Trade War Is Here -- and We've Disarmed

[pkpatriotic]

Trade War Is Here -- and We've Disarmed

October 3, 2010
By Robert Kuttner

Last Wednesday, by a wide bipartisan margin of 348-79, the House passed a bill giving the executive branch authority to impose retaliatory tariffs on a wide range of Chinese exports. The bill was intended to give the Obama Administration leverage (which the White House seems quite disinclined to use) in continuing talks with Beijing about China's manipulation of its currency.

The usual suspects made alarmed clucking noises about jingoism and impending trade war. Writing in the New York Times op-ed page, Steven Roach, a senior executive with Morgan Stanley, contended that the real problem is the low US savings rate, which supposedly leads America to over-consume and pull in imports. This has been used as an alibi for decades, but the fact is that our savings rate bounces around while our trade deficit with China moves only in one direction. Global mega-banks like Morgan Stanley profit from the US China trade, even if America gets rolled. Even the Financial Times, usually pretty sensible, warned against a more assertive stance.

In truth, a trade war already exists, and it is being unilaterally waged by China. The entire Chinese industrial system uses a wide range of subsidies that violate both the letter and the spirit of the World Trade Organization. As the United States-China Economic and Security Review Commission has long documented, China subsidizes exports, provides bank loans to industry at zero or negative interest rates, and either bribes or coerces US industry to locate production in China for export but not for China's internal market. All development land in China is owned by the government, which means that China can subsidize favored projects at will.

Supposedly, state socialism failed, but the Chinese have created an improbable combination of a one-party socialist state and predatory capitalism. American industry is so far into the tank with the Chinese and the U.S. government is so heavily dependent on the Chinese to buy our bonds that the administration can't imagine taking a hard line against Beijing. Our diplomats behave more like a client power genuflecting before the might of the imperial master than the dominant nation that the U.S. is supposed to be.

The Chinese system has succeeded in giving China a growth rate in excess of ten percent a year. It has created a new capitalist class, a burgeoning middle class, and an urban proletariat that lives relatively better in sweatshop conditions than in rural destitution.

The system works, sort of, for China. But it doesn't work for China's leading trading "partner" -- the United States.

It would be far better if China focused more in its own internal market, and paid its people wages commensurate with their rising productivity, so that they could import more from the rest of the world. Wages count for only about 32 percent of total GDP in China -- in most of the West, the figure is double that. So the Chinese governments keeps its own people poor and uses the fruits of their labor to invest in expansion, including many billions of dollars in illegal subsidies to industry, and then lends America the money to buy subsidized products.

An artificially cheap currency, which has gotten most of the attention, is only one part of Chinese mercantilism. It gets the focus, because even the free-market crowd find it hard to defend. But China could let its currency values be set by market forces tomorrow morning and the rest of its mercantilist system would remain intact, as a real menace to what's left of US manufacturing.

Interestingly, some improbable commentators, like the Washington Post's Robert Samuelson, usually a defender of the free-trade orthodoxy, are recognizing that we have a real problem. Much of the fault lies with our own leaders, and the fault is bipartisan. Both parties have refused to commit the US to an industrial policy of its own. The Democrats under Clinton (Bob Rubin, to be precise) let China into the WTO without asking for any serious reforms in return. The indulgence of Beijing continued under Bush, and continues to this day under Obama. The Chinese make vague noises about currency revaluation, and the administration immediately backs off.

These people are cleaning our clock. The one card we have to play is that they desperately need the big US consumer market. For the moment, there is a two-way codependency. It's not in China's interest for America to go broke. But in another few years, we will have squandered whatever leverage we still have left.

For once, Congress did the right thing. The administration should follow. If China wants the benefits of an open trading system, it should start playing by the rules. And our own executive branch should pay more heed to jobs for our people, and less to profits for corporations that move work offshore and banks that profit from alliance with China's mercantilism.

Robert Kuttner is co-editor of The American Prospect and a senior fellow at Demos. His latest book is A Presidency in Peril.

