Politics Stymie China's EU Aid Offer

Diplomatic deadlock is curbing China's will to provide cash to help end the euro zone crisis after Europe spurned the simplest of Beijing's three key demands, two independent sources have told Reuters.

China had offered help in return for European support to grant it either more influence at the International Monetary Fund, market economy status in the World Trade Organization, or the lifting of a European arms embargo, said the sources, both of whom have direct knowledge of the matter, including one who has ties to the leadership in Beijing.

The IMF route would have been the simplest diplomatically, especially after European Union leaders last month laid out a plan to leverage up the resources of its crisis-fighting fund through an IMF-backed investment vehicle.

But the sources in Beijing say that this option was abruptly closed to China when it became clear to EU politicians that any investment from China would be contingent on gaining a greater say in IMF decision-making and a more rapid path to inclusion of China's yuan in the IMF's special drawing rights (SDR) currency unit.

Increasing China's say at the IMF would mean reducing EU representation and possibly diluting the influence of the United States, which enjoys veto-power status given its voting rights at the Fund.

We are willing to help, but we are not a charity, the source with leadership ties told Reuters, requesting anonymity due to political sensitivities.

The United States and the IMF also attach conditions (when they help financially troubled countries). It is not unreasonable for China to do the same. They can always reject (our demands), the source said.

Including the yuan in the SDR is important to China because the IMF unit is a basket of the currencies in which most global trade is settled -- U.S. dollars, euros, Japanese yen and sterling.

If the yuan were in the basket, that would dent the dollar's global influence and help stem the inflation-fuelling inflows of foreign capital that China's central bank has to sterilize. It would also be a symbolic boost for the yuan, underscoring Beijing's desire for a bigger say in the running of the international monetary system.

CHINA'S WISHLIST

China has said before that it would like to see its currency become part of the SDR. Chinese President Hu Jintao signaled that wish again at last week's G20 Summit in Cannes.

We should ... expand the use of the SDR of the IMF, reform the SDR currency basket, Hu said.

But China's near-term hopes were dashed when IMF chief Christine Lagarde told a news conference in Beijing on Thursday that the time was not right for the yuan to be included in the SDR units, although such a time might come soon.

She did not offer a timetable, but the next review of the basket components is not scheduled until 2015.

More broadly, the idea that China should ask for something in return for helping Europe has been suggested many times by local pundits and occasionally officials, too.

In a September speech, Premier Wen Jiabao ostensibly made China's support of Europe conditional on the EU backing a proposal that it recognize China as a market economy, a comment that sparked a slew of critical editorials in Western media.

Days after Wen spoke, a Chinese Commerce Ministry spokesman appeared to back-pedal, saying financial aid to the EU was not contingent on Europe granting China market economy status that would, under WTO rules, make it harder for Europe to apply trade sanctions against Chinese imports.

China accepted its designation as a non-market economy when joining the WTO in 2001.

And China has been relatively restrained in not demanding publicly that Europe scrap an arms embargo against China -- introduced after the 1989 military crackdown on student-led, pro-democracy protests centered on Beijing's Tiananmen Square -- in return for financial assistance to end the debt crisis.

China fears that the euro zone's sovereign debt crisis could trigger trade friction with its biggest export market and hurt its exports and economy.

OPPORTUNISM IRKS EUROPE

For their part, some European policymakers are irked by what they call the opportunism of China's apparent wish to trade some of its vast foreign wealth for increased influence.

The idea that Europe is desperate for China's money is wrong, one senior euro zone monetary official said this week, speaking on condition of anonymity.

I don't like all this talk of Europe begging China for help, because Europe has the resources to solve its own problems if it can find the political will, the source said.

China's leaders, meanwhile, must show their citizens that giving some of the country's $3.2 trillion in foreign exchange reserves to Europe is a good thing -- especially given the country's exposure to the 36 percent decline in the nominal value of the U.S. dollar over the last decade.

While China's top officials are not popularly elected, public criticism can sometimes expose a senior leader to attack by other factions in the Communist Party leadership.

Tens of thousands of netizens have been venting their anger online, demanding their leaders sort out China's own problems before bailing out Europe. [ID:nL4E7M30NT]

There is no free lunch. If we get nothing in return, (the leadership) will 'invite a stinking smell' to themselves, the source with direct knowledge of the matter said, quoting a Chinese idiom.

Europe's rejection of China's demands -- particularly the inclusion of the renminbi in the SDR -- was tantamount to a slap in the face, said the source.

That could make it even less likely that Beijing will ride to Europe's rescue with a huge cash infusion that some Chinese sources say could be as large as $100 billion.

(Editing by Don Durfee)