Bernanke: an effective subsidy; Treasury: not manipulation
Bernanke's comment didn't rub me the wrong way (more on that later), but it certainly hit a nerve elsewhere. I suspect the Treasury — which wants China to appreciate as much as anyone — was among those who were not thrilled by Bernanke's choice of words.
Not because they disagree intellectually. But because Bernanke's comment will be contrasted with the language in Treasury's foreign currency report.
Still, I don't think anyone will be surprised to see that the Treasury declined to find that China meets the technical requirements for being charged with currency manipulation. The language in the law about "intent" gives the Treasury a lot of wiggle room.
Paulson telegraphed this pretty much from the day he arrived at the Treasury.
Plus, I doubt the Chinese would have hosted a Strategic Economic Dialogue if they thought they were going to be hit over the head to a "manipulation" charge. "Manipulation" would turn the "dialogue" into a "negotiation" real fast.
Max Baucus is probably right:
The semiannual Treasury report “is no longer a relevant tool to deal with currency issues,'' Senator Max Baucus said in a statement today. The Montana Democrat will be Chairman of the Senate Finance Committee, which oversees U.S. trade policy, when Democrats take control of the Senate in January.
“It's time for a new approach and new tools,'' said Baucus, who promised to work toward legislation that better addresses what he deems unfair currency policies of U.S. trading partners.
But finding new approaches and new tools won't necessarily be easy. Grassley-Baucus seems a bit softer than the likely mood of the new US Congress. Just a guess.
As I see it the US Current Account (CA) deficit can be resolved by two different mechanisms (though a combination is not impossible). The first is what I call “radical deflation”. The second is via changing exchange rates. It is my considered opinion that powerful forces in China and more relevantly the US favor the first approach. Let me try to outline each potential adjustment path and consequences that flow from them.
1. The “Fixed” approach - The dollar/RMB peg remains sacrosanct or changes so slowly as to be meaningless (as is currently the case). In this scenario the US raises its savings rate via some combination of policies including higher taxes ($5 gasoline tax, 10% VAT, massive income tax hikes) and higher interest rates. Raising the savings rate enough to eliminate the need foreign capital drastically reduces domestic spending.
The reduction in spending both reduces imports directly (fewer Mercedes and 50″ plasma TVs) and releases resources for export. Calculations have shown that a 17% fall in GDP is required to eliminate the CA deficit via this mechanism. See Why America is switching to a weak dollar policy. A 17% fall in GDP is what most people would describe as a depression. I have used the phrase “radical deflation” for this outcome.
How would the Chinese benefit from this tact? A 17% fall in GDP via tax hikes and higher interest rates would cause the CPI to decline (as it did after 1929). Chinese holdings of dollar assets would increase in value. Of course, much of America could be purchased for a song during the new “Great Depression”.
This is the adjustment path that the advocates of fixed exchange rates advocate. I would include Mundell, McKinnon, Mankiw, and perhaps Stiglitz in this category. It is also the modern version of how trade imbalances were resolved under the gold standard (which Mundell advocates). Under the gold standard specie flowed out of a country with a trade deficit reducing the internal money supply and inducing economic contraction. Eventually the deflation reduced imports and expanded exports to the point where the trade deficit was eliminated. Of course, the consequences for employment and economic stability were harrowing.
2. The “Floating” approach - Of course, this really means a large devaluation in the dollar. How much? Perhaps 50%, perhaps more. Take a look at Trade-Weighted Exchange Value of U.S. Dollar for how much the dollar fell after the Plaza/Louve accords. Note that this devaluation eliminated a (roughly) 3% CA deficit. The current CA deficit is more than twice as large.
Per se, devaluing the dollar can not close the CA deficit. However, related economic shifts will. If foreigners stop funding the US CA deficit, as the dollar falls (why hold a declining asset), then US 10 year treasury yields will spike. This will reduce both housing and equity values and thereby raise savings. However, assume for a moment that doesn’t happen. As the dollar fall, demand for exports will rise and import prices will escalate. Both effects will tend to raise the CPI. Stated differently, total demand for US production (and labor) will exceed resource availability raising prices.
The Fed will have to counter this effect by raising US interest rates to cool domestic demand (increasing savings) so that resources can be released in export production.
Note, that the reverse is also true. As demand for exports falls, China can be expected to augment domestic demand. To do so, China will have to reduce either public or private savings (or some combination of both). Reduced Chinese savings will diminish the supply of money that can be used to finance the US CA deficit. Clearly, without external funding, the US can’t have a CA deficit.