 

[Chinese-Dragon]

America is now at risk of a double-dip recession, even after being at the epicentre of the recent credit crunch. Their economy is suffering, they cannot afford to wage a trade war.

China on the other hand didn't even experience a recession during the credit crunch.

So if they want to start a trade-war... then they're only hurting themselves, it's not going to hurt us at all. Good luck to them.

 

[no_name]

The chinese government was worried about economy overheating just a while ago. They will just relax some more.

 

[below_freezing]

Supposedly the best and brightest of the US all went into finance.

If this article is any representation, I feel much safer knowing that the best and brightest in the US are like this.

 

[Nomenclature]

This article offers some interesting perspective on the currency conflicts

Why China Is Our Secret Ally In The Global Currency War

Regardless of whether it is deemed good or bad, trade/currency conflict with China is a fact of life--but it doesn't fit standard models of "trade wars." To avoid unnecessary inflammation in the body politic, let's refer to this bundle of inter-related conflicts as "trade-currency issues" rather than a "trade war," which is a heavily loaded phrase that adds plenty of emotion and precious little understanding.

While many commentators warn that any trade war will lead to disaster (based on the negative consequences of higher tariffs slapped on international trade in the Great Depression), trade with China overflows the boundaries of this simple model of trade and tariffs. It may well be a "trade war" would be beneficial to both nations as long as it doesn't transmogrify into a "hot" shooting war.

To understand these conflicts, we can start by looking at a few of the major moving parts of trade between the U.S. and China. Trade and capital flows between the U.S. and China are complex and highly dynamic. Here are a few points to consider:

1. Since the renminbi (RMB or yuan) is fixed to the dollar, the pair trade as one unit against all other currencies. In a simple model of global trade and currency valuations, then all currencies are either fixed against a standard such as gold, or they float freely against each other.

Since China pegs its currency to the U.S. dollar, then neither model can make sense of the yuan-dollar pairing.

Given this pairing, China is less concerned about the consequences of their yuan peg on their trade with the U.S. than they are of the dollar-yuan's valuation against the Euro, Japanese yen, Korean won, etc.

If the dollar falls in value relative the euro, Chinese goods become cheaper in Europe. Since Europe is now a larger export market for China than the U.S. by a modest margin, that dynamic is critical to the Chinese leadership.

In other words, while self-absorbed American politicians can obsess about the yuan's peg, the Chinese have to worry about the dollar's moves against other major currencies.

It doesn't matter much where the yuan-dollar peg is set. As others have noted, jobs will not be moved to the U.S. from China if the yuan moves from 6.7 to 6. Prices on imported goods in the U.S. will rise modestly, and suppliers in China will receive fewer dollars.

Ironically, a stronger or weaker dollar has virtually no effect on the cost (in dollars) of goods from China, as the yuan is pegged to the dollar. The action is thus all on the dollar and its relative value in euros, yen, etc.

What would concern China is not superficial changes in the yuan peg but a much stronger U.S. dollar. As the dollar gains in strength, so too does the yuan. A much stronger U.S. dollar would end up making Chinese goods more expensive everywhere except the U.S.

2. Much has been written about China's "nuclear option" of dumping its $850 billion in U.S. Treasuries to "punish" the U.S. for its demands. Suffice it to say that this "nuclear option" is more a firecracker than a weapon of financial mass destruction. (Please see China's "Nuclear Financial Option" Downgraded to "Financial Firecracker"September 2, 2010 for more.)

In essence, the Federal Reserve can create as much money as it deems necessary to buy whatever assets it deems necessary. In 2009 the Fed decided to expand its balance sheet by $1.2 trillion to buy $1.2 trillion in mortgage-backed securities to prop up the U.S. housing market, and it did so without any panic or global consequences.

Thus the Fed could soak up China's entire $850 billion stake of Treasuries at will. That only represents 10% of outstanding Treasuries, and the Fed would only have to expand its balance sheet from $2.3 trillion to $3.1 trillion to do so. In the larger scheme of things, this is really no big deal.

