A falling US dollar and an inflexible Chinese currency could trigger demands for protection in European countries whose competitiveness is threatened, European Union economy commissioner Joaquin Almunia warned on the eve of the G7 finance ministers’ meeting in Washington today.
Exchange rates will be a central issue at the meeting. The call for more flexible exchange rates and more urgent efforts to deal with global financial imbalances by Almunia, commissioner for economic and monetary affairs, came against a background of growing alarm over the weakness of the US and Chinese currencies against the euro.
A revaluation of China’s renminbi could provide the key to unlocking global financial imbalances, former US Federal reserve chairman Alan Greenspan told Emerging Markets.
“That is to China’s advantage and what is to China’s advantage, is to the US’s advantage, to Europe’s advantage and to the advantage of everyone,” he said.
“We don’t want to intervene in exchange rate markets,” Almunia told Emerging Markets. “We believe in increasing the competitiveness of the economies and structural reforms.”
He expressed the hope that the G7 meeting would focus on coordinating economic policies, because of “the need to avoid the disorderly unwinding of global imbalances and excessive volatility in exchange rates.”
Almunia warned that, if no agreement could be reached, European policy-makers would “face pressures asking for protectionism” due to a rapidly rising trade deficit with China. He emphasized: “We want to avoid protectionism but the best way to avoid protectionism is to deepen dialogue.”
Almunia advised: “The US should increase domestic savings, Europeans and Japanese should push through structural reform and Chinese and other Asian countries should rebalance their economies, boost internal demand and offer more flexibility in their exchange rate.”
This call comes after IMF managing director Rodrigo de Rato acknowledged to Emerging Markets that “there is still room for the dollar to move down”, even after months of heavy depreciation. But de Rato emphasized that the dollar’s movement against individual currencies could vary.
That point was echoed by Fred Bergsten, director of the Institute for International Economics, who told Emerging Markets: “The key issue on the dollar is not whether it will go down or not - it will almost certainly go down - the question is what it will go down against.”
He warned that a failure by China to allow the dollar to adjust against the yuan would “create new imbalances,” as the euro, sterling and Swiss franc will continue appreciating.
“This is highly undesirable, so the issue around these meetings ought to be getting China, and through China the other Asians, to permit their currencies to go up by a very sizable amount.”
Almunia struck a note of confidence on China’s willingness to help correct global imbalances, saying that the Chinese are “convinced” of the need to rebalance their national economic growth and expand the social security net.
“Rebalancing of growth will help them to introduce more flexibility in exchange rate management,” Almunia said, adding that he understood China ‘s difficulties in assessing the right pace at which to allow exchange rate flexibility.