Wrong Problem, Wrong Solution Mr. Krugman

Nobel prize winning economist Paul Krugman had commented in his recent New York Times article that the world should indeed be worried about China's currency policy. Krugman quotes Paul Samuelson to argue that China has stolen jobs from other countries through its currency policy.

I agree with Krugman on his comments so far, but Krugman also argues in favor of protectionism and "trade confrontation" by the developed world to get China to revalue the yuan.

I think there are a couple of flaws in Krugman's argument:
a) Currency is not the only factor which makes China competitive. Speak to companies that import stuff from China - they would tell you that currency is important, but one cannot ignore factors like labor availability, infrastructure and to some extent regulatory (health / safety / working conditions / minimum wages etc) arbitrage which makes China’s manufacturing competitive.

b) Krugman, through his "back-of-the-envelope calculation", has pegged the extent of job loss in the US because of China's currency policy at 1.4 million. I think Krugman has overestimated the ability of the US and other countries to competitively manufacture most of the goods that are currently imported from China. What might happen with yuan appreciation is just a rise in inflation and inflationary expectations in the world and not job creation. At a time when unemployment is high and economies are growing at a slow pace, high inflation can cause a lot of trouble.

c) Protectionism and trade confrontation are easy to recommend but extremely difficult to implement. I had argued in my earlier post that under WTO rules it would be difficult to force China to revalue its currency. The only way out would be to bypass the WTO and erect trade barriers against China. However, the US and the EU will be shooting themselves in their foot if they undermine the WTO.

This takes us back to the question - How should the US and EU deal with Chinese currency "manipulation"?.... My answer is still the same - China 's currency policy is clearly unsustainable and market forces will eventually force China to revalue its currency. The developed world should leave the timing of yuan revaluation to market forces.