There is some evidence that the business sector in China has reached unprecedented levels of profitability (by some accounts 30% of GDP). This may or may not be true. However, an RMB revaluation can be expected to reduce export margins directly and overall corporate margins indirectly. This alone should tend to reduce China’s savings rate. Of course, import prices will decline and it is at least possible that all of the import savings will flow into national savings…
What does this approach mean to the Chinese? Their holdings of dollar assets loose value two ways. First, their dollar assets are now worth materially fewer RMB. They suffer capital losses on their dollar portfolio. Second, US prices tend to increase (Fed policy could strictly limit this) making each Chinese owned dollar asset worth less. Of course, with export demand offsetting the decline in domestic demand there isn’t a US depression. No opportunity to buy America on the cheap.
What does this approach mean for the US? Perhaps higher inflation, although not much based on the experience of the late 1980s. Certainly no repeat of the 1930s. However, if the Chinese are forced to accept losses on their dollar asset portfolio they won’t be happy. They might decide to cut off the investment banker gravy train. The Goldman bonus pool might take a hit.
The choice here should be obvious. The sad part is how many people regard fixed exchange rates as sacred and favor deflation as an adjustment mechanism.
It should be clear that China and the United States are not solely responsible for global/US imbalances. The OPEC states appear to currently enjoy trade/CA surpluses larger than China. Only a fraction of the US trade deficit is with China. Other Asian (and a few non-Asian) nations have large trade surpluses as well. The US dollar is overvalued against many currencies, not just the RMB.
However, in one very important respect China is central to the resolving the US CA deficit. Apparently, many Asian nations won’t allow their currencies to rise against the dollar until the RMB revalues. That makes breaking the dollar/RMB peg crucial.
There has been a distrubing trend the last several days, with talks of more troops in Iraq and a naval show of force in Persian Gulf with Iran. It probably means Pentagon will spend > $700B next year as well. As long as Congress is willing to let Pentagon spend that kind of money, then there will always be a CA deficit and there will be a need for Chinese financing (I won’t count on Gulf states to finance once that region gets more deeply in war). Congress may talk tough, but our policy needs will require more Chinese financing. My hypothesis is that as long as Pentagon spends money like there’s no tomorrow, BWII will continue-despite all the talk to the contrary.
I also read what Chairman Ben said in terms of economics and not silly legalesse. On the economics - he had a good point. Incidentally, between Friday and yesterday’s Econoblog with Kash & Menzie, there has been a lot of great discussion. Today, I take the Angrybear readers back to Steve Kyle’s hint at thinking like Jan Tinbergen but with a floating rate twist. Hint - something about having Chairman Ben propose to Bush the same deal that was struck between Clinton and Greenspan back in 1993 (and not that 1981 nightmare tug of war between Reagan and Volcker, whic hwe seem destined to repeat).
Is now a good time to check on the “other Asian currencies will appreciate if RMB does” theory? Or is 18 month still too short?
http://finance.yahoo.com/q/bc?s=JPYCNY=X&t=2y&l=on&z=m&q=l&c=
Peter - When will either scenario unfold? #1 has no chance until 2008, and even then it would take some stones for the dems to pull off. Who knows how long China will keep on before letting #2 happen.
pgl — i’ll have to take a look!
hz — you picked the wrong asian currency. try THB or KRW or even (I think) the Philippine peso or Indonesian rupiah. the last few days have made it clear that the CNY is a big contraint on further Thai/ Korean appreciation (see my previous post)
treasury also put out another report…
http://fms.treas.gov/fr/06frusg/06frusg.pdf
“Despite improvement in both the fiscal year 2006 reported net operating cost and the cash-based budget deficit, the U.S. government’s total reported liabilities, net social insurance commitments, and other fiscal exposures continue to grow and now total approximately $50 trillion, representing approximately four times the Nation’s total output (GDP) in fiscal year 2006, up from about $20 trillion, or two times GDP in fiscal year 2000.
“As this long-term fiscal imbalance continues to grow, the retirement of the ‘baby boom’ generation is closer to becoming a reality with the first wave of boomers eligible for early retirement under Social Security in 2008.
“Given these and other factors, it seems clear that the nation’s current fiscal path is unsustainable and that tough choices by the President and the Congress are necessary in order to address the nation’s large and growing long-term fiscal imbalance…”
http://financialsense.com/fsu/editorials/martenson/2006/1217.html - “Here’s what the federal shortfall means in the simplest terms: There is no way to ‘grow out of this problem’. What really jumps out is that the US financial position has deteriorated by over $22 trillion in only 4 years and $4.5 trillion in the last 12 months (see table below, from page 10 of the report). The problem did not ‘get better’ as a result of the excellent economic growth over the past 3 years but rather got worse and is apparently accelerating to the downside.”
and iirc, that’s including AMT in budget forecasts; looks like echo-boomers/gen-Y’ll be working well into their 70s…
cf. http://www.weedenco.com/welling/Downloads/2006/0804welling022106.pdf
“…the Treasury — which wants China to appreciate as much as anyone — wasn’t among those who were not thrilled by Bernanke’s choice of words.” Meaning that the Treasury was thrilled by B’s choice of words? That is what you are saying with your double negative.
