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Things I Worry About: China, Geithner, Trade Wars, A Collapse Of International Trade

Econophile's picture




 

From The Daily Capitalist

Q: Are we being harmed by a trade deficit?
A: We've run one since 1983 yet the economy still has grown. (See table, below.)

Q: Can we compete in foreign trade?
A: Yes. In 2009 we exported $1,554,718,000,000 of goods and services and imported $1,933,347,000,000.

Q: What will the appreciation of the yuan do to us?
A: It will make us poorer because consumer goods from China will be more expensive.

Q: Why are export jobs more important than import jobs?
A: They aren't. But no one sees the loss of jobs and businesses related to imports.

Q: Won't the balance of payment/deficits harm us?
A: The Chinese will have to use its hoard of dollars to buy stuff from us and finance our deficit.


GDP scale on Right; Ex-Im on Left. Red=exports, blue=imports, green= balance of payments, tan=GDP

* * * * *

I have been reading a lot about trade deficits, free trade, China's renminbi ("the "People's Currency"), and global recovery. Many economists and commentators have targeted the yuan (I like the reactionary term "yuan") as the villain in this scenario. It's because the yuan is pegged to the dollar.

Here is the first argument, as framed by Nobel laureate, Paul Krugman:

China’s policy of keeping its currency, the renminbi, undervalued has become a significant drag on global economic recovery. Something must be done. … China was manipulating its currency — selling renminbi and buying foreign currencies, so as to keep the renminbi weak and China’s exports artificially competitive …

Krugman says that arguing with the Chinese will no doubt be futile because they won’t revalue. His solution, referring to a policy of the Nixon Administration in 1971 to erect trade barriers against trade partners:

At this point, it’s hard to see China changing its policies unless faced with the threat of similar action [as in 1971]— except that this time the surcharge would have to be much larger, say 25 percent.

I've dealt with Krugman's argument in another article, "Paul Smoot-Hawley Krugman." He is dead wrong. It is sufficient to say that his advice would set off competitive devaluations and possibly a tariff war which would be the economic equivalent of WWW III. The net result that if you think we've got deflation now (we do), a trade war would significantly accelerate the trend, and kill international trade.

The second argument is that an artificially low yuan gives China an advantage in world trade. By keeping their currency cheap, the price of Chinese goods on foreign markets makes them cheaper to buy. Because of this U.S. exporters are at a disadvantage because U.S. goods are more expensive than Chinese goods because of currency manipulation, and not market factors. Thus we must force the Chinese to let the yuan appreciate to make American exports competitive.

These are false arguments, they are irresponsible and dangerous for Americans, and the end result will be a lower standard of living for Americans. These arguments never look at the unforeseen and unintended consequences of such a policy. They also court disaster.

But Secretary Geithner doesn't see it that way. Nor does Professor Krugman.

They play a very dangerous high stakes game.

Here is Geithner's most recent explanation of such a policy to force the Chinese to revalue the yuan:

As part of the overall effort to rebalance global demand and sustain growth at a high level, policy adjustments are needed that measurably strengthen domestic demand in some countries and boost saving in others. These are also important to ensure robust job growth. In the United States, private savings has increased, the current account deficit has fallen, and the President has outlined a series of measures to reduce our fiscal deficit.

 

Countries with large external surpluses and floating exchange rates, such as Germany and Japan, face the challenge of encouraging more robust growth of domestic demand. Surplus economies with inflexible exchange rates should contribute to high and sustained global growth and rebalancing by combining policy efforts to strengthen domestic demand with greater exchange rate flexibility.

 

This is especially true in China. China’s strong fiscal and monetary response to the crisis enabled it to achieve economic growth of nearly 9 percent in 2009, contributing to global recovery. Now, however, China’s continued maintenance of a currency peg has required increasingly large volumes of currency intervention. Additionally, China’s inflexible exchange rate has made it difficult for other emerging market economies to let their currencies appreciate. A move by China to a more market-oriented exchange rate will make an essential contribution to global rebalancing.

Let me translate this for you. Here's what Geithner really said:

The U.S. has been printing money like crazy to inflate our way out of the recession but that hasn't worked because credit is still frozen regardless of what we at the Treasury and the Fed have tried. We've got a bunch of politicians hammering us to support their exporter constituents and President Obama is not going to stand up to them. We in the government believe America will gain jobs by increasing exports.

