Trump brings sledgehammer to China and the dollar

‘Why should the dollar be the world reserve currency?’ This challenging question was posed by a young Republican senator from Ohio, in the spring of 2023, to Jerome Powell, chairman of the Federal Reserve.

*****

Trump brings sledgehammer to China and the dollar

‘Why should the dollar be the world reserve currency?’ This challenging question was posed by a young Republican senator from Ohio, in the spring of 2023, to Jerome Powell, chairman of the Federal Reserve. The senator, from Appalachia, compared the role of the dollar to the ‘resource curse” in his native region: just as coal brought wealth to the region but also inhibited further economic development, the dollar’s appreciating status as a world reserve currency hinders further industrial growth of the US. The global desire for dollars causes the value of the currency to rise continuously, a phenomenon that, according to the senator, has adverse effects on the US economy.

Although controversial, this argument is shared by a growing number of (heterodox) economists. However, even the International Monetary Fund estimated that the dollar was overvalued by 5-10% by 2023, and further increases are predicted. This is good news for Wall Street, but not for US exporters: an expensive dollar makes US products less competitive and contributes to a huge trade deficit.

In January, Trump will again be sworn in as president of the United States of America. He will be flanked by the same senator from Ohio who asked the complex question two years earlier, now vice-president-elect: JD Vance.

Vance’s arguments for a coordinated depreciation of the dollar align closely with President Trump’s views. Trump has repeatedly stated his desire to depreciate the dollar, and the nomination of Scott Bessent as Treasury secretary underscores this ambition. Bessent, a former hedge fund manager, stresses that he wants to preserve the dollar’s role as a world reserve currency, but he is open to deep, structural reforms, which implicitly lead to a weakening of the dollar.

The Trump administration is betting on tax cuts and deregulation to boost growth, but which could further increase the attractiveness of the US financial system, bolstering the dollar in international markets. At the same time, state support for industrial policies risks being eroded by the Department of Government Efficiency (DOGE), led by Vivek Ramaswamy and Elon Musk. Thus, a big bite may disappear from the subsidies Biden had linked to reducing industrial dependence on China within the CHIPS Act and the Inflation Reduction Act. Hence, the  policy-agenda threatens to become inherently contradictory: an expensive dollar and lack of state support weaken US industry and its export capacity, while China, with a relatively cheap yuan, further strengthens its export position to the rest of the world. A thorn in the side of the MAGA agenda.

To offset this, Trump is considering an aggressive trade policy, threatening to sign an executive order imposing a 25% tariff on all goods coming from Mexico and Canada, as well as charging an additional 10% to all Chinese tariffs in place. Higher tariffs on Chinese goods could spark a trade war, but not without purpose. According to Bessent, this approach is meant to ‘escalate to de-escalate’: increase pressure to force bilateral trade deals. A possible deal with China could involve appreciating the Chinese yuan in exchange for lower US import tariffs. This would weaken the competitiveness of Chinese exports, but also strengthen the consumption and international investment capacity of Chinese financial institutions.

Besides threatening with higher tariffs, Trump seems willing to go further in his charm offensive towards China as well (just as he did in his Phase One Trade Agreement in 2019). Whereas Biden excluded Chinese carmakers on principle, Trump – during the Republican national convention in July – suggested that he would prefer to see Chinese car factories in the US rather than in Mexico. This policy would mark a significant change in direction and underscores the reckless pragmatism but equally the flexibility of US economic policy under Trump.

To translate an organised depreciation of the dollar into a coherent policy, Trump will depend not only on his trade team but also on a cooperative Federal Reserve. However, this poses a challenge: Jerome Powell, Chair of the Federal Reserve, is sceptical about this course – which he also showed in his response to Vance in 2023. Furthermore, he has repeatedly spoken out against political interference in monetary policy. Any intentional depreciation is out of the question for the Fed chair, dutifully abiding his twin-mandate of price stability and maximum employment. Powell, who was appointed by Trump himself in 2018, appears to have no intention of ending his term early and is likely to stay on until 2026. This creates a remarkable power struggle: while Trump targets Beijing as his biggest economic rival, ironically, his closest opponent is closer to home, in the Eccles Building on Pennsylvania Avenue.

(Photo credit: Wikimedia Commons)