China's Li resists a Snow job

But the success of the Snow doctrine will depend largely on whether China agrees to manage its high-flying renminbi. And the assistant governor of the People's Bank of China,Li Ruogu, says Beijing sees no reason to unpeg the country's currency from the dollar, at least for now.

"We're financing the big debt of the United States," Li said at last month's joint meeting in Dubai of the International Monetary Fund and World Bank. A stable renminbi "is not only good for us, it's good for our immediate neighbors and good for the whole world."

That isn't necessarily how the rest of the world sees it. The Group of Seven Finance ministers issued a statement in Dubai that marked a major departure from their previous hands-off stance toward currencies. Flexibility in exchange rates is "desirable," the ministers asserted, to promote "smooth and widespread adjustments in the international financial system." That is to say, currency pegs like China's are problematic. The statement effectively endorsed the idea that a weaker dollar is needed to reduce the U.S.'s huge current-account deficit.

Beijing doesn't share the G-7's perspective. China may be growing at a rate of more than 8 percent a year, but officials fear that a renminbi revaluation could disrupt its economy as well as those of its trading partners. In Dubai the People's Bank's Li vigorously defended the policy of pegging the renminbi to the dollar, pointing out that Beijing's refusal to abandon the peg and devalue its currency in the late 1990s had helped contain the Asian financial crisis.

China's massive trade surplus with the U.S. is driven not by a cheap currency, contended Li, but by cheap labor. That is what has made China the preferred offshore manufacturing platform for U.S. and other Western corporations, he said. And he pointed out that China's recycling of its surplus is helping to keep U.S. interest rates down. In the first half of this year, China's reserves surged by $60 billion, to $346 billion, almost all of which was invested in U.S. Treasury, agency and corporate bonds.

一种货币revaluation could pose great risks for China. The country must fix a banking system in which an estimated 25 percent of all loans are nonperforming; it needs to reform state-owned enterprises and redeploy millions of unproductive workers; and it must find a way to raise rural living standards to prevent a flood of peasants from overwhelming its cities. A stronger currency would exacerbate those internal problems, Li said.

Many Western bankers agree. Floating the renminbi before China sorts out its banking woes could lead to a flight of capital that weakens the currency, says Stuart Gulliver, head of corporate, investment banking and markets at HSBC Holdings. "We will all be much better off if China's financial markets develop at a steady pace," he asserts.

Still, the pressure on China to revalue is likely to intensify at home as well as abroad. The flip side of the fixed exchange rate is that an astonishing 20 percent annual growth in the country's money supply is fueling an unsustainable lending and investment boom, says Nicholas Lardy, an economist at the Institute for International Economics, a Washington think tank.

Lardy says that China should seek to slow this growth by revaluing the renminbi by as much as 25 percent and then pegging it to a basket of currencies that includes the yen and the euro as well as the dollar. Otherwise, he warns, the country may face a serious bubble in its economy. Some analysts believe that the People's Bank also secretly worries about a credit bubble but can't come out publicly for a revaluation because China's political leaders remain committed to the dollar peg.

Japan's recent decision to allow the yen to rise may be a clever attempt to isolate China on exchange rates. Tokyo, after all, is as eager as Washington is to see a more expensive renminbi, which would ease the competitive strain on its own exporters. "The Japanese are trying to get the Chinese to move," suggests Gerard Lyons, chief economist at Standard Chartered Bank.

Li acknowledged that a floating exchange rate for the renminbi is inevitable in the long term, but he wasn't about to say when that might be. "I can't give you a very clear timetable," he demurred.