 

So, we are going to very loudly threaten to punish China by branding them as currency manipulators and try to force them to revalue the yuan (i.e., devalue the overvalued dollar versus the yuan). We cleverly call this a "rebalancing." We've got a big stick: tariffs against Chinese goods. We let Krugman take the lead on that one because we can't really threaten them publicly. Also I'll let Sarkozy beat them up at the next G-20. I'll look great back home.

 

No one here really believes that we'll have to do tariffs, but the Chinese need to believe we will to make them knuckle under. I just postponed Treasury's report to Congress branding them as currency manipulators because it got the Chinese to the table. Don't worry, they'll revalue enough to help exporters, the senators will go away and brag to their constituents that we've won, and we'll be better off with more export jobs. We'll still buy Chinese goods and they'll finance our deficit.

There is only one problem: What if China doesn't go along with Geithner's game plan?

China's economy is facing a real estate and municipal debt bubble of huge proportions, and their economy is, contrary to what they say, fragile. They relied on real estate to drive their economy last year, not exports. With the danger of the real estate bubble bursting, they can't afford to harm exports. And revaluing the yuan would do just that.

They have been pushing back. There has been a gusher of articles touting free trade coming from Xinhua, the official China news service. For example:

Chinese Premier Wen Jiabao said in an exclusive interview with Xinhua that some foreign countries kept asking China to appreciate its currency while using various protectionist measures against China. Their real motive was to contain China's growth, he said.

 

Wen reiterated that China will never yield to external pressures on the exchange rate issue.

 

In essence, a country's exchange rate policy is a matter of sovereignty.

Foreign Ministry spokesperson Jiang Yu said Tuesday "exchange rate was not the major cause of the US trade deficit with China and the RMB's appreciation would not solve the Sino-US trade imbalance." She's right.

More from Xinhua:

Chinese Premier Wen Jiabao said at Sunday's news conference that half of China's exports came from the processing trade -- where imported components were assembled at factories in China and 60 percent were made by foreign-funded companies or joint ventures with foreign partners.

 

"Therefore, to restrict trade with China is tantamount to causing difficulty for the businesses of your own countries," he said.

 

According to statistics provided by the Ministry of Commerce, 55.9 percent of China's exports were produced by foreign companies last year. The proportions were 83 percent and 75 percent respectively for high-tech products and electronic products.

 

And, over 90 percent of high-tech products exported to the US were made by foreign enterprises.

While China pegs its currency to dollar, it doesn't do so against other currencies yet its exports have grown dramatically around the world, not just in the U.S. For example its trade with the EU 27 was up 17% per year from 2004 through Q2 2009. The EU runs a deficit with China (€169 billion in 2008). We can conclude from this that the yuan-dollar exchange rate has not much to do with the fact we import a lot of Chinese goods.

Here is the reason that U.S. producers have not been able to compete with China: the goods we import from China cost more to manufacture here. It's quite simple. We need to compete in products where we have an advantage and that the Chinese and other countries will buy. The U.S. has priced itself out of the market for goods that the Chinese produce. This is the real reason the Chinese have piled up so many dollars. Even if the yuan were revalued, Chinese manufacturers would cut costs more in order to stay competitive. It's a losing game for us.

To force the Chinese to revalue the yuan would be, in effect, a tax on Americans. Chinese goods would become more expensive, yet there are few U.S. producers for most of these consumer goods. So, Americans will be made poorer by such U.S. policy and the economy will suffer as less dollars would be available for consumption.

The opposite effect is that China's citizens have to pay more for foreign goods. In effect, by keeping the yuan low and pegged to the dollar, our Chinese friends are subsidizing U.S. consumers. We should thank them for their mercantilist, centrally planned policies that favor us.

The other consequence is that the many U.S. companies which have goods partially made or assembled in China would be hit hard. U.S. manufacturers who sell products made from parts made in, or assembled in, China would see their cost go up, lose sales, revenues would slide, and be forced to layoff employees. Think about the many "U.S." products you buy that fit this definition: Dell, Apple, HP, Ford, GM, etcetera.

And what about U.S. companies importing and selling Chinese goods? Employees in the import and retail trades would be hurt as consumers cut back on purchases of more expensive goods. We would lose jobs, not gain them.

