Keep Watching Dollar, No Matter What China Does

In the rarefied world of currency and foreign trade markets, all eyes are on China, where the government is soon expected to yield to international pressure and allow the yuan to rise in value.

Better those eyes should be on the U.S. dollar, which is undergoing a major shift in value with long-term implications for American businesses and consumers.

A change in China’s currency certainly has major import, given the Asian giant’s rise as a global trade power. But any revaluation of the yuan probably would be modest. Experts predict Beijing will allow the yuan to rise maybe 7%, to about 7.7 yuan to the dollar, while still keeping it from being freely exchangeable internationally. Since 1994 China has kept the yuan pegged at 8.28 to the dollar.

Whatever that small revaluation does for China, the real story is the dollar.

The U.S. currency in the next few years will decline an additional 20% on top of the drop it has already experienced against Europe’s euro and Japan’s yen, predicts economist Edwin Truman of Washington’s Institute for International Economics.

This probably would mean less-robust consumer and government spending and more exporting and less importing of goods and services, Truman says. But he is not predicting recession: “U.S. output can be as high as it is now,” Truman says. However, there must be an adjustment in other activities to reduce the U.S. deficits in trade and international capital flows.

Briefly put, the United States -- with one of the only growing economies in the world -- has been buying goods and services of other countries, paying out dollars and then getting many of those dollars back in the form of investments in U.S. Treasury securities. That process has built up a deficit amounting to more than $660 billion, or about 5.5% of the total U.S. annual output of goods and services.

The size of the so-called current account deficit has aroused anti-trade fervor in Congress and fears in international financial circles about the sustainability of an unbalanced world economy. So now an effort begins to cut the deficit, and this will have real effects -- both positive and negative-- in an international economy like that of Southern California.

Import firms “have already been told to be prepared to pay 2% to 3% more for the goods they import from China,” reports Peter Ro, foreign exchange manager for Los Angeles-based City National Bank.

On the other hand, the lower dollar is already delivering major benefits to this region’s economy. Tourism to Los Angeles and neighboring communities was at a record 24.3 million visitors last year and the pace is keeping up this year, says Michael Collins of the Los Angeles Convention & Visitors Bureau.

And some of the area’s myriad small companies welcome a weaker currency. Jordana Cosmetics Inc., a Los Angeles-based company that sells lipstick and other cosmetics through drugstore chains, is getting new sales from Germany and elsewhere in Europe.

“The exchange rate means a lot to products that sell for $1 to $5 apiece,” Jordana owner Ralph Bijou says, noting that an adjustment of only a few pennies can make a big difference in a highly competitive low-margin business.

It makes a difference also to Hanson Research Corp. of Chatsworth, a half-century-old company that makes machinery for the testing and production of pharmaceuticals. Hanson gets half of its $7-million revenue from overseas. “As the dollar has declined, it has been an advantage for us in Europe,” says Madeleine Prochazka, who manages customer relations worldwide.

For larger companies, to be sure, currency changes cut both ways.

Echelon Corp., a San Jose company that produces networking controls for energy-efficient heating and lighting, pays higher costs for parts that originate in Europe.

But overall, the company, which last year gleaned 85% of its $110 million in revenue from outside the U.S., “has a major advantage because our costs are in dollars,” Chairman Kenneth Oshman says. Thus when Echelon is paid in euros for a project in Italy, where it is installing controls for that country’s state electrical utility, it gains a currency profit by translating the rising euro into dollars.

Beyond the effect on individual companies, the overall economy will be in for some changes. But for all the uncertainty of these times about U.S. deficits, we should keep in mind that the needed adjustment is not superhuman.

“A huge economy like the U.S. can sustain a deficit of 3% of its GDP,” foreign exchange manager Ro says.

So to meet its goals the U.S. needs to add $260 billion a year in export revenue -- 23% more than last year. That should be manageable over just a few years, given the falling dollar’s boost to exports.

With the growth of China and India and the seeming rise of the European Union, concerns are heard these days that the dollar will be displaced as the only real currency of global commerce. That could hurt U.S. businesses by lessening their control over costs.

But nothing like that is likely to happen for a very long time, if ever. Truth is, no other currency could play the dollar’s role.

The euro, despite a high exchange rate, is hobbled by Western Europe’s aging and non-growing economies, not to mention the threat of European Union disintegration if member countries reject a proposed constitution.

Japan has always declined the responsibility of a world currency for the yen. And China won’t allow major changes to its currency for a good while “because it fears the collapse of its state banking system, which is hobbled by hundreds of billions in bad loans,” notes Romeo Dator, manager of the China Region Fund, a mutual fund that invests in Hong Kong and Singapore markets.

“China could be a dollar competitor if its government demonstrated over time that it could and would bail out the country’s banking system and major debtors,” says veteran economist Albert M. Wojnilower of New York’s Craig Drill Capital Inc. But, he added, “This would take a long time, maybe forever.”

Meanwhile, as the Chinese say, we will “live in interesting times.”

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James Flanigan can be reached at jim.flanigan @latimes.com.