Friday, May 30, 2008

China now has $1.756 trillion in currency reserves

According to Brad Setser, who keeps close track of the latest reports from China's Central Bank, China now has $1.756 trillion in currency reserves and is accumulating those reserves at its fastest rate ever, a rate approaching $1 trillion per year.

These reserves include both euro and dollars, but are reported to be preponderantly dollars. (The Chinese Central Bank does not disclose the currency composition of its reserves, so the proportion of each currency must be estimated.) These reserves are accumulated as a byproduct of the Chinese government's currency manipulations. The Chinese Central Bank borrows renminbi (also called yuan) from its own people, instructing its banks not to lend renminbi to Chinese citizens who are not favored by the government. Then they use those renminbi to buy dollars. The effect of those dollar and euro purchases is to cause the dollar and euro to go up in value verses the renminbi. This keeps Chinese wages low compared to US and European wages and allows the Chinese to steal industries from the United States and from Europe.

By the way, about a month ago the Bush Administration told an incredulous Congress that China was not manipulating its currency.


Thursday, May 29, 2008

Heritage Foundation think tank goes brain dead on China currency manipulations

In a policy paper, posted on the Heritage Foundation’s website, Ambassador Terry Miller, Director of their Center for International Trade and Economics, came out strongly against the Chinese Currency Manipulation Act of 2008, a bill that would combat the Chinese currency manipulations that put American products at a disadvantage when competing with Chinese products. Here are some selections from his paper, followed by my comments:

Contrary to the expressed goals of the sponsors, such measures are unlikely to stop the loss of manufacturing employment in the United States, or hurt the Chinese.

Miller is simply wrong here. The Chinese mercantilist economic policy is to export as much as possible to the United States while minimizing the amount that they import from the United States. They use their currency manipulations to do so. The result has been the loss of industry after industry to China.

The bill that Miller is denigrating is designed to end Chinese currency manipulations. It would not actually do so, but if the currency manipulations were ended, the Chinese currency would rise to the price that would cause trade between the two countries to be balanced. As a result the Chinese labor costs would rise tremendously as compared to American labor costs and China would be forced to import from the United States, so they would eliminate their tariffs on Michigan auto parts, Harley Davidson motorcycles, and Bucyrus mining machinery. American products that compete with Chinese products, such as Whirlpool appliances, would become more profitable and expand production. The result would add millions of manufacturing jobs to the American economy.

If he is talking about the Chinese people, Miller is wrong that the bill would hurt the Chinese. It would raise their relative wages compared to wages in other countries, making imports much less expensive to them. It would also force the Chinese government to loan hundreds of billions of dollars worth of renminbi to the Chinese people, instead of using those renminbi to buy dollars and then loaning the dollars to Americans. The result of these changes would be that credit would become available to the Chinese middle class, and there would be an immediate rise in living standards in China.

However if Miller is talking about the effect of the bill upon the Communist government of China, he is correct. If the Chinese government were to eliminate their currency manipulations, the middle class in China would be strengthened and Communist control would indeed be weakened. Miller continues:

Their primary effect would be to spur inflation and hurt American consumers.

Miller is correct that the bill would result in higher prices for Chinese-made products. On the other hand it would help American workers compete in the international marketplace because their wages would be more competitive with the substantially increased Chinese wages and also because American companies would invest in more efficient factories in order to expand US production.

As far as inflation is concerned, the result is debatable. Inflation is largely a monetary phenomena. The Chinese loans to the United States are making it impossible for the Federal Reserve to control inflation without holding short-term interest rates higher than long-term interest rates (what economists call an "inversion"). The Fed would actually have better control over inflation if it weren’t for the huge Chinese loans to the United States that are a byproduct of Chinese currency manipulations. Later he writes:

It is true that China's exports to the United States have risen rapidly over the last decade, too. However, that surge appears to have come at the expense of other Asian exporters, not U.S. manufacturers. In 1995, China and Japan together accounted for 23 percent of U.S. imports. In 2005, China and Japan together still accounted for 23 percent of U.S. imports. What changed was that in 1995, Japan accounted for 73 percent of those combined imports and China only 27 percent; by 2005, China's share had grown to 64 percent and Japan's had fallen to 36 percent.[8]

Miller is using the wrong statistic. In order to determine the extent that Chinese and Japanese currency manipulations have hurt United States manufacturing, it is necessary to consider imports as well as exports. The simple statistic to consider is the Chinese and Japanese combined trade surpluses with the United States. After all, the goal of their currency manipulations is to increase their trade surpluses with the United States. The following graph shows that the combined Japanese and Chinese trade surplus with the United States accounted for 0.9% of our GDP in 1996 and 2.5% of our GDP in 2007. In other words, since 1996, Chinese and Japanese currency manipulations have stolen the US manufacturing industries that would otherwise be producing 1.6% of our GDP.

Miller’s next argument shows that he is completely out-of-touch:

Assuming, for the sake of argument, that the renminbi is undervalued compared to the dollar, the question is whether this is as bad for Americans as politicians assert. It's true that a U.S. producer of a product that is in demand in China will normally sell more in China if the renminbi appreciates against the dollar. Similarly, a U.S. producer of goods for domestic consumption competing against Chinese imports will also normally sell more if the renminbi appreciates.