Why doesn't Mr. Geithner care about these jobs?

Eventually other low cost producers (Indonesia, India, Malaysia, Vietnam, Mexico) would step into the market made available by a revaluation, and at best, there would be little change in overall imports. Our balances of trade and payments would change very little.

But ... would a revaluation stimulate imports and save the world from recession?

To the extent we make things that would be competitive with China but for an overvalued yuan, theoretically, yes. Would this stimulate our exports and create jobs in export industries? Theoretically, yes. But ...

It would be at the expense of U.S. jobs related to imports. It would be at the expense of higher costs for most consumers who aren't in the export trade. It would negatively affect U.S. manufacturers whose parts are made in China or whose goods are assembled in China. It would cause us to lose jobs.

Would U.S. businesses be able to better compete in China since our products would be cheaper for Chinese buyers? Yes, theoretically. The problem is that it is very difficult to do business with or in China. They do not have well developed markets or the rule of law as in many capitalist countries. Right now (2009) we export $85 billion of goods and services to China and import $157 billion.

China makes it difficult for businesses that compete with local companies it wants to protect. What it wants is certain imports other than commodities. For example it wants technology and related services. But the U.S. would have to take off the national security list the technological products that we prohibit U.S. manufacturers from selling to them. Would Mr. Geithner be willing to do that? No.

Is China an important export market? Very much so, but it's not an easy market to penetrate.

Could we compete better in international markets against the Chinese? Yes, but only with the goods that we are aleady producing and which we already have an advantage over the Chinese. Here are the top 5 goods we exported in January (in millions): Chemicals (organic, inorganic, medicinal, n.e.s., plastics) $12,520; Electrical machinery $5,709; Vehicles $5,567; Aircraft $5,530; General industrial machinery $3,640. These are not the goods that China is exporting. To give you perspective, we exported $6,889 million of goods to China in January of $91,842 million of total exports.

A more expensive yuan is not a panacea and it has serious risks to U.S. companies and our economy.

Here's the downside: If things don't go according to Geithner's plan, and China doesn't revalue enough to please Congress, we will be forced to erects tariffs against Chinese goods. It's not as if politicians have a corner on the stupidity market, but trade wars have happened in the past, so don't think they will see the folly of their ways and recant at the last minute. China will reciprocate. Trade between the two countries will decline and China and America will be poorer for it. Trade wars have a tendency to escalate and spread throughout the world. Trade wars (starting with Smoot-Hawley) were one of the main causes of the Great Depression.

Instead of boosting the U.S. economy, there is a risk of plunging us into a depression. This is a dangerous lose-lose situation for everyone.

 

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Thu, 04/08/2010 - 15:55 | 291998 Vacca
Vacca's picture

I completely disagree with this article. As more and more middle class jobs are shipped to China, and India, the power of the US to consume goes down. Standards of living are already plummeting in this country, and will continue to plummet as the very top business leaders make money out of shipping those jobs overseas.  Where are all these jobs that replace them making things that China wants to buy from us? The only things we can make, for the time being, that China cant, are super computers and advanced military weapons. That will change soon enough, and it might well be too late for the US to remain as a superpower.

The US wanted China's economy to grow so it would buy American, but we taught the fisherman how to fish and he is fast becoming completely self sufficient. There is absolutely no love in China for the US, and there is no way they will do anything to help the US out of the hole that our big-business run government has dropped us into.

Thu, 04/08/2010 - 14:55 | 291870 tom
tom's picture

yoo hoo, wrong five times out five. ladies and gentlemen, give it up for a truly dim bulb!

Thu, 04/08/2010 - 13:52 | 291772 three chord sloth
three chord sloth's picture

It's time for a slight shift in US policy.

We should keep importing a million people per year, but we need to change who those million are.

I propose we limit our immigration to those with college degrees. Doctors, lawyers, accountants, MBAs, computer science, etc... I further propose that we honor the certification programs our friends overseas have in place. If a doctor is licensed in India, for example, he is licensed here, and can go into business immediately... and pay their taxes at their native home nation's rate if they want. I also propose that any stock or bond be allowed to be bought/sold on any exchange anywhere in the world.

