Sometimes Walking Softly Gets the Job Done

Long a bone of contention between a nation in hyper-growth on the one hand, and a nation with a worrying trade imbalance on the other, the yuan's peg to the dollar is closer than ever to facing a major restructuring. Analysts and US policymakers believe that the yuan is up to 40% undervalued due to its peg against the greenback, making Chinese exports to the US cheaper than they should be. Conversely, this leads to US goods being relatively overvalued for Chinese consumers, creating a double dip for US producers who have to compete against artificially cheap goods at home and face reduced market appetite abroad.

The US has made the currency peg a main talking point in almost every discussion it has had with Chinese leaders over the past 5-10 years. However, as some of China's neighbors have recognized for a long time, China's leadership does not necessarily appreciate being dictated to. Many believe that this has lead to a situation where the currency regime may have been left in place more for politics than actual economic reasons.

Despite this long-time game of political one-upmanship, it appears that China is ready to make a move. Though this is a bit simplified, some analysts believe that the People's Bank may either move to a crawling peg, which would allow more fluctuation against the dollar, or perhaps a crawling peg based on a basket of currencies, which would allow for fluctuation and would additionally reduce some of the initial appreciation that removing the peg would expect to bring. In anticipation of these potential changes, longtime critics of the peg have been notably silent lately in an attempt to avoid further politicizing the situation.

The process leading up to the potential restructing of China's currency regime could hold broader lessons for the future. Though the currency peg has been an issue for some time now, Chinese authorities have made only superficial adjustments over the past few years, reflecting a pushback against pressure from the international community. However, the flip side is that this same pressure is what made the message from the international community clear; to be a true global player, sometimes you need to play nice with your international friends. Big sticks are clearly still necessary, and should always be at the ready in international diplomacy. However, at the same time it cannot be forgotten that sometimes it is the walking softly part of the equation that ultimately tips the balance in your favor.