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Greenspan calls China decision ‘a good start’

China’s decision to let its currency rise in value is “a good start” toward better aligning the Asian trade giant’s economy with the rest of the world, Federal Reserve Chairman Alan Greenspan said on Thursday.
/ Source: Reuters

China’s decision to let its currency rise in value is “a good start” toward better aligning the Asian trade giant’s economy with the rest of the world, Federal Reserve Chairman Alan Greenspan said on Thursday.

Answering questions before the Senate Banking Committee — where he again described the U.S. economy as solid and pledged more interest-rate rises — the Fed chief said Beijing appeared to be acting cautiously as it moves away from a decade-old tie between its yuan and the U.S. dollar.

Beijing on Thursday abandoned a peg that kept the yuan at about 8.28 to the dollar and moved to a system that links the yuan to a basket of currencies, effectively raising the currency’s value by 2.1 percent.

“I think they’ve been cautious and I think admirably so,” Greenspan said. “But I look at it as a first step in a number of further adjustments as they invariably increase their participation in the world trading markets.”

The effect of China’s action will be to make its products more expensive in U.S. markets, though U.S. officials have expressed doubt it will be enough to significantly reduce the trade deficit with China that hit a record $162 billion last year.

It also may spur a realignment of values between Asian currencies in key economies like Japan and South Korea. In response to questions, Greenspan said China’s action likely will fuel a drive to increased flexibility in exchange rates, a positive development since it means countries are not as likely to try to manipulate rates for a trade advantage.

“I think we’re already seeing it,” Greenspan said when asked if the yuan revaluation would bring greater Asian flexibility. He noted that Malaysia dropped its currency peg after Beijing’s announcement and that the dollar weakened against the Japanese yen -- something that Tokyo has sought to avoid in the past through intervening in currency markets for fear that its exports to U.S. consumer markets might suffer.

In prepared remarks identical to those he gave on Wednesday to the House of Representatives Financial Services Committee, Greenspan said the economy had moved past economic weakness earlier in the year and was on a solid footing.

But he warned of “significant uncertainties,” including high energy prices, labor costs, the future path of long-term interest rates and the danger this could spell for the country’s housing market.

Lawmakers peppered Greenspan with questions on issues ranging from mortgage financing companies Fannie Mae and Freddie Mac to banking regulation. But before that, Democratic Sen. Charles Schumer of New York discussed the yuan revaluation, calling it “a baby step” toward what was needed.

China’s currency peg had faced increasing fire in the U.S. Congress, with many lawmakers calling for punitive tariffs on cheaply priced Chinese imports unless the Asian trade giant revalued its currency.

U.S. manufacturers argued that China’s currency was so undervalued that it amounted to an unfair trade subsidy that permitted a flood of cheap Chinese-made goods to bankrupt U.S. companies and cost tens of thousands of jobs.

The 79-year-old Fed chief, in his 35th and likely final presentation of the semiannual testimony to Congress, said the U.S. economy was back on a firm footing after earlier “soft readings,” and forecast “sustained economic growth and contained inflation pressures.”

“In our view, realizing this outcome will require the Federal Reserve to continue to remove monetary accommodation,” he added, using central banker code to say the Fed will keep raising short-term interest rates, its principal tool for setting the nation’s monetary policy.

Since June last year, the Fed has raised the federal funds rate target for overnight loans between banks nine times in quarter-percentage-point increments to its current level of 3.25 percent. Analysts expect the Fed to keep raising rates until hitting around 4 percent by year-end.

Much of the questioning on Thursday covered the same areas that Greenspan dealt with a day earlier in his House appearance. He was asked about economic risks posed by mortgage giants Fannie Mae ) and Freddie Mac  and said they should be made to hold the same levels of capital as banks must do to govern their risk-taking.

“Unquestionably if their risk-based capital were raised to the level of where commercial banks are that would assuage a good deal of the problem,” he said.

Greenspan again noted “signs of froth” in some local housing markets. He said some declines in home prices would not be surprising but should not cause difficulty for the broader economy.

Answering questions, he said there could be some impact on consumer spending if the rise in home prices eased.

He said that “would give us some pause” in ordinary circumstances, but it appeared that capital investment was picking up and adding to economic momentum so that reduced the worry about a potential slowing in consumer spending.