CHINESE RMB AND JAPANESE YEN NOT CAUSING FALL IN FACTORY JOBS THE MYTH OF 5 MILLION LOST JOBS

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1 May 15, 2015 CHINESE RMB AND JAPANESE YEN NOT CAUSING FALL IN FACTORY JOBS THE MYTH OF 5 MILLION LOST JOBS Key points: Schumer, Bergsten, unions claim China s currency manipulation is costing America millions of factory jobs It s simply not true China s RMB has gained in value by 33% vis-à-vis the dollar over the past decade; yet Schumer said a decade ago that the RMB was undervalued by a third and says the same today as if no change had occurred The IMF is reportedly about to declare that the RMB is no longer undervalued There is no significant link between the rate of the RMB and the ups and downs of US factory jobs or the US trade deficit The trends in factory jobs are mainly caused by more fundamental factors: in the long-term, it s growth in American factory productivity; in the short-term it s the GDP growth rate The real irony is this: American factory jobs tend to do better during the same periods when the US trade deficit is larger: we ll explain this apparent contradiction in today s Alert Overview Currency manipulation by China, Japan and other countries has become one of the big causes of those determined to block the Trans-Pacific Partnership (TPP), such as Senator Charles Schumer (D-NY) and those determined to get reelected by showing how tough they can be on trade, such Senator Rob Portman (R-OH). The latter was US Trade Representative for two years under George W. Bush.

2 -2- The ostensible targets of the currency hawks are China and Japan. The auto caucus is far more interested in the Japanese yen, but quite a few Senators, including Schumer, are vocal about China. But neither country meets the International Monetary Fund (IMF) criteria of being a currency manipulator, as is acknowledged even by Fred Bergsten, the founder and former chief of the Peterson Institute on International Economics (PIIE), a champion of adding currency clauses to trade pacts, and one of the originators of the notion that currency manipulation by China and others is costing America anywhere from 1 to 5 million jobs. (By the way, many others at PIIE disagree with Bergsten.) As we will detail below, this charge of millions of lost jobs is a complete myth. It seems that those wanting to target China are willing to blame it for all sorts of America s self-created problems, including the housing crisis and consequent Lehman Shock. In a paper motivating his call for putting enforceable currency provisions in the Trans-Pacific Partnership, Sandy Levin (D-MI) wrote as follows: China's currency manipulation is arguably the most important cause of the financial crisis. Starting around the middle of this decade, China's cheap currency led it to run a massive trade surplus. The earnings from that surplus poured into the United States. The result was the mortgage bubble. Sebastian Mallaby, What OPEC Teaches China, Washington Post op-ed (Jan. 2009). The Bush Administration White House also drew the connection: the President highlighted a factor that economists agree on: that the most significant factor leading to the housing crisis was cheap money flowing into the U.S. from the rest of the world, so that there was no natural restraint on flush lenders to push loans on Americans in risky ways. This flow of funds into the U.S. was unprecedented. Statement by White House Press Secretary Dana Perino (Dec. 2008). Sorry, Sandy, the fault lies not in Beijing, but in ourselves (or, should I say, our financiers). 1 China s RMB Up 33% Vis-a-Vis Dollar, Yen Way Down, But No Japanese Intervention It is true that China runs a floating peg system rather than a free-floating currency. But that does not in itself violate any international trade rules, as even Levin admits. Before several years before July 21, 2005, the RMB was pegged at a fixed rate vis-à-vis the dollar. Since then, Beijing has let the currency appreciate, but had made sure it did so at a gradual pace. So, in the past ten years since the floating peg began, the RMB has appreciated 33% vis-à-vis the dollar. It did this at the same time that the broad currency index of all of America s trading partners fell 5% vis-à-vis the dollar (Figure 1). Had 1 See my Blind Oracle: A response to Alan Greenspan in Foreign Affairs at