There cannot be any objections to my proposals, after all, if the blue collar and lower white collar workers can be told they need to compete against the entire world, so can the upper white collar. And since the foreign blue collar workers get to compete using their native work/tax/environmental/consumer protection rules, so should the brand new American white collar workers.

I'm not asking our high wage earners to do anything they don't demand of our middle and lower classes. so I don't see where anyone could object.

What say you, our degreed New Class leaders? Surely the value of your skills will protect you from the cut-rate competition, right?

Thu, 04/08/2010 - 13:09 | 291705 dhengineer
dhengineer's picture

The dollar-yuan peg had less to do with trade than with eliminating currency effects on their investments in Treasuries. My guess: with the end of the peg will come a significant sell-off of debt securities held by China. They won't stand for a portfolio that fluctuates on a minute-to-minute basis and so they will begin to pull the plug on Treasuries and other agency paper. Sure, they will lose a bit on the transactions, but how much more will they lose if the Yuan floats significantly higher? Couple this with the revelations that the gold market is in a Ponzi scheme, the price of physical gold and silver will skyrocket as the Chinese look to park their cash somewhere productive. Also, look for a rash of newly minted Chinese landlords owning huge blocks of US real estate, paid for in cash that was just freed up through those sales.

Got gold? And silver? and farmland?

Thu, 04/08/2010 - 11:51 | 291592 baldski
baldski's picture

What union workers shop at Wal-mart? 

There are hardly any Union workers left in the U.S.A. 

The Business Round Table and the Chamber of Commerce have done their best to stamp out unionism and it worked.

Thu, 04/08/2010 - 10:51 | 291490 Seer
Seer's picture

Here's more fodder (pretty good overview):

http://counterpunch.org/whitney04062010.html

NOTE: I do NOT agree with his conclusion.  I've had a few arguments with him on his "solutions."

Thu, 04/08/2010 - 10:42 | 291480 Duck
Duck's picture

Any bets China revalues in the next 6 months?  Could the pressure have anything to do with it?  A trade war would be even worse for them.

 

Read Michael Pettis on the nonsense of the argument that we don't make the goods China exports.  March 26 post mpettis.com  (Hint: it's a multilateral world and bilateral logic isn't logic)

Thu, 04/08/2010 - 12:01 | 291608 Duck
Duck's picture

That was quick; bet is over.  NY Times is reporting that China will revalue in the next week.

Pressure was effective.

Thu, 04/08/2010 - 10:21 | 291455 Seer
Seer's picture

Here's more fodder (pretty good overview):

http://counterpunch.org/whitney04062010.html

NOTE: I do NOT agree with his conclusion.  I've had a few arguments with him on his "solutions."

Thu, 04/08/2010 - 09:56 | 291429 Carl Marks
Carl Marks's picture

Confucius say, "Man who go to bed with itchy butt wake up with smelly finger."

Thu, 04/08/2010 - 09:39 | 291392 DOT
DOT's picture

Ni Hao, y'all.

As the cost of manufactured goods imported to the US has remained artificially low, the cost of technology and R&D intensive products exported to china has remained artificially high.

A boat load of refrigerators is hard to steal; a years worth of work on a hard drive is easily taken.

Any unilateral action will incentivise extra legal activity. A trade war is not feared as much as high domestic unemployment in China.

They have scooped up commodities and they have the labor. 

In  Mandarin "Geithner" means "little bitch".       (sorry made that up, just my prediction)

 

Thu, 04/08/2010 - 09:04 | 291343 Jake3463
Jake3463's picture

Globalism has been a failed neo-liberal experiment.

The problem is we are racking up debt and importing trinkets.

The trade deficit cannot be maintained.

As for our economic "growth" it has also come at the cost of an increase in our prison population, myriad of social problems that have increased, and the total desolation of most of our cities as the jobs once centered there leave, leaving a giant hole of poverty and democratic party political corruption.

It is going to be painful to abandon this consumer economy nonsense, the longer we put it off, the quicker we actually recover as a nation.

 

 

 

 

 

Thu, 04/08/2010 - 09:47 | 291404 DOT
DOT's picture

And union workers shop at Wal-mart. Where is the economic argument here ?

Thu, 04/08/2010 - 08:56 | 291336 Species8472
Species8472's picture

"Therefore, to restrict trade with China is tantamount to causing difficulty for the businesses of your own countries," he said.