I have to contrast the incessant US fretting about our economic relationship with China with the apparent serenity of the Chinese re the same. I would say our incessant worries indicate a very weak position, while Chinese serenity indicates the exact opposite. So why should China do anything just to lessen our worries? Do we think they love and care about us and are dying to do us favors?
The Chinese have actually been very transparent with their Economic policy decisions. The Chinese Central Bank has repeatedly stated its intension to gradually revalue the yuan currency versus the US dollar between 3-5% per year. A 3-5% revaluation per year is not insignificant; culmulatively the revalution could represent a 40-50% devaluation of the US dollar over the coming decade. The Chinese Central Bank is unwilling implement “shock therapy” to the global economy with a single year revaluation of 40% that is advocated by the Washington Consensus.
I like the idea about the VAT tax on consumption - perhaps 10% to 15% and phase it in over 2 or 3 years. This would indeed reduce our trade deficit because consumers would pay more tax and have less money to buy stuff. And, if the VAT revenue was applied to the budget deficit it would reduce this as well. However, politicians will be very hesitant to implement this because they would most likely be voted out of office. I don’t think the average American would understand the need for any sacrifice.
I also agree that BWII will most likely continue for a while longer, just because neither the US nor China wants it to end. The US and China are like two kids holding hands opposite each other, and spinning around faster and faster, and neither one wants to let go. But, eventually, the faster and faster they spin, something will happen and one will let go and both kids will go flying away and hit the ground. The longer the BWII goes on, the harder the US will get hit.
How long will BWII go on? It will go on until the US consumers can no longer afford to purchase stuff from China. The US consumer will need to be so far in debt, that all they can do is pay for housing, food, taxes and interest on personal credit. Until no more manufacturing jobs can be exported from the US to China - in other words they have already all been exported to China. Or, perhaps manuafacturing wages in China and the US meet half-way at some equilibrium point - somewhere between $.50 and $20 per hour? Or, when China gets a large enough middle class to replace the US consumer, or the US consumer is replaced by consumers from other parts of the world. Or, some combination of all these things. Hopefully, this is the slow approach to restructuring all these imbalances.
But, what if one kid gets mad at the other kid, and decides just to let go for the heck of it. What if there is fight over oil in Iran, or Taiwan, or some other geopolitical event.
We definitely are living in interesting times.
The other problem I see is OPEC pushing up prices while the Fed is trying to stamp out inflation may lead to an oil triggered recession as the only means of bringing demand down. With the Fed more focused on inflation than on growth, it may not have much choice.
Guest — sorry about the double double negative — i wrote and edited too quickly. I meant “was amount those who were not thrilled”; the text has been adjusted accordingly.
Bernanke’s speech at Beijing’s university was typical of an academic coming in to lecture. The Chinese leadersip know full well what they have to address; it does not require a visiting chairman of the Fed to tell them to open up the financial sector, to float the RMB and to set up a social security system etc. What he fails to appreciate is that China is addressing all of the issues he raises, but their timetable has to be slower and more methodically undertaken than the quick fixes he was suggesting. His speech did not go down well in Beijing.
smon
Devaluation only works if there can be import substitution and export growth. I wonder if the US has enough manufacturing capacity left to make a significantly narrower trade deficit - a halving - a realistic possibility, even with a large devaluation. That said, a sharp drop in consumer spending may be the only way out. Put otherwise. It means a recession.
“Chinese police say they have shut seven illegal “underground banks”… “Under the current conditions of economic globalisation, the global movement of capital and the development of high speed communications, money laundering has exploded,” Mr Han said… This operation was providing remittance, foreign exchange and other banking services between Singapore and China…” http://news.bbc.co.uk/2/hi/business/6192777.stm
Few would argue that Dr. Bernanke’s speech wasn’t uber-diplomatic, fair and balanced. But I am still waiting for Mr. Zhou Xiaochuan to be invited to University of Chicago or Stanford whereupon he might deliver a rather similarly high-profile if-less diplomatic lecture on: (i) the absurdity of USA’s mis-pricing of energy externalities and the negative effects of lack of energy policy in general; (ii) the inflationary dangers and allocatiive distortions of seriously profligate and persistent fiscal deficits; (iii) the moral hazard(s) of abundant and easy consumer credit; (iv) the alllocative dangers and social ills of insufficient regulation on sub-prime and other complex consumer-oriented mortgage structures; (v) the practical tradeoffs between political freedom and economic inequality; (vi) the threat to the international monetary system of the US running persistent deficits; (vii) the short-sightedness of America’s low-saviings rate; (vii) the sub-optimality of policy outcomes in a Corporatocracy vs. Weberian Bureaucracy. Maybe the US Admin can send Kudlow back to Beijing for the rebuttal…..