3 -3- China merely matched others behavior, the RMB, too, would have fallen vis-à-vis the dollar. Instead, it rose. Meanwhile, against a broad index of China s major trading partners, not just the US, the RMB is up 42% in nominal terms, and up 57% in real terms (i.e. adjusting for the differences in inflation between China and its trading partners (see Figure 2). In fact, the International Monetary Fund (IMF) is reportedly about to declare that the RMB is no longer undervalued. We are now reaching a point where we are close to this no longer being undervalued, Markus Rodlauer, deputy director of the IMF s Asia department, said in April, according to the Wall Street Journal. But the latter does not satisfy US critics. Ten years ago, they said the RMB was undervalued by around 25-35% and they still do. In an interview with the Huffington Post this year, Schumer still claimed the RMB was undervalued 33%, despite its 33% appreciation since he first began making the charge. The way Schumer tells the story was that his eyes were opened in 2005 when he visited a Crucible Industries steel plant in Syracuse, NY and the owner told him that steel fabricators in New York were losing sales not because of any failing on their part, but because Beijing was manipulating currency markets to keep Chinese exports one-third cheaper. We remember when automakers made the same excuse about their Japanese competitors and they still do. And flailing Japanese firms like Sony and Panasonic made a mirror image excuse using the yen rate. The Treasury meanwhile, in a semiannual reported mandated by Congress, continues to claim that the RMB is remains significantly undervalued. It more or less has to say this, or Congress would riot. But there is no way to tell from the Treasury Report what level it thinks the RMB would have to reach to no longer be undervalued. One wag commented that the Treasury view seems to be that it is significantly undervalued from wherever it would be if it weren t undervalued. Meanwhile, while the dollar is up 13% vis-à-vis the yen, compared to its average, the Euro is also, by 6%, and the rest of the world s currencies are up about 1% (see Figure 3). But Tokyo has not intervened in currency markets in a sustained manner for more than a decade. The movements of the yen and euro and artifacts of their monetary easing policy and of expectations in the market that US interest rates will rise. The US Treasury and EU demanded assurances that the Bank of Japan s monetary easing under Prime Minister Shinzo Abe and Governor Haruhiko Kuroda would not include any purchase of foreign assets, and Tokyo agreed. The Millions of Lost Jobs Myth Schumer and his allies claim that America has lost millions of manufacturing jobs due to

4 -4- the deficit with China caused by an undervalued RMB. He cites, among other things, a report by Fred Bergsten, the founder and former chief of the respected Peterson Institute on International Economics to the effect that, The United States has lost 1 million to 5 million jobs due to this foreign currency manipulation. While that is the total for 20 countries whose currencies he claims are kept undervalued, he says, China is by far the largest in terms of both economic importance and size of intervention. Robert Scott of the union-financed Economic Policy Institute claimed in 2014 that America could create 2.3 million to 5.8 million jobs over the next three years by ending currency manipulation by a group of about 20 countries, with China as the linchpin. It is true that, after being flat at around million jobs, factory jobs started a steady decline around the same time that China entered the World Trade Organization (WTO) in This is the alleged turning point cited by Scott. But that s like saying the sun rose after the rooster crowed. We see the real cause of falling factory jobs elsewhere. They have fallen for the same reason that farm jobs have fallen even as American farms produce a record amount of food: improved efficiency. Take a gander at Figure 4. You will see that, while manufacturing jobs declined by 30% since 2000, manufacturing output was up by 20% during the same period. Factory output has grown by an average of 2.5% a year since However, back in 1987, it took almost 18 workers to produce a $1 million worth of manufacturing GDP per year, and in 2000, it took 11 workers; now it takes just six (see Figure 5). The other way of seeing this is that, back in 1987, each worker could produce $56,000 of manufacturing GDP per year. Now, he can produce $157,000 (all valued in constant 2009 dollars). The trend in Figure 5 is a virtual straight line during and then it leveled off following the Lehman shock. The ups and downs of the yen and RMB seem irrelevant to the trend. Moreover, US factory jobs plunged even as the RMB soared vis-à-vis the dollar; it s hard to see in any correlations between the long-term trend in factory jobs and movements in the RMB (see Figure 6). We get the same result if we look at year-on-year changes in manufacturing jobs, instead of simply the number of jobs. If Schumer/Bergsten were right, we d see bigger drops in factory jobs when the RMB was lower; instead, to the degree that there is any correlation at all, we see the opposite (see Figure 7). In reality, there s no significant link. The alleged chain-of-causality between the RMB and factory jobs is the US trade deficit. When the Chinese RMB is cheaper, according to the Schumer/Bergsten argument, this enlarges the US trade deficit. That, in turn, means less demand for American-made factory goods and hence factory jobs. But is it really true that America s trade deficit gets larger when the RMB is cheaper? Not according to Figure 8. In fact, in the last five years, the US trade deficit in non-oil goods has gotten even worse, despite the fact that the RMB has gotten stronger. We are not denying the obvious fact that China s currency rate will have