I know many think it should be a big deal, but global markets issued a bored yawn over the last $1.2 trillion expansion in the Fed's balance sheet. Another $800 billion simply isn't enough to make much of a ripple.

The currency markets trade several trillion dollars of currencies a day. $800 billion is sizeable but it's really not that big in today's global markets. Even after the stock and housing market's declines, there is $52 trillion in net worth in the U.S. China's Treasuries represent about 1.5% of that.

If we grasp that what matters to China is the dollar's relative value to its other trading partners' currencies, then we reach a new understanding. What would cause China to dump Treasuries is not a desire to "punish" the U.S. but to weaken the dollar globally to keep Chinese goods cheap in Japan, Europe and elsewhere.

Many in America share this same goal: keep the dollar weak. In this sense, China and the U.S. are "allies" which are bonded by the yuan-dollar peg into a partnership against all other currencies and trading blocks.

Thus the yuan-dollar peg is more a sideshow played out for the domestic audiences in the U.S. and China. China's leaders don't want to "lose face" with their populace by seeming to cave in to U.S. demands, and American politicos desperately want to to appear "strong" with China to give the illusion that

1) they "care" about "creating jobs" in the U.S. (hahaha)

2) the "problem" is the yuan-dollar peg (it isn't)

3) they deserve being re-elected because they're "taking a strong stand" on this (worthless, nonsensical "issue" that won't create a single job--barf!)

Thus we can predict this issue will magically disappear after the November elections. The whole Kabuki play is staged direct from Central Casting: Inscrutable Chinese leaders, blustering know-nothing U.S. Congressmen hoping to leverage a tempest in a teapot into another term in power, and so on.

What would cause a real conflict between China and the U.S. is a true "strong dollar" policy. If the U.S. leadership changes in either 2010 or 2012 and the new leadership grasps the folly of beggar-thy-neighbor currency wars, then the U.S. might seek to strengthen rather than weaken the dollar. Were that to occur, China would soon suffer a major decline in global competitiveness as the U.S. dollar rose in value.

The lesson here is the advertised "conflicts" may mask both the differing interests and unstated partnerships between China and the U.S.

There is much more to be said on these topics, but I will close today's entry by noting that the key feature of capital flows between China and the U.S. is this: the U.S. in effect exports credit to China, and imports goods and dollars back. This trade in credit is reflected in the "real world" exchange of goods and currencies. While many commentators have noted that foreign trade flows must balance--China has to "recycle" its excess dollars back to the U.S.--the real issue isn't currencies, it's the credit underlying the trade itself.

 

[siegecrossbow]

Supposedly the best and brightest of the US all went into finance.

If this article is any representation, I feel much safer knowing that the best and brightest in the US are like this.

The best and brightest goes into Engineering. Economics courses are a joke in most universities.

 

[below_freezing]

The best and brightest goes into Engineering. Economics courses are a joke in most universities.

After engineering they go into "Financial Engineering".

Sigh, I am so glad we are smart enough to stay away from things like "Financial Engineering" and "Financial Physics"... I couldn't believe they were real terms at first.

 

[Nomenclature]

Wall Street employs a lot of physicists

 

[below_freezing]

If the author of this article represents the best and brightest, we have nothing to worry about. He's functionally illiterate and can't handle reading basic data. Imagine what the average person is?

 

[lcloo]

The world is de-coupling from USA, report from Bloomberg.com. The reduced import into USA will have minimum impact on other countries. USA will only hurt herself.

Wall Street Sees World Economy Decoupling From U.S.
By Simon Kennedy - Oct 4, 2010 11:50 PM GMT+0800
Wall Street economists are reviving a bet that the global economy will withstand the U.S. slowdown.