The currency problem is ours. Timely and better economic, financial, and diplomatic management of US affairs is a large part of the answer. After six years of unbelievable mis-management, corruption, and cronyism at the highest levels of the US government, the problem has become the huge white elephant in the living room.
A recession will not make the Chinese budge but will instead, intensify their position. It isn’t just the Chinese. It is also Japan, the oil producers, etc.
The problem has been political. With the presidential election less than two years away, we can expect more of the same. Solving the problem, or even recognizing the problem, is secondary to politics.
The United States is very much like the mythical village that US commanders talked about during the Vietnam war.
As the old expression from the Americal goes ,”We had to destroy the village to save it.”
I can’t imagine how the country won’t collapse if Bretton Woods II ends. In my industry for example OEM customers pay less in ABSOLUTE dollar terms for products than they did ten years ago,approximately 20%-30% less. In addition the major OEM brands have kept retail prices at the same levels that they were a decade ago.
Of course during this period material labor and materials prices in China have increased increased significantly,especially materials prices which have trippled or quadruppled.
Sure the US may only run a 6% CA deficit but if you actually looked how much it costs to build these products in China versus the US and adjust things on a purchasing power parity basis I would imagine that its probably 25-40%.
Now of course we’re only talking about manufactured goods.
We shouldn’t forget that the US is a major consumer of energy and is the World’s #1 importer in fact and the number #1 user of energy at 21 million barrels of oil per day. The shortfall between actual energy production in the US and energy use is around 14 million barrels of oil a day.
To put that in perspective Saudi and Russian production is only around 10 million barrels.
If the dollar collapsed would oil still be priced in dollars? Probably not.
More importantly the US would have to earn Euros or some other currency to buy oil.
Of course never mind the CA deficit and the situation with dissavings in the US.
“How long will BWII go on? It will go on until the US consumers can no longer afford to purchase stuff from China. ”
I hate to tell you this Chris006 but we are already there in the US. We actually have a strange economic phenonemon called DISSAVINGS in the US, people are actually spending more than they make. How much more leverage can the American consumer take in the face of increasing inflation? Not much I would imagine, I personally know a credit card debt collector and some of his “clients” are paying 30%. Wait until Roubini’s crow’s come in from the housing market and those ARM’s adjust in 2007 and your going to see some real pain.
In light of all these problems I can’t see how the US can possibly maintain the current system or anything near its current standard of living if Bretton Woods II collapses.
Personally I don’t see how this game can continue, no matter how much the major players want it to.
Also I think people are unduly critical of Brad and Nouriel because events do not occur overnight and financial systems work in multi year cycles.
However those precipitating events can be very fast and can take everyone by surprise.
I really wonder if the topic of Iraq came up in the strategic dialogue.
In year 2007, we won’t be talking about re-valuation of RMB, but rather, we will be talking about the price of oil and the war on Iran: Tony Blair is publicly blaming Iran for all the problems in Middle East, and after his meeting with Bush, Blair no long supports the idea of announcing a timetable for withdrawl from Iraq. Bush and all the military heads are proposing large scale upsizing of us fighting forces ‘to fight terrorism worldwide.’ US is sending the 2nd aircraft carrier to the Gulf. What do all these mean? US and UK is plotting an invasion of Iran.
I don’t blame Bush. By invading Iraq, Bush administration had upset the power equilibrium between Iraq and Iran. Now Bush figures, after realizing his failure in establishing a stable government in Iraq and therefore unable to contain Iran, that the only effective way for US troops to leave Middle East in peace is to overthrow the present Tehran administration and setup new balance of powers. Bush is forced into invading Iran against all odds.
Therefore in the coming year, the Bush administration will be so occupied with wars going on in the Middle East that it has no more energy to confront economical crisis, and will put the issue of RMB aside in order to beg PBoC to finance the ever increasing c/a and budget deficits due to ‘anti-terrorism’ wars worldwide. Meanwhile, RMB will appreciate at the pace PBoC feels is comfortable with, 3~5% annually.
In one way, year 2007 is good for China because the war on Iran will remove all the international pressures from China so China can grow quietly as it always wanted to… Oil price surely will go up, so will inflation.