5 -5- some impact on demand for certain US factory goods, but whatever impact it has is dwarfed by many other factors. Besides, unlike the case of Japan and the US, where both countries produce the same sort of goods, China and US are at very different stages of development and mostly produce complementary goods rather than competing goods. For example, less than 1% of the value of an iphone comes from the assembly work in China; most of the real fabrication work for the parts is done elsewhere (e.g. Japanese or Korean LCD screens or computer chips, because China cannot do it). Yet, American trade statistics count the entire value as an import from China. Factory Jobs: The Real Cause and Real Solution If it still took 11 workers to produce a million dollars of manufacturing GDP as in 2000, then the US would employ today 21 million manufacturing workers instead of just 12 million. So, improvements in efficiency have cost the country 9 million factory jobs since 2000, almost twice as much as the maximum number of jobs (5 million) that Bergsten, Scott et. al. claim were taken by currency manipulation. That efficiency gain may mean fewer factory jobs, but it means that it costs 300 million American consumers a lot less to buy all sorts of goods than would otherwise be the case. In short, the biggest cause of job losses in manufacturing is a good thing: growth in American productivity. Factory jobs are down for the same reason that the farm jobs is now tiny: producers can make all the food and manufactured goods we want with far fewer workers. That s a good thing, and it is taking place in China as well as the US. There are millions fewer factory jobs in China compared to two decades ago despite the huge growth in Chinese industrial output. The real solution is not to scapegoat Japan or China but to find new, good jobs for workers displaced by productivity gains and technological improvements, and to give them the skills they need to fill those jobs. Admittedly, easier said than done particularly in today s political atmosphere. But a whole more helpful than throwing stones at Beijing. Manufacturing Jobs: The Deficit, and GDP Growth Let s take a closer look at the theory that an excessively strong dollar and the trade deficit are responsible for falling manufacturing jobs. If that were true, then a fall in manufacturing jobs should correlate with a bigger trade deficit. In fact, the opposite is the case, as we can see in Figure 9. (Note that the righthand scale showing the real trade deficit in non-oil goods is inverted to test the theory that

6 -6- falls in manufacturing jobs are closely linked to higher trade deficits in manufactured goods). How is that possible? It would seem logical that a trade deficit would mean less demand for American manufactured goods and thus fewer jobs. And that is true under the standard caveat of all other things being equal. But all other things are not equal. The reason is this: as GDP growth improves, particularly relative to growth in other countries, higher demand in America tends to suck in imports faster than American can expand export sales to others. So, as GDP growth improves, the US trade deficit gets bigger (see Figure 10). However, at the same time, better GDP growth also means more demand for manufactured goods, which, in turn, means more factory jobs. So, as we can see clearly in Figure 11, over the past 15 years better GDP growth is quite closely correlated with the annual change in factory jobs. In short, manufacturing jobs grow fastest when the trade deficit happens to be larger because both job gains or losses and the size of the deficit are artifacts of the same fundamental factor: the growth rate of real GDP. The real proof of the pudding is , when GDP declined and so did factory jobs and so did the size of the trade deficit (see again Figure 9, Figure 10, and Figure 11). Any argument that uses a simplistic attempt at calling the Chinese RMB or Japanese yen the primary factor in the number of manufacturing jobs lost to rate of the is simply off the mark. Richard Katz The Oriental Economist Report rbkatz@orientaleconomist.com Japan Watchers LLC. All rights reserved; do not redistribute without permission. However, journalists are welcome to cite passages.