Just three years since America began dragging the world into its deepest recession in seven decades, Goldman Sachs Group Inc., Credit Suisse Holdings USA Inc. and BofA Merrill Lynch Global Research are forecasting that this time will be different. Goldman Sachs predicts worldwide growth will slow 0.2 percentage point to 4.6 percent in 2011, even as expansion in the U.S. falls to 1.8 percent from 2.6 percent.
Underpinning their analysis is the view that international reliance on U.S. trade has diminished and is too small to spread the lingering effects of America’s housing bust. Providing the U.S. pain doesn’t roil financial markets as it did in the credit crisis, Goldman Sachs expects a weakening dollar, higher bond yields outside the U.S. and stronger emerging-market equities.

“So long as it doesn’t turn to flu, the world can withstand a cold from the U.S.,” Ethan Harris, head of developed-markets economic research in New York at BofA Merrill Lynch, said in a telephone interview. He predicts the U.S. will expand 1.8 percent next year, compared with 3.9 percent globally.

That may provide comfort for some of the central bankers and finance ministers from 187 nations flocking to Washington for annual meetings of the International Monetary Fund and World Bank on Oct. 8-10. IMF chief economist Olivier Blanchard last month predicted “positive but low growth in advanced countries,” while developing nations expand at a “very high” rate. He will release revised forecasts on Oct. 6.
‘Partially Decoupled’

“The world has already become partially decoupled,” Nobel laureate Joseph Stiglitz, a professor at New York’s Columbia University, said in a Sept. 20 interview in Zurich. He will speak at an IMF event this week.

Sixteen months after the world’s largest economy emerged from recession, the U.S. recovery is losing momentum, with factory orders falling 0.5 percent in August and unemployment forecast to increase to 9.7 percent in September from the previous month’s 9.6 percent, according to the median estimate of 78 economists in a Bloomberg News survey.

Their predictions don’t include another contraction, with growth estimated at 2.7 percent this year and some indicators showing progress. Orders for capital goods rose 5.1 percent in August and the number of contracts to purchase previously owned homes increased 4.3 percent; both were higher than forecasts.

China Manufacturing Accelerates
Even so, emerging markets are showing more strength. Manufacturing in China accelerated for a second consecutive month in September, and industrial production in India jumped 13.8 percent in July from a year earlier, more than twice the June pace.

“It seems that recent economic data help to confirm the story of emerging-markets outperformance,” said David Lubin, chief economist for emerging markets at Citigroup Inc. in London.

The gap in growth rates between the developing and advanced worlds is widening, he said. Emerging economies will account for about 60 percent of global expansion this year and next, up from about 25 percent a decade ago, according to his estimates.

The main reason for the divergence: “Direct transmission from a U.S. slowdown to other economies through exports is just not large enough to spread a U.S. demand problem globally,” Goldman Sachs economists Dominic Wilson and Stacy Carlson wrote in a Sept. 22 report entitled “If the U.S. sneezes...”

Limited Exposure
Take the so-called BRIC countries of Brazil, Russia, India and China. While exports account for almost 20 percent of their gross domestic product, sales to the U.S. compose less than 5 percent of GDP, according to their estimates. That means even if U.S. growth slowed 2 percent, the drag on these four countries would be about 0.1 percentage point, the economists reckon. Developed economies including the U.K., Germany and Japan also have limited exposure, they said.

Economies outside the U.S. have room to grow that the U.S. doesn’t, partly because of its outsized slump in house prices, Wilson and Carlson said. The drop of almost 35 percent is more than twice as large as the worst declines in the rest of the Group of 10 industrial nations, they found.

The risk to the decoupling wager is a repeat of 2008, when the U.S. property bubble burst and then morphed into a global credit and banking shock that ricocheted around the world. For now, Goldman Sachs’s index of U.S. financial conditions signals that bond and stock markets aren’t stressed by the U.S. outlook.

Weaker Dollar
The break with the U.S. will be reflected in a weaker dollar, with the Chinese yuan appreciating to 6.49 per dollar in a year from 6.685 on Oct. 1, according to Goldman Sachs forecasts.