Boy, what an interesting and challenging year ahead.
Bush and all the military heads are proposing large scale upsizing of us fighting forces ‘to fight terrorism worldwide.’ US is sending the 2nd aircraft carrier to the Gulf. - XNL
The US military strategy in Iraq is simply beyong comprehension. How can the Bush Administration possibly believe that the current 17,000 troops in Baghdad is sufficient to maintain law and order? The New York City police force alone has 60,000 employees on the payroll. Crime exists in New York City, but the metro region is hardly in a civil war. What would be accomplished by adding an additional 50,000 troops to Iraq for several months as Bush proposes? Too little and too late. The war is lost.
Cassandra:
China doesn’t need to lecture (ie blame) the US for problems since it is quite secure in the present situation. It is when people have their backs to the wall that they begin trying to pin blame on all and sundry. All but themselves, of course. Bernanke and Paulson’s pilgrimage was a exercise in failure and futility and a clear sign of extreme weakness.
Congress froths at the mouth for a while and then fades away, not daring to do anything.
http://news.yahoo.com/s/bloomberg/20061220/pl_bloomberg/a7kuz2gmgre_1
Guest-1,
While it is true that they [The Chinese] do not need to do it, someone does. The evolution of leadership, good, wise and just leadership, results as much from the ongoing ability of The Polity of a society (but especially the media) to more or less continuously asassinate demagoguery where and when it occurs. America “democracy” has patently failed in this regard.
Imagining such a “lecture” by Zhou (for example) would be as much about satisfying albeit an unhealthy desire for some schaudenfraude by more sober-minded and pro-active economists (& citizens), as it would about the morbid fascination of watching the Political & Financial Enablers squirm and sweat under the weight of being confronted with the uncomfortable truth and consequences of their actions, and lack thereof.
If someone can explain how the USD can collapse when there doesn’t seem to be anything else to take it’s place.
Don’t see how the war in Iraq can be lost or won until something or somebody is able to establish a controlling interest in that region - and it’s energy resources.
Doesn’t China have very strong interests in Iran too?
DynCorp (DCP) has been hitting new highs lately. I’ve never understood the divisions between what the troops and the PMC’s do - and how the costs - and profits are allocated. It’s never been fashionable to discuss the profits of war.
Haven’t you heard of the NIMTOO syndrom? - Not In My Term Of Office. It’s a survival tool - postponing the inevitable in the hope that the next guy is the one to take the fall. China is doing to too.
Can’t see the Zhou lecture scenario playing out as they’ve been, and perhaps in some cases are about to be willing partners in utilizing many of those same sorts of products and practices for their own profit. No?
Might look a bit silly.
Guest
War, PMCs and macroeconomic/fiscal rectitude are entirely inconsistent unless The Polity is both able and willing to pay. War is expensive even with free conscriptive labour, and The State’s acquisition of private resources at less-than-market rates for the sake of national security. Injecting PMCs at a time of essentially full-employment is non-sense with a sad outcome for the national balance sheet, not to mention rather negative impacts upon creditors’ lending ostensibly thereupon.
Think the PMCs hire internationally. But well said Cassandra - although we still need more information. Without it, one guess might be that pulling troops out of Iraq may simply increase the demand for PMCs - at what greater or lesser cost allocated to whom?
As for credit risk, I’m wondering what possible scenarios might tank MCOs share price. Even if that market runs into deep trouble, someone still has to pick through the wreckage and sort out everything that’s salvageable:
Dec. 18, 2006–Moody’s Corporation (NYSE: MCO) announced today that it has acquired Wall Street Analytics, Inc., a leading developer of sophisticated structured finance analysis and monitoring software… the addition of Wall Street Analytics enhances Moody’s current collateralized debt obligations (CDO) product suite and immediately adds mortgage-backed securities (MBS) and asset-backed securities (ABS) analytic software capabilities. The acquisition will also enable Wall Street Analytics to tap Moody’s deep structured finance expertise, extensive CDO and MBS databases and global product marketing capabilities to enhance its offerings to existing customers and further expand its reach in the structured finance marketplace in the U.S. and internationally… “The structured finance markets are growing rapidly worldwide, bringing a heightened demand for supporting research, data and analysis,” said Raymond W. McDaniel, Jr., Chairman and Chief Executive Officer of Moody’s Corporation. “Wall Street Analytics is an excellent addition that will help us meet the growing market demand for tools to analyze structured securities and accelerate our growth in this segment…” http://phx.corporate-ir.net/phoenix.zhtml?c=123831&p=irol-newsArticle&ID=943161&highlight=
But, I’m getting off topic. Nothing to do with USD or RMB.
