Senators Demand Us Impose Sanctions Against China

The US Congress last night ratcheted up the pressure on the White House to impose protectionist measures against Chinese imports after the Bush administration shied away from accusing Beijing of manipulating its currency.

Although the half-yearly currency report by the US Treasury used its toughest language yet to criticize China for its undervalued exchange rate, the report also said there was no evidence the yuan was being held down to secure an unfair advantage.

The rhetoric failed to satisfy a bellicose Congress. Within minutes, members of both the majority Democrat party and the Republican party announced they would table legislation enabling the US to retaliate against "unfair" competition from China. Chris Dodd, chairman of the Senate banking committee, and Richard Shelby, the committee's leading Republican, said they would sponsor a bill giving the Treasury the option to take a case against China to the World Trade Organisation, and to open discussions with the International Monetary Fund about possible currency manipulation.

Mr Dodd, one of the Democrat candidates for the 2008 presidency, said that a change in America's currency manipulation policy was "long overdue", while Mr Shelby said that, in spite of the evidence, "[The] Treasury has regrettably declined to label China a currency manipulator".

Another group of legislators, led by the New York senator Chuck Schumer, was last night planning to announce their own plan for a bill to permit the Bush administration to impose tariffs on Chinese goods. Strongly backed by the US manufacturing sector, the hawks on Capitol Hill say the yuan is undervalued by 40%, making possible a surge of cheap imports which has cost American workers their jobs.

Protectionism has been strongly resisted by the Treasury secretary, Hank Paulson. He said yesterday he favoured dialog with Beijing rather than confrontation. Speaking in Atlanta, he expressed sympathy with the legislators' motives but opposed their methods: "I happen to believe the most effective way to get movement and progress is through direct discussions and negotiations, not through legislation."

The stern tone of the Treasury report, however, suggested that the White House felt it had to respond to the growing anger on Capitol Hill. "[The] Treasury forcefully raises the Chinese exchange rate regime with Chinese authorities at every available opportunity, and will continue to do so," the report said.

"China should not hesitate any longer to take far more vigorous action to rebalance its economy, promote immediate renminbi [China's name for the yuan] movement to tackle the currency's undervaluation, and achieve far greater flexibility in the exchange rate regime," it added.

The Treasury warned Beijing that running large and growing current-account surpluses could backfire, since holding down the yuan's value had led to a massive build-up in reserves and lots of money circulating in the economy. This meant speculation in the short-term, but could eventually lead to inflation and a painful crash. "Heavy foreign exchange market intervention by China's central bank to manage the currency has led to excessive accumulation of foreign exchange reserves and a quick increase in domestic liquidity. These trends clearly increase the risk of a renewed boom-bust cycle, which would be quite harmful for the global economy."

Some analysts believe that any decision by the Treasury to cite China formally for currency manipulation would trigger a sell-off in global financial markets, on edge after the recent sharp increase in bond yields. Long-term borrowing costs in the US as measured by yield on a 10-year Treasury bond have risen half a point since April and are close to a five-year high.

Markets are concerned that the upswing in the global economy, enjoying its strongest spell of sustained growth since the late 1960s and early 1970s, has resulted in rising inflation and further increases in interest rates. Speculation that the US Federal Reserve might be forced to raise interest rates after holding them at 5.25% for almost a year was heightened by news that retail sales were up 1.4%, far stronger than Wall Street had expected.

Backstory

Pressure has mounted on China to tackle its soaring trade surplus. Last year the US/China trade deficit hit a record $233bn (£118bn) and will top that this year. Europe's was €128bn (£86.2bn) last year. The US and China recently held a "strategic economic dialog" in Washington, while the EU commissioner Peter Mandelson met China's trade minister Bo Xilai in Brussels on Tuesday and said "something had to be done". China is accused of holding down the yuan to help exports; it unhitched the yuan from the dollar two years ago, since when it has climbed 8.2%.