 

Yep, no more peasant labor!!! Might have to make some stuff here in the USA!!

We can conclude from this that the yuan-dollar exchange rate has not much to do with the fact we import a lot of Chinese goods.

Yep, it's the peasants, not the yuan!!!

Here is the reason that U.S. producers have not been able to compete with China: the goods we import from China cost more to manufacture here. It's quite simple.

In other words the goods we import from China coast less, because...yep, peasant labor!!

We need to compete in products where we have an advantage

Well then, let's turn our middle class into peasants (or surfs) and everything will be alright!!

The U.S. has priced itself out of the market for goods that the Chinese produce.

No the Chinese undercut our prices with.....peasants

 

Yet there are few U.S. producers for most of these consumer goods.

No, we could be producing millions of circuit boards in a matter of months.

 

Eventually other low cost producers (Indonesia, India, Malaysia, Vietnam, Mexico)

And their advantage?? Yep... crappy governments that fill their countries with peasants!!

 

You are right, revaluing currency will not help!

 

 

Fri, 04/09/2010 - 05:36 | 292828 Observer
Observer's picture

All points have some truth to them but you forget that Nixon and the following Presidents and their administrations tried to use China against the USSR. They expected China to do the boss' (US) bidding for the crumbs they get. It turns out they were smarter than that

Thu, 04/08/2010 - 08:47 | 291326 Sudden Debt
Sudden Debt's picture

whe the chinese revalue their currency, and prices go up in America and Europe, we finally get the so hard needed inflation. In other words, it's the people who are going to pay the bill for paying down the deficit through inflation.

Thu, 04/08/2010 - 10:55 | 291496 Ripped Chunk
Ripped Chunk's picture

History repeats itself over and over again.

 

Thu, 04/08/2010 - 08:39 | 291314 swmnguy
swmnguy's picture

All the high-level diplomatic/financial bickering between China and the US seems very staged and kabuki-like to me.  I think both sides are pandering to their core constituencies.  US leaders are playing to the mass of investors, as well as anyone with something to gain blaming China.  Chinese leaders care more about internal stability than anything else.

The key fact that nobody can let get out in the open is that something like 60% of China's exports are the product of foreign companies.  The Chinese aren't really an export giant; they've just created an attractive playground for foreign companies to set up production to arbitrage cheap labor and the invisible subsidy of unenforced regulations (environmental, safety, wage & labor, etc.).

It's all very convenient for US leaders to point at China for taking unfair advantage of the US consumer, knowing that forcing China to revalue upward will harm US companies and consumers, so they won't do anything real to force it.  They can bluster and posture for domestic US consumption all they want.  What they won't do is admit that they have allowed US manufacturing to follow the race to the bottom out of the US, allowing the greatest transfer of wealth upward in the history of the world, thereby disemboweling the US Middle Class.

And they get to look "tough" while doing it.  Perfect.

Thu, 04/08/2010 - 08:28 | 291301 KidHorn
KidHorn's picture

Nothing to worry about. A lot of posturing and no real action. Everything will stay the same. China will continue to export trinkets to the US and buy our debt.

Thu, 04/08/2010 - 11:00 | 291506 overmedicatedun...
overmedicatedundersexed's picture

If our jobless recovery goes on much longer- people will be forced to look at the value of what they purchase..trinkets will hit a bear market...then China and India will join the west in massive unemployment..Ben cannot make us buy even with 0 interest rates..tax refunds helped this qtr but they are one off.

The stock market may make new highs, and the MSM will try to hype it up as indicator of good times ..but distrust of Gov and MSM  will only grow..as the unemployed strike more families..fear is very near the surface like the mad uncle in the corner no one mentions. 

Thu, 04/08/2010 - 14:27 | 291821 Observer
Observer's picture

India has a strong manufacturing sector that produces products most Indians use. They may not all meet the best global standards but do work and are relatively safe as well. The services sector which is big in revenue terms isn't so big in employment terms. So large scale disruption of world trade will have a limited impact in terms of time and depth on jobs in India. China is working to increase domestic demand as well and this is not well documented as they don't want to reveal their trump card which is their latent domestic demand to the world, especially the US. I would be very wary of mis-judging China.

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