The Reagan-era law Trump used against China doesn't have any teeth

A 1988 law cited Monday by the U.S. Treasury Department in designating China a currency manipulator mostly empowers the Trump administration with symbolic clout in the ongoing trade dispute between the U.S. and China.

The Omnibus Trade and Competitiveness Act sets requirements for the treasury secretary to analyze exchange rate policies of foreign countries — and negotiate with alleged offenders.

The Trump administration invoked the law to label China a currency manipulator after it allowed the Yuan to weaken below a symbolic level of 7-per-dollar on Monday. A weaker Yuan would make Chinese goods cheaper for importers, and Trump viewed the weakening as the latest barb in the U.S.-China trade war.

But does invoking the law give the U.S. any advantage in trade negotiations with China? It offers no options for immediate sanctions. However, it could be a subject to discuss when when delegations from the U.S. and China meet in September, Kent Hughes, a public policy fellow with the nonpartisan Woodrow Wilson International Center for Scholars, told Yahoo Finance.

U.S. President Donald Trump meets with China's President Xi Jinping at the start of their bilateral meeting at the G20 leaders summit in Osaka, Japan, June 29, 2019. REUTERS/Kevin Lamarque

During that meeting, the U.S. and China will also discuss current and proposed tariffs on Chinese imports under Section 301 of the Trade Act of 1974.

“The difficulty, of course, is when you violate [the 1988 Act], it really triggers negotiations ... so I suspect that they will look at the 301 authority,” Hughes said, in assessing where the U.S. will look to maintain pressure on China, adding the caveat, “It’s not clear what President Trump’s follow-up will be.”

So far, the president has threatened to elevate tariff levels already in place, and add 10% tariffs on an additional $300 billion in imported Chinese goods.

‘We have, in the past, simply tolerated this’

Under the Competitiveness Act, the treasury secretary must assess whether countries are manipulating their currency to gain unfair trade advantages, or to influence balance of payments adjustments (essentially the transactions that a country’s entities complete outside that country, including imports and exports.) Currency manipulation, alone, does not qualify for designation under the Act.

If a nation is deemed a qualifying currency manipulator, the secretary then must negotiate with countries that are parties to the International Monetary Fund (IMF), or bilaterally, “to ensure that they regularly adjust the exchange rates between their currencies and the U.S. dollar.”

The Treasury Department last invoked the Competitiveness Act against China in 1994 during President Bill Clinton’s administration. It provides a broad definition of currency manipulation different from a 2015 law — the Trade Facilitation and Trade Enforcement — that mandates a year’s worth of “enhanced bilateral engagement” for countries that spend at least 2% of GDP effectuating currency manipulation before retaliatory action may be taken.

In May, when the Treasury Department released its most recent currency report, China did not fully meet the requirements that would trigger the 2015 law.

“We have, in the past, simply tolerated this,” Hughes said. “If you go back and read the Treasury would find they would express concern...but never fine anyone in violation of the [1988] law.”

For pressure on China beyond what is available through the Acts and Section 301, the Trump administration could seek to have Congress pass sanctions legislation.

The complications of labeling China a manipulator

Critics argue the “manipulator” designation will deteriorate the chance of resolving differences between the countries. Others add that China’s long history as a non-market economy (NME) that intervenes to stabilize the yuan’s value relative to the U.S. dollar has kept the currency’s value significantly stronger, not weaker, than if it were permitted to float — cutting against the argument for designating China a manipulator.

A Chinese bank employee counts 100-yuan notes and US dollar bills at a bank counter in Nantong in China's eastern Jiangsu province on August 6, 2019. (Photo by STR / AFP) / China OUT (Photo credit should read STR/AFP/Getty Images)

Targeting currency manipulation with tariffs under international rules can be challenging, Hughes said, since the World Trade Organization (WTO) provides for unfair trade activity sanctions but is too narrow to include currency manipulation.

“One of the complications is that if you were to call currency manipulation a subsidy, which arguably it is, you have to point out under WTO rules — if you want to impose tariffs in response — how it favors a particular industry or a particular sector,” Hughes said. Since currency cuts across every export or import sector and industry there’s no easy avenue for a currency-based WTO sanction, he said.

Hughes also raised the question whether a protracted currency war, added to the current trade dispute, is what is in store for U.S.-China relations, especially since the U.S. can’t control how other nations respond to China’s economic policies.

“If China continues to allow its currency to decline, what about the other nation-countries that compete with China? Will they have to adjust their currencies accordingly?” he asked. “What do you do if another 10 countries follow China’s lead and reduce their own currencies?”

Under those circumstances, Hughes said layers of complexity arise, because the U.S. would be forced to make a difficult calculation estimating how much U.S. trade is impacted by multiple, interplaying currency adjustments.

‘A three-front, full-blown’ war

On Wednesday, New Zealand, India, and Thailand announced interest rate cuts, even though China moved to limit further weakening of the yuan.

“We are in a three-front, full-blown, maybe generational, certainly several-years war,” David Kotok, Chairman and CEO of Cumberland Advisors, told Yahoo Finance’s On The Move. According to Kotok, currency, trade, and now capital flows, are all at heightened uncertainty levels, with capital flows representing the most violent, high-risk, part of the resolution equation.

Stefan Selig, managing partner for BridgePark Advisors, echoed the complexity, also telling Yahoo Finance’s On The Move that the timeline for resolving disputes between the U.S and China could be generational.

“The ability for the U.S. and the Western economies to accommodate a large, non-market economy like China — we’ve never done this before, so we have no experience,” Selig said. “And as a result of that, we really don’t have any blueprint to go forward with.”

Whether the Trump administration blueprint would include purchasing yuan in order to defend the dollar, Hughes says is unlikely.

“I don't think the U.S. will intervene in the currency markets to change the value of the Chinese or any other currency,” he said.

The Omnibus law invoked by the Treasury Department Monday was born out of deep U.S. trade and budget deficits that persisted from the 1970s and into President Ronald Reagan’s administration. A strong valuation of the U.S. dollar at the time effectively played out as a tax on U.S. exports, making them less attractive to international buyers.

Alexis Keenan is a New York-based reporter for Yahoo Finance and former litigation attorney. Follow Alexis on Twitter @alexiskweed.

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