The Yuan’s Squeeze: Why Exchange Rates Matter More Than AI Sleuths

The White House’s recent report, The Great Transhipment Scam, has generated significant attention in Washington. The administration’s new tool to detect rerouted imports, an AI-powered border “detective,” is touted as a solution to the perennial problem of China’s overwhelming exports. However, this approach overlooks a more effective and straightforward way to address the issue: adjusting the value of the Chinese yuan.

The White House’s reliance on AI sleuthing is puzzling, given that it won’t restore factory jobs in cities like Toledo, Hickory, or Phoenix. Cracking down on rerouted imports may satisfy some politicians’ urge for action, but it will hardly dent the US import bill. Moreover, it’s unlikely to do much harm to China, whose exports continue to grow despite the administration’s efforts to squeeze them out.

Adjusting the exchange rate can have a significant impact on reducing China’s massive trade surplus. The undervalued yuan is not just a symptom of broader economic dynamics; it’s also a key driver of China’s export-led growth model. If Beijing were to push up the exchange rate by fiat, it would slow China’s growth and reduce import prices, slowing inflation and depressing the real, after-inflation exchange rate.

Gene Frieda from the London School of Economics notes that “The barrier to progress is not policy design; it is policy preference.” In this case, China’s preference is to maintain a massive trade surplus, which it achieves through massive intervention to depress the value of the yuan. History suggests that currency adjustment can drive economic realignment.

For example, the Plaza accord in the 1980s weakened the dollar, reducing the US trade deficit with Japan. Similarly, when the global financial crisis led to a yuan appreciation, China’s external surplus contracted sharply. By contrast, the slide in China’s currency has underpinned a rising external surplus since 2023.

Revaluing the yuan would likely induce other policy changes to plug the world’s dramatic trade imbalances. Slowing export growth would slow the Chinese economy, tempting Beijing to stimulate domestic consumption to compensate. A smaller Chinese trade surplus would shrink the pool of foreign funding for the US budget deficit, perhaps even encouraging fiscal restraint in Washington.

Ideally, the US would coordinate efforts to revalue the yuan with countries in Europe and elsewhere that have been hammered by Chinese exports. Pressure on Beijing would be part of a plan to revalue other depressed east Asian currencies, like the Korean won, the Taiwanese dollar, and the Japanese yen, to reduce competitive pressures and rebalance global trade.

This approach requires more than just rhetorical flourish; it demands concerted action from governments and policymakers around the world. For too long, the US has relied on tariffs and AI sleuths as a substitute for genuine economic policy. It’s time to acknowledge that exchange rates matter more than artificial intelligence when it comes to addressing global trade imbalances.

As Brad Setser of the Council on Foreign Relations notes, “History suggests currency adjustment would drive the economic realignment needed to reduce China’s overwhelming exports.” The question is: will the US have the courage to take on Beijing and address the root causes of its trade deficits? Or will it continue to rely on Band-Aid solutions that merely treat the symptoms rather than the disease itself?