There aren't very many such firms, however. Chinese and Americans don't generally produce the same things. Indeed, it is through specialization, not competition, that both countries reap the benefits of trade. As noted above, Chinese exporters to the U.S. compete with other Asian economies for market share in the U.S. American firms compete with Europeans, Japanese, and Asians for market share in China. Changing the renminbi/dollar exchange rate will not significantly affect those trade flows.

Is Miller unaware of the fact that the Chinese just built three factories to produce the heavy mining equipment produced by Bucyrus and other American companies, while slapping a 40% tariff on Bucyrus mining equipment. Is he unaware of the Chinese have a 30% tariff on US cars, on US autoparts, and Harley Davidson motorcycles, while they build their own vehicle industries. Is he unaware that the Chinese are about to buy GE’s appliance business and then move those 300,000 jobs to China, leaving Whirlpool as the only remaining US appliance producer. He clearly doesn’t understand the mercantilist strategy of exporting, but not importing so that they can steal US industries. He continues:

Changing the exchange rate will, however, affect U.S. producers who use intermediate goods imported from China in their U.S. production processes. Renminbi appreciation will increase their costs of production. U.S. consumers of basic commodities like oil will also be hurt, as renminbi appreciation will make dollar-denominated commodities like oil cheaper for the Chinese. Chinese demand, already rising rapidly, will drive up the dollar price of such commodities worldwide, forcing American consumers to pay even more at the pump.

This particular quote is essentially correct, but tells only a small part of the story. Another part of this equation is that a change in the relative currency values will make US intermediate products, such as auto parts made in Michigan, less expensive to Chinese industries. Also, the continuing trade deficits caused by our loss of industries to the Asian mercantilists, are the real cause of the dollar’s slide. In the long run, if we continue to lose our industries, we will not be able to afford to import oil and other commodities. You need exports to import. Allowing these currency manipulations, as Miller would do, causes the United States to lose industry after industry, making the dollar ever more precarious. Miller is engaging in very short-term thinking regarding the price of commodities here. He continues with one final argument:

We get … more investment capital to help our economy grow and keep our unemployment rate low.

Currently the United States is getting so much unwanted investment capital flowing in from foreign governments who are manipulating exchange rates that the US long-term interest on US Treasury 10-year notes is less than zero, after subtracting inflation. The fact is that the United States will get little investment by our manufacturing industries, no matter how low the interest rate, until manufacturers realize that we are serious about balancing trade.

In the final analysis, Ambassador Miller is saying three things:
  1. The Heritage Foundation favors American consumers more than American producers.
  2. The Heritage Foundation thinks that US policy should support the Communist government in China.
  3. The Heritage Foundation favors lower interest rates, even when real interest rates are negative.
It is truly a shame when a think tank goes brain dead. Follow the following link to read Ambassador Miller’s policy paper on the Heritage Foundation’s website:


Wednesday, May 28, 2008

Somebody is educating McCain about China's economic policies

Senator McCain's position on China is shifting. In a column that he wrote with Senator Lieberman, "Renewing America's Asia Policy," that appeared in the May 27 Asia edition of the Wall Street Journal, for the first time (that I have noticed) he described China's policy as "mercantilist." This is an important word choice. It means that he (or Lieberman) recognizes that China's policy is to maximize exports while minimizing imports. Here is the relevant passage:

America must likewise get its relationship with China right. China's double-digit growth rates have brought hundreds of millions out of poverty and energized the economies of its neighbors. The U.S. shares common interests with China that can form the basis of a strong partnership on issues of global concern, including climate change, trade and proliferation. But China's rapid military modernization, mercantilist economic practices, lack of political freedom and close relations with regimes like Sudan and Burma undermine the very international system on which its rise depends. The next American president must build on the areas of overlapping interest to forge a more durable U.S.-China relationship. Doing so will require strong alliances with other Asian nations and a readiness to speak openly with Beijing when it fails to behave as a responsible stakeholder.

This paragraph can be compared to his naïve expectation of Chinese cooperation just 15 months ago (on February 23 2007), when he told the Seattle World Affairs Council:

And to talk about the Asian economies is to speak of China. I know some of our citizens fear the specter of Chinese economic growth, worrying that it will result in the loss of American jobs and the inability of our economy to compete. Others take the opposite view, trumpeting China's vast market potential, low labor costs, and exports, which allow American manufacturers to move up the value chain. America benefits from China's economic growth. But by the same token, its rising prosperity also raises legitimate expectations that China will behave as a responsible economic partner.

As Chinese businesses 'go global,' we must insist that they operate in an open, fair, and transparent manner, with sound, internationally-accepted standards for corporate governance. We should push Beijing to adopt a market-determined value for its currency, ensuring that trade is conducted on a level financial playing field. We need to convey to China that its go-it-alone approach to locking up energy supplies is unlikely to be either effective or sustainable, and that its environmental stewardship cannot fall prey to its economic ambitions.

In these cases, there is significant room for economic cooperation. The U.S. and China have a mutual interest in developing new and diverse energy supplies, improving energy efficiency, and developing environmentally sustainable energy alternatives. U.S. trade and investment in China's undeveloped rural areas can help create the broad-based growth Chinese leaders seek. China's rapidly aging society would benefit from U.S. private-sector involvement in building health care and pension systems, while Beijing's steps toward banking and financial reform will, if fully implemented, create new business opportunities for American companies. Finally, China's desire to construct a "knowledge economy" implies a mutual interest in protecting intellectual property and preventing counterfeiting.


Monday, May 26, 2008

Trade Deficits and Free Trade

Trade Deficits and Free Trade

Raymond L