The U.S. Treasury Department’s decision earlier this week to flag currency manipulators in both Vietnam and Switzerland had no precedent and raised many eyebrows. To even call a country a manipulator is a rare and headline-grabbing event. So far, the administration of US President Donald Trump only named one country, China, as a currency manipulator – only to later remove it. The Treasury Department had never designated two countries at once.
You might be forgiven for expecting a more thorough overhaul of US currency manipulation policy during the Trump administration. After all, Trump swore in 2015 to appoint China as a currency manipulator on his first day in the Oval Office. As president, he raised allegations of currency manipulation on Twitter. He deciphered the United States’ trade deficits and revised decades of official US trade policy. And when the goal is to reduce the entire trade deficit, the natural complement of trade policy becomes monetary policy.
Nonetheless, given the lack of real follow-up to official changes in US monetary policy, it would be tempting to interpret this week’s designation as the final quack of disruption by a Lame Duck administration. On the contrary, this action underscores the continuity of the currency manipulation policy under Trump, which has seen only minor changes to the rules of the Treasury Department formulated under the administration of former President Barack Obama.
So why now call Switzerland and Vietnam – and only these two countries – currency manipulators? For starters, the Treasury Department’s hands were so tied that, as with the announcement itself, there was a lack of precedents. Since 2015 legislation requiring the Treasury to enact certain criteria to identify currency tampering, Switzerland and Vietnam have become the only countries to have ever met all three of the Treasury’s criteria: a large trade surplus with the United States and a large current account surplus and heavily intervening in currency markets to artificially weaken a currency. For context, China has been labeled a currency manipulator after hitting just one of the three.
Now, if the Treasury Department refused to name manipulators from Vietnam and Switzerland after meeting all three conditions, it would mock its own currency manipulation regime. Technically, one could even argue that the Treasury Department would be breaking the law if it did not label the countries’ manipulators as such, if they all met their own criteria. (A handful of other countries that met two of the three conditions – including Germany, Japan, and South Korea – are on a watch list, according to the Treasury Department.)
Two of the Treasury’s three criteria deal with the types of trade imbalances that can occur for a number of reasons and in many countries. Vietnam and Switzerland have already met these criteria: In the past 12 months, the country has achieved a bilateral trade surplus with the United States in goods of at least 20 billion US dollars and a current account surplus of 2 percent gross domestic product.
But it was the third criterion that Vietnam and Switzerland met. If a country takes “persistent, unilateral intervention” to weaken its currency by at least 2 percent of GDP over a 13-month period and already meets the other two conditions, the Treasury Department must effectively label it a currency manipulator.
Both Switzerland and Vietnam have recently stood out from the crowd in this regard. Between July 2019 and June 2020, the timeframe considered in the last report, the Treasury Department estimates that Switzerland’s intervention in the foreign exchange market amounted to US $ 103 billion, accounting for a whopping 14 percent of its GDP. Vietnam’s $ 16.8 billion intervention was equivalent to 5.1 percent of its GDP. (If an economy the size of the United States had been messing around with foreign exchange markets on this scale, it would mean interventions on the order of $ 1 trillion to $ 2.9 trillion.)
Why are they trying so hard now to push their own currencies down? Vietnam, a burgeoning exporting power, has historically undervalued its currency, as the US Trade Representative’s office recently claimed when it opened a Section 301 investigation into the country. Cheaper currency means more competitive exports.
However, due in part to the Trump administration’s tariffs on Chinese goods, Vietnam has seen a surge in foreign investment as Vietnamese factories continue to ship goods to the US duty-free. An influx of foreign investment would tend to add to the value of the Vietnamese currency, which would severely affect the competitiveness of these newly discovered exports. The Vietnamese authorities, fearing the pace of currency appreciation, appear to want to moderate this through large-scale interventions, which goes against the Treasury.
In Switzerland, all of the global carnage and disruption caused by the COVID-19 pandemic impacted the reputation of the Swiss franc as a safe haven and resulted in strong upward pressure on the currency. However, a stronger franc would mean lower prices in Switzerland and threaten to negate negligible Swiss inflation, which was already less than half of 1 percent in 2019. And negative inflation – deflation – sets off a vicious cycle of economic contraction. Inflation can be fearful on Wall Street, but deflationary spirals are (and have been) the stuff of great depression.
The political decision-makers in the USA seem to be sensitive to the situation in Switzerland. In the Ministry of Finance’s own report, Swiss currency interventions are recognized as a reaction to “persistent deflationary risks” domestically and as an attempt to avoid “negative effects on inflation and domestic growth”. Empathy for a foreign central bank does not, however, exempt its behavior from the judgment of the US Treasury Department if this behavior serves at least in part to “prevent effective adjustments to the balance of payments”.
And there are other potential pitfalls that can arise from the Treasury report. While acknowledging Switzerland’s legitimate growth and inflation concerns, the report said the Swiss authorities can alleviate the need for unconventional monetary policy “by increasing participation rates and productivity growth”. But blaming other countries for relying on monetary policy to make up for shortcomings elsewhere could soon bite Washington again. For example, the United States faced complaints of currency manipulation from countries like Brazil in response to the Federal Reserve’s quantitative easing program, which helped prop up a volatile US economy but weakened the dollar. Today the dollar weakens again as the Federal Reserve takes unconventional measures to help a US economy in crisis. So the United States could soon hear the Treasury Department’s criticism of Switzerland turning against itself.
So what happens next between the United States and these two countries? The only certainty is that the Treasury Department will undertake “enhanced bilateral engagement” with each country to “develop a plan of specific policies to address the underlying causes” of external imbalances.
There is little chance, however, that either country would address these “underlying causes”, even if the United States threatened more than loss of access to government procurement programs. The authoritarian Vietnamese government is underestimating its currency and reducing the amount of things any Vietnamese citizen can buy in order to have fewer unemployed people. In Switzerland, the national government tends not to issue bonds because it avoids budget deficits that have to be financed. This is one reason the Swiss central bank is turning to currency intervention rather than buying government bonds to try to save its economy from deflation. In both countries, the external imbalances have deep roots in the foundations of domestic governance. They are unlikely to change based on a semi-annual financial report.
Instead, the most likely legacy of this announcement lies likely in its impact on the government in the United States. Probably the next Treasury Secretary, Janet Yellen and her colleagues, will inherit these “enhanced bilateral commitments” and may continue to do so. In this case, the Ministry of Finance begins by giving an existing bilateral forum in which Switzerland and Vietnam can also be pressed on issues that are not related to currencies per se. However, if the Biden government symbolically delisted the countries without immediately making concessions, they will initially mock the Treasury’s existing currency manipulation regime. Either way, the clock is shorter on Biden’s first shot on monetary policy. But the Trump administration is now leaving a situation that could embarrass any Biden administration that seeks to tone down U.S. currency manipulation policy.
After the past four years and the spate of last minute announcements, it is tempting to assume that all disruptions in US policy are due to disruptions in that policy. But the Treasury Department’s criteria for currency manipulators – despite everything that has changed in the US’s international economic policy – are largely unchanged compared to the Obama administration and will continue at least into the opening days of the Biden administration.
Sometimes, in a world that never stands still, the real source of surprise is the continuity of US policy.