Currency Intervention and the Trade War

On July 6, 2018, the United States issued the first of a series of tariffs on goods imported from China. China quickly retaliated in kind. As the conflict continues to escalate, leaders from each nation will begin to look to economic tools other than retaliatory tariffs to offset the loss caused by weakened exports. China has previously been accused by international leaders and economists of currency intervention. Faced with new threats to the strength of its economy, China’s leadership could again implement the policy.

A Brief Background

Currency intervention (also called currency manipulation) is a monetary policy by which central banks attempt to influence the relative value of their native currency. Currencies trade on an open exchange, and one impact on a currency’s value is its level of availability. A country may attempt to reduce the value of its currency by selling it on foreign exchange markets. A devalued currency can positively impact a country’s trade balance. The country’s goods become more attractive, as they are effectively cheaper. Conversely, imports become more expensive. The overall effect can improve the GDP of the country engaged in currency intervention at the expense of others.

Currency Intervention in Today’s Conflict

American leaders have been wary of labelling China a currency manipulator, for fear of reprisal. The extent of the renminbi’s recent volatility, however, has led the current U.S. administration to reconsider. From March to July of 2018, the value of the currency fell 7.6 percent relative to the dollar. To many, this is an indication that China is attempting to offset the effectiveness of tariffs by making its goods cheaper in other ways. Due to the status of the dollar as the world’s reserve currency, U.S. options to retaliate directly are limited at best.

As the trade war continues, leaders on each side will continue to pursue new measures to gain an upper hand. U.S. leaders should be cautious of China’s willingness and ability to engage in a currency intervention, as it is a tool for which the United States has no direct counter.