7 -7- Figure 1: Renminbi Up 33% Vis-à-Vis $ Since 2005 Index vis a vis $, July 21, 2005 = Broad index of currencies vs. dollar RMB Jul-05 Jul-06 Jul-07 Jul-08 Jul-09 Jul-10 Jul-11 Jul-12 Jul-13 Jul-14 Source: US Federal Reserve Note: Data as of May 8 92 Figure 2: Real RMB Up 57% Vis-à-Vis All Trading Partners Since 2005 Broad Exchange Rate of RMB, June 2005 = Real Nominal Source: IMF Note: Data as of February,

8 -8- Figure 3: $ Up 13% Vis-à-vis Yen Compared to Average; Euro Up 6% Dollar value Index ( average = ) average $/yen $/euro Others Source: US Federal Reserve Note: Jan. 4, 1999 was the day that the Euro was launched Figure 4: Factory Drops Job Even Though Factory Output Rises Mfg. Real GDP Mfg. Jobs Index, 2000= Source: Bureau of Labor Statistics

9 -9- Figure 5: It Takes Two-Thirds Fewer US Workers To Produce Same Factory Output Mfg. jobs per million $ of Mfg. GDP Source: Bureau of Labor Statistics, Commerce Dept. Figure 6: US Factory Jobs Drop Plunge Even As RMB Soars Mfg. jobs, 2000 = RMB Index, 2000 = Mfg. Jobs RMB/$ Source: Bureau of Labor Statistics, US Federal Reserve

10 -10- Figure 7: Factory Jobs Drop (% annual change) Even As RMB Soars 4% % change in Mfg. jobs 2% 0% -2% -4% -6% -8% -10% -12% -14% % change in mfg. jobs RMB/$ RMB Index, 2000 = Source: Bureau of Labor Statistics, US Federal Reserve Note: Growth in in mainly a recovery form the big Lehman Shock drop in 2009 Figure 8: No Link Between US Trade Deficit and Chinese RMB % change in Mfg. jobs 0.0% -0.5% -1.0% -1.5% -2.0% -2.5% -3.0% -3.5% RMB Index, 2000 = -4.0% Trade deficit % of GDP RMB/$ -4.5% Source: Dept. of Commerce, US Federal Reserve

11 -11- Figure 9: Mfg. Jobs Go Down Even When Goods Trade Deficit Gets Bigger % change in mfg. jobs 4% 2% 0% -2% -4% -6% -8% -10% -12% -14% % change in mfg. jobs Trade deficit % of GDP Source: Bureau of Labor Statistics, US Federal Reserve Note: This includes just the real (price-adjusted) non-oil trade balance in goods; note that a higher negative number means a bigger trade deficit; trade balance is inverted to show that mfg. jobs happen to grow more when trade deficit is larger; growth in in mainly a recovery form the big Lehman Shock drop in % -3.5% -3.0% -2.5% -2.0% -1.5% Real Trade balance, $ of GDP (inverted) Figure 10: Trade Deficit Gets Bigger When GDP Grows Faster 5% -4.0% % change in Real GDP 4% 3% 2% 1% 0% -1% -2% -3% -4% GDP growth rate Trade deficit % of GDP Source: Dept. of Commerce Note: Real non-oil goods trade balance is inverted to show that trade deficit gets bigger when GDP growth is higher -3.5% -3.0% -2.5% -2.0% -1.5% Real Trade balance, $ of GDP (inverted)

12 -12- Figure 11: Growth in Mfg. Jobs Depends on GDP Growth 5% 4% 4% 2% % change in Real GDP 3% 2% 1% 0% -1% 0% -2% -4% -6% -8% % change in manufacturing jobs -2% -10% -3% GDP growth rate % change in mfg. jobs -4% Source: Dept. of Commerce -12% -14%