Taxing China's Assets
How to Increase U.S. Employment Without Launching a Trade War
Article Summary and Author Biography
For years, officials in Washington have complained loudly about Beijing's efforts to manipulate its currency. One novel option to stem the practice is both within international rules and would likely work: taxing the income on Chinese holdings of U.S. financial assets.
JOSEPH GAGNON is a Senior Fellow at the Peterson Institute for International Economics. He is a former Associate Director of the Divisions of International Finance and Monetary Affairs at the Federal Reserve Board. GARY HUFBAUER is the Reginald Jones Senior Fellow at the Peterson Institute. Among previous positions, he was Director of the International Tax Staff in the U.S. Treasury Department.
For much of the past decade, the United States has begged, pleaded, and threatened China to change its disruptive currency practices, which artificially make Chinese exports cheap and foreign goods sold in China expensive.
Today, in the midst of prolonged economic weakness, with the U.S. trade deficit rising and unemployment persistently high -- and Chinese-owned U.S. debt probably exceeding $2 trillion -- legislative pressure is again growing to raise trade barriers against Chinese goods. Since June 2010, China has allowed its currency, the renminbi, to rise nearly five percent against the dollar. But there has been no slowdown in its manipulative purchases of U.S. assets, implying that the renminbi remains deeply undervalued.
The United States clearly needs to ratchet up the pressure on China, and the next installment of the U.S.-China Strategic and Economic Dialogue, scheduled for early May in Washington, provides a natural opportunity. But what action can the United States take to persuade China to stop its harmful behavior? Minor trade measures, such as a few more antidumping or countervailing duty cases to levy penalty duties on U.S. imports of Chinese paper or steel, will not make an appreciable dent in the trade deficit or the unemployment rate. And major trade measures, such as a tariff or quota against all Chinese exports, would likely be ruled illegal by the World Trade Organization and would almost certainly provoke Chinese retaliation against U.S. exporters. Moreover, a trade war across the Pacific would quickly create vested interests among protected U.S. and Chinese industries, making the retaliatory measures hard to unwind. For these reasons, it is no surprise that U.S. policymakers have been reluctant to launch a trade war with China; officials in Beijing understand this reluctance well and, accordingly, have viewed U.S. threats as bluffs...