China CNOOC to invest $16 billion to develop Iran’s Pars gas field
http://yahoo.reuters.com/news/articlehybrid.aspx?storyID=urn:newsml:reuters.com:20061220:MTFH21626_2006-12-20_12-37-49_L20567276&type=comktNews&rpc=44
“The agreement to develop the northern Pars gas field was signed with Chinese firm CNOOC, this contract includes $16 billion investment,” state radio reported. “The development of the field will take eight years to complete” it said.
The radio report said $5 billion would be spent on upstream development and $11 billion on the LNG facilities.
Why the US Economy will tank from the Housing bubble collapse.
1. Because over 35% of new jobs since 2000 are in Real Estate.
2. Because 9.8% of total US employment is Real Estate in 2006 vs historical mean of 6%
3. Because the US manufacturing base depends on Housing production, not exports.
4. Because the remaining balance of US Economy is workfare payment via military spending.
Wall Street Economists assure us that everything is fine with the current situation.
Thailand Central Bank demands US action to stabilize Dollar
http://www.iht.com/articles/2006/12/20/business/baht.php
BANGKOK: The steep decline of the dollar is punishing Asia’s smaller economies and should be addressed by global financial regulators, Thailand’s central bank governor, Tarisa Watanagase, said Wednesday.
Dave Chiang,
Both the Japanese experience and PPP show that the RMB is undervalued by 300-500%. The Yen started out at 360 to the dollar. It has been roughly 100 for years now and Japan is still running a large CA surplus. On a PPP basis the RMB should be around 2 per dollar. Of course, the Yen trades over PPP parity, so the equilibrium value of the RMB may well lower than 2 per dollar.
I rather doubt that the rest of the world is willing to wait 60-100 years for China to bring the RMB into line with other currencies. I don’t know when the patience of the United States and other nations will reach the breaking point. However, that day will assuredly come.
The world simply isn’t going to tolerate “Exchange Rate-Protectionism” forever. These are not my words. See Will Asian Mercantilism Meet its Waterloo? by Martin Wolf.
Chris006,
Consumption is roughly 70% of US GDP. A 15% VAT might yield around 10% of GDP. The Current Account deficit is only 7% of GDP. The current budget deficit is 2% of GDP. Do you think the US needs to run a 5% of GDP budget surplus.
I don’t know when the patience of the United States and other nations will reach the breaking point. - Peter
Like the US, the Chinese make economic decisions based on their own national economic interests. Moreover, American consumers only care about low prices at Walmart, not about the sweatshop working conditions of Chinese workers in Shenzhen. It’s also hard for me to imagine that the Chinese have a worse reputation in the world for their currency monetary policies than the Bush Administration has for their militaristic policies in the Middle East region. Just imagine how much more competitive the US Economy might have become if the $390 billion in war expenditures were invested in infrastructure, new technology development, and educational institutions. The Chinese are not to blame for the loss of US competitiveness in the global economy.
“…China was moving in the right direction. But, it is retreating now… It is not using its present posterity for freedom of speech, justice and democratic institutions. If they do not do it, when the economy is booming, it can lead to a collapse of the system…”
http://www.financialexpress.com/fe_full_story.php?content_id=149414
Dave Chiang,
“It’s also hard for me to imagine that the Chinese have a worse reputation in the world for their currency monetary policies than the Bush Administration has for their militaristic policies in the Middle East region”
You are holding the Chinese to a remarkably low standard.
“Just imagine how much more competitive the US Economy might have become if the $390 billion in war expenditures were invested in infrastructure, new technology development, and educational institutions.”
This is far less than the US invests each and every year in R&D, infrastructure, and education (alone 7% of GDP).
“The Chinese are not to blame for the loss of US competitiveness in the global economy”
You are basically arguing that currency values don’t matter. I disagree and I have China on my side of this issue. Note that China devaluated the RMB after the CA deficits (Chinese, not American) of the early 1990s. What’s good for the goose…
“If someone can explain how the USD can collapse when there doesn’t seem to be anything else to take it’s place. ”
Foreigners will prefer to hold a combination of Sterling,Remimibi,Euros and Yen to dollars that’s how.
We are already seeing this with OPEC countries placing an ever larger portion of their reserves in Euros.
Also many countries believe that Euro will, whehter or not it will totally replace the dollar in its current role is questionable. But what is true is that the Euro is certainly gaining favor.
This is far less than the US invests each and every year in R&D, infrastructure, and education (alone 7% of GDP). - Peter
The direct US taxpayer costs of the Iraqi adventure has been $390 billion. Economist Joseph Stiglitz estimates the total indirect costs of $2 trillion to date and counting. That includes the long term health care costs for the 24,000 seriously wounded US soldiers with brain damage, loss of limbs, etc. Just imagine how much more competitive the US Economy might have become if the $2.390 trillion and counting, in total war expenditures were invested in infrastructure, new technology development, and educational institutions. The Chinese are not to blame for the loss of US competitiveness in the global economy.