The bank is also betting that yields on U.S. 10-year debt will be lower by June than equivalent yields for Germany, the U.K., Canada, Australia and Norway. U.S. notes will rise to 2.8 percent from 2.52 percent, Germany’s will increase to 3 percent from 2.3 percent and Canada’s will grow to 3.8 percent from 2.76 percent on Oct. 1, Goldman Sachs projects.

Goldman Sachs isn’t alone in making the case for decoupling. Harris at BofA Merrill Lynch said he didn’t buy the argument prior to the financial crisis. Now he believes global growth is strong enough to offer a “handkerchief” to the U.S. as it suffers a “growth recession” of weak expansion and rising unemployment, he said.

Giving him confidence is his calculation that the U.S. share of global GDP has shrunk to about 24 percent from 31 percent in 2000. He also notes that, unlike the U.S., many countries avoided asset bubbles, kept their banking systems sound and improved their trade and budget positions.

Economic Locomotives
A book published last week by the World Bank backs him up. “The Day After Tomorrow” concludes that developing nations aren’t only decoupling, they also are undergoing a “switchover” that will make them such locomotives for the world economy, they can help rescue advanced nations. Among the reasons for the revolution are greater trade between emerging markets, the rise of the middle class and higher commodity prices, the book said.

Investors are signaling they agree. The U.S. has fallen behind Brazil, China and India as the preferred place to invest, according to a quarterly survey conducted last month of 1,408 investors, analysts and traders who subscribe to Bloomberg. Emerging markets also attracted more money from share offerings than industrialized nations last quarter for the first time in at least a decade, Bloomberg data show.
Room to Ease

Indonesia, India, China and Poland are the developing economies least vulnerable to a U.S. slowdown, according to a Sept. 14 study based on trade ties by HSBC Holdings Plc economists. China, Russia and Brazil also are among nations with more room than industrial countries to ease policies if a U.S. slowdown does weigh on their growth, according to a policy- flexibility index designed by the economists, who include New York-based Pablo Goldberg.
“Emerging economies kept their powder relatively dry, and are, for the most part, in a position where they could act countercyclically if needed,” the HSBC group said.

Links to developing countries are helping insulate some companies against U.S. weakness. Swiss watch manufacturer Swatch Group AG and tire maker Nokian Renkaat of Finland are among the European businesses that should benefit from trade with nations such as Russia and China where consumer demand is growing, according to BlackRock Inc. portfolio manager Alister Hibbert.

“There’s a lot of life in the global economy,” Hibbert, said at a Sept. 8 presentation to reporters in London.

Asset Bubbles
The increasing focus on emerging markets may present challenges for their policy makers as the flow of money into their economies risks fanning inflation, asset bubbles and currency appreciation. Countries from South Korea to Thailand have already intervened to weaken their currencies, along with taking steps to restrict capital inflows.

Stephen Roach, nonexecutive Asia chairman for Morgan Stanley, remains skeptical of decoupling. He links the optimism to a snapback in global trade from a record 11 percent slide in 2009. As that fades amid sluggish demand from advanced economies, emerging markets that rely on exports for strength will “face renewed and formidable headwinds,” he said.

“Decoupling is still a dream in much of the developing world,” said Roach, who also teaches at Yale University in New Haven, Connecticut.

‘Year of Recoupling’
The Goldman Sachs economists argue history is on their side. The U.K., Australia and Canada all continued growing amid the U.S. recession of 2001 as the technology-stock bust passed them by, while America’s 2006-2007 housing slowdown inflicted little pain outside its borders, they said. The shift came when the latter morphed into a financial crisis, prompting Goldman Sachs to declare in December 2007 that 2008 would be the “year of recoupling.”

The argument finds favor with Neal Soss, New York-based chief economist at Credit Suisse. While the supply of dollars and letters of credit that fuel international commerce dried up during the turmoil, that isn’t a problem now, so the rest of the world can cope with a weaker U.S., he said.

“Decoupling was a good idea then and is a good idea now,” Soss said.
To contact the reporter on this story: Simon Kennedy at skennedy4@bloomberg.net