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Will Xi Jinping Yield to U.S. Demands on the Economy?

U.S. officials have long prodded China to open its economy and stop meddling with its markets and money. Will Xi finally listen?

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Cybersecurity and China’s continuing aggression in the South China Sea are making headlines in advance of Chinese President Xi Jinping’s visit to Washington. But underneath all the sturm und drang, there is a third and potentially even more important issue still dividing the two countries: China’s economic slump and Beijing’s top-down efforts to heal what ails it.

Simply put, the economic model that served China so well through decades of breakneck growth is showing signs of exhaustion. The World Bank expects China’s economy to grow 7 percent in 2015, which pales in comparison to recent years of double-digit growth. Exports were down 8 percent year-to-year in July and 6 percent in August. China’s manufacturing sector has shrunk to its lowest levels since 2009. U.S. central bankers are so concerned about China’s economic slowdown, which has knock-on effects all over the world, that they kept interest rates near zero, despite expectations of a rate hike since March.

Economic reform isn’t just for the benefit of American investors, Australian miners, Brazilian farmers, or Argentine ranchers. Joining the ranks of the great powers, as Xi and the rest of the Chinese leadership dearly wish, will require taking steps to keep the economy competitive. A resilient, more open economy is also key to Beijing’s goal of using soft power to boost its influence in Asia and beyond. But all that will require some painful adjustments for an autocratic country characterized by a heavy-handed interventionist approach to economic affairs.

“Sentiment is pretty down on Xi Jinping’s leadership. There’s a not a whole lot of arrows pointing up right now,” Scott Kennedy, a China expert at the Center for Strategic and International Studies, told Foreign Policy in a recent interview.

Broadly speaking, U.S. officials have been goading China for years to take steps to bring its economy more in line with market and international norms. That includes making sure that Chinese currency trades at a fair value, that international firms are able to compete and invest in China with something like a level playing field, and that Chinese leaders refrain from meddling in every market movement, whether that’s a slumping stock market or a wobbly currency. Those calls have hardly let up in advance of Xi’s visit to the United States this week.

Take the renminbi, China’s currency. Ahead of Xi’s visit, U.S. officials have called on China, the world’s second-largest economy behind the United States, to allow it to fully float, letting market forces determine its value as is the case for other major currencies like the yen, dollar, and euro. Concerns about artificially cheap Chinese money have plagued Washington for years; Mitt Romney, during the 2012 presidential campaign, threatened to declare China a currency manipulator if he won the election. Now that China’s export machine is sputtering, many critics, like Sen. Rob Portman (R-Ohio), a former U.S. trade representative, argue that China keeps the renminbi low to boost Chinese exports as a tonic for the slowdown.

Beijing does have some incentives to allow markets to determine the value of the renminbi. The International Monetary Fund says it’s necessary for Beijing to join the IMF’s Special Drawing Rights, or SDR, an international reserve fund meant to back up national coffers. The SDR basket is made up of the dollar, the euro, the Japanese yen, and the pound sterling — all currencies that trade on international exchanges. Joining that club would offer China a prestige boost, though it would be of little real import in international finance.

China did take some steps to let its currency float more freely in August, essentially letting it adjust better to its true market value, which happily for Chinese leaders was a little bit lower. That was a small boost for Chinese exports. But Chinese officials are less sanguine about letting the renminbi, or yuan, float if it might get more expensive because that would make Chinese goods slightly less competitive overseas.

U.S. Treasury Secretary Jack Lew wants China to take its hand off the tiller. In an op-ed published in the Wall Street Journal Monday, Lew told Xi he must keep his hands off the Chinese currency even when the market pushes its value higher. Chinese leaders must “demonstrate their intent to allow the yuan to be subject to upward pressure that would drive the currency up, not just down,” Lew wrote.

In the run-up to the visit, President Barack Obama and other White House officials also made clear they want China to make its economy more accessible to foreign investment and to stop meddling in the Chinese equities market. According to Goldman Sachs, China has spent $236 billion to prop up its stock market since June, when a 40 percent summer slide began.

Xi seems to be listening. In a Tuesday speech to business leaders in Seattle, he promised that the days of China interfering in its markets and currency were over. He pledged to never engage in commercial theft or discriminate against foreign businesses. Xi also said he would pick up the pace when it comes to opening the Chinese market to foreign money and to improving China’s human rights record.

Inaction could carry costs, both economic and political. But so could pushing through the reforms. Beijing’s controls on the economy allowed it to grow during the Great Recession while much of the rest of the world contracted, for example. But faced with increasing economic headwinds, and doubts about the underlying weaknesses that keep bubbling up in Chinese accounts, Xi may have no choice.

“China has an increasingly problematic reputation because of Xi’s economic management,” Andrew Small, a China expert at the German Marshall Fund of the United States, told FP. “China is more on [its] back foot on some of the economic issues. That might put [it] under more pressure to push ahead on reforms promised by Xi.”

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