Thumbs to David Chiang and Cassandra!
To D.C. for his reference to Stiglitz and to Cassandra for common sense applied to economics.
Let’s get free of stupid guests!
Thank you, very much, and you to also Brad, the captain of the web!
Peter Schaeffer,
China’s current account was in deficit exactly one year since 1990 (in 1993), and then by less than 2% of GDP. And, since trade was done at one exchange rate and other transactions at another (FDI, tourist spending, money transfers — remember the FEC?), the January 1, 1994 unification of the two exchange rates was much less of a devaluation on the trade account than most people realize.
A better candidate for the move would be the poor 1993 harvest (wheat production down 7%, maize 3%, rice 1%).
.
Rmb undervalued by 300-500%? And, based on the Japanese experience of taking 24 years (the yen was last at 360 in 1970, and first hit 100 in 1994), that works out to a 5.4% a year appreciation.
So, from January 1994, a 5.4% annual appreciation would take us to Rmb2.45:US$1 in 2018.
What’s your hurry?
* * *
Your calculation on the yield from a 15% US VAT needs work. No one taxes absolutely all consumption; there are always exemptions, rebates, off-sets, leaks and admin costs. Best guess yield on a 15% tax is roughly half, so more like 5-6% of GDP rather than the 10% you assume.
* * *
Guest,
“[China] is not using its present posterity for freedom of speech, justice and democratic institutions. If they do not do it, when the economy is booming, it can lead to a collapse of the system…
Since when did China share those free speech, democracy justice values? Just because they are among the most important in the West doesn’t mean they are universal.
.
Cassandra, it would be magnificent for a Chinese representative to speak at a University in the US. The US, a 230 year young country, like a small child only sees their own view point. Two way dialogue would be fantastic. You know one person speaks the other listens and then the other person speaks while the other listens.
It would be priceless to hear one of the protectionist lobby-lubed Democrats clueless on the workings of economics, of course, attempt to ask an intelligent question or make a valid point.
China and Iran as mentioned above have huge energy deals. (as do the Iranians with the Russians)
The US and China are obviously trading partners as well - Westinghouse deal and American conspicuous consumption of Chinese garbage etc
I mean how does this work? China is going to do business with Iran and indirectly or directly fund our attack on Iran?
What in the hell is going on? Is China just going to continue going about their business with Iran and the US while war rages on? Pardon the rant here, but it is an unsettling picture in many ways…
Bernanke calls for renminbi revaluation
http://biz.yahoo.com/ft/061215/fto121520061903378516.html?.v=1
“Ben Bernanke stepped into a political minefield on Friday when he released remarks branding China’s undervalued currency an “effective subsidy” for its exporters that was distorting patterns of production and trade.”
My comment: It is a gross political distortion of the US Constitution principles for the separation of powers with the Federal Reserve’s involvement in foreign policy affairs with the Chinese government. Ben Bernanke has demeaned the monetary independence of the Federal Reserve by pandering to and promoting politics over sound economics.
Dave Chiang,
Stiglitz estimates the total cost of the war at $1-2 trillion. In my view this is an overestimate because of double counting. In other words, Stiglitz is assigning to the war, costs (military retirement, some health care, etc.) that would have been incurred anyway. However, let’s use his estimate of $2 trillion (not your original $390 billion) as a given.
Would investing $2 trillion be material for the entire US economy over the next 20-40 years (the period when most of the long-term costs of Iraq will be paid)? Let’s take a look at some of the relevant numbers. According to United States pubic debt the total household assets of the United States are $62.5 trillion (versus liabilities of $11.4 trillion).
For a number of reasons (asset price speculation), I have my doubts about these numbers. However, the BEA has its own statistics. Take a look at Current-Cost Net Stock of Fixed Assets and Consumer Durable Goods. The total for 2005 is $40.1 trillion.
Of course, the United States continues to invest in new capital assets (private and public). The Economic Report of the President provides some useful statistical information in this context. A quick check of table B-18 shows that private investment is running over $2.16 trillion each year. Table B-20 shows that public investment is roughly $434 billion per year.
Of course, these numbers exclude education expenditures and quite a bit of (expensed) private/public sector R&D. For example, in the public sector the budgets of the NIH and NSF are treated as expenses rather than investments. According to Comparisons of Expenditures for Education for Selected G8 Countries the United States is investing 6.6% of GDP (I have seen 7% cited elsewhere). This works out to be around $880 billion per year.
