America's China headache.

• Author: Mastel, Greg

No, there will be no new Smoot-Hawley. But the United States and China are fighting a modern trade war all the same

For the first time, trade with China was a major issue in the U.S. presidential campaign, with both candidates making charges and countercharges in the debates, campaign advertisements, and stump speeches. Economic and trade tensions between Beijing and Washington have been steadily tense for decades, with flash points on issues ranging from supplies of rare earth metals to currency exchange rates. The economic relationship is undeniably complex with each country benefitting in different ways from hundreds of billions of dollars in trade and investment with the other, but seemingly endless disputes have led observers to proclaim multiple times that the two economic behemoths are on the edge of a trade war.

The truth of modern international economics that a "trade war"--a term coined to describe multiple rounds of Great Depression-era tariff increases including the infamous Smoot-Hawley tariff bill--is an outdated concept. But modern trade wars involving complex measures such as investment restriction, abuse of unfair trade laws, and even internet restrictions are not only possible, but a reality.

Within the United States, there is deep disagreement between major political parties on most issues. Trade with China, however, is almost an item of something approaching consensus. Many in Congress have been chomping at the bit to enact various measures aimed at punishing or sending messages to China. President Obama has launched a number of international trade complaints against China at the World Trade Organization. Republican presidential candidate Mitt Romney announced that he would identify China as a currency manipulator under U.S. law, which would launch a new and probably acrimonious negotiation with Beijing. Despite the unquestioned benefits of U.S.--China trade, the long list of disputes and the high degree of political consensus against China on trade suggests that the United States and China are already in a modern day trade war. The real question is what is the best strategy for the United States in this contentious environment.

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CHINA CURRENCY

Perhaps the most important but least understood trade and economic dispute between Beijing and Washington is the exchange rate between the dollar and China's currency, known as the yuan or renminbi. The essence of the dispute is that in order to promote exports and growth, China has consistently held the exchange rate of its renminbi low versus the dollar. This has effectively kept...