion.
• This gives the Chinese exporters an unfair advantage against the domestic competitors in the U.S. and hence capturing the market driven by demand for Chinese goods which are now priced competitively.
• The reduced value of Yuan will affect the value of goods Imported to China from other countries as well (i.e., now that the value of Yuan is lower, Chinese importers have to pay more for the goods that they import from U.S. or other exporters).
• However, the negative impact (losses) on imports are much lesser considering the fact established earlier that China exports more than it imports, and the protectionist action of manufacturing essential goods within China help in reducing the import bill.

-Source: The Hindu