As you can see, the hypothetical cost of the Iraq war is small compared to the existing capital stock of the United States and/or ongoing investment in this country. The numbers look even less impressive given that the long-term costs will be spread out over decades.
None of this makes America’s Iraqi misadventure any saner. However, using Iraq as a scapegoat for problems located elsewhere isn’t acceptable either.
To put this in perspective, the US CA deficit is around $900 billion per year and rising. At that rate you get to $2 trillion rather quickly…
As for competitiveness, China moved quickly to devalue when its CA account went negative. Apparently, this is acceptable conduct for China and not the United States. However, the deeper point is whether you believe exchange rates influence competitiveness. The Chinese government does. Do you?
DOR,
Your argument for a 24 year RMB/$ adjustment would have greater merit if the RMB hadn’t been fixed for the last 12 years. Of course, the RMB has moved slightly upwards since September 2005. However, McKinnon points out that this isn’t really true. According to The Yuan and the Greenback China has simply adjusted the RMB/$ exchange rate to reflect higher inflation in the US versus China. You will much of the same information in a report by the Cleveland Fed The Chinese Renminbi.
As a consequence a rather fast adjustment would be needed over the next 12 years, using your model… And no adjustment at all is in sight…
As for VAT revenues, sure it might yield less… And the VAT rate might be higher. Chris006 didn’t propose any exceptions. In any case 5-6% of GDP dwarfs the budget deficit (currently 1.9% of GDP).
“Both the Japanese experience and PPP show that the RMB is undervalued by 300-500%. The Yen started out at 360 to the dollar. It has been roughly 100 for years now and Japan is still running a large CA surplus. On a PPP basis the RMB should be around 2 per dollar. Of course, the Yen trades over PPP parity, so the equilibrium value of the RMB may well lower than 2 per dollar.”
First I don’t really get the logic. Japan has a closed market. Completely different story. But logic aside, there really isn’t a single China. Coastal China and inland have vastly different PPPs for the RMB.
“This is far less than the US invests each and every year in R&D, infrastructure, and education (alone 7% of GDP).”
How much of that is maintainence capital spending? $350B is certainly not something to sneer at, esp. if it comes in as greenfield investment.
“Japan has a closed market” should read “Japan had a closed market.”
HZ,
According to the BEA, consumption of fixed capital was $1.6 trillion in 2005. So the answer to your question is “a lot”.
re: “Since when did China share those free speech, democracy justice values?”
Apparently never have and don’t intend to.
Peter,
U.S., like a company, has a lot of fixed assets. Each year these assets depreciate. The aggregate investment number does not tell you how much is replacement capital. Even much of education is to replace retired/expired workers.
HZ,
I posted the BEA estimate of total fixed capital depreciation above. Since the United States does not capitalize education, no estimates of depreciation of human capital exist (that I am aware of, at least).
Peter Schaeffer,
Curious comment about the Rmb vis-Ã -vis the Yen.
From 1950 to 1968, the yen didn’t budge against the dollar, and then it rose 0.5% in 1969 and again in 1970. During that time, the BoJ didn’t adjust the exchange rate to take into account the higher / lower inflation in the US; it just hung on to MacArthur’s 360.
So, what happened when the adjustment came? From 1970, the yen rose 2.5% in 1971, 15.2% in 1972 and 11.6% in 1973 for a total of 31.8%.
But, Japan overshot, and had to pull the Yen back in 1974 and 1975. That 31.8% rise was trimmed to 20.7% (cumulative, 1970-75). In other words, Rmb 6.9:US$1 is the 5-year goal.
We’ve already seen the Rmb rise against the US dollar from 8.3 to 7.8. Compared to Japan 1970-71, that’s quick. Hence, I don’t understand “no adjustment at all is in sight…”
.
Peter,
Thanks for the clarification. I didn’t quite understand what “consumption of fixed capital” meant. So does your “7% of GDP” figure include replacement capital cost or not? Even much of R&D is spent to replace/upgrade existing product line and it would be quite a challenge to decide what part is truely investment. Accounting is certainly a very interesting subject!
HZ,
The 7% of GDP referred to education in the United States. Since education is not capitalized, it is not depreciated either.
Stated differently, the 7% for education is completely separate from investment in fixed capital or depreciation of fixed capital. Note that the link I cited above gives 6.6% of GDP, not 7%.
DOR,
According to McKinnon, China is maintaining the inflation adjusted relationship between the two currencies. In other words, the RMB is adjusted upwards only to the extent that the US has higher inflation than China. The real value of the RMB in dollar terms is held constant.
Peter,
Now I see what you meant by the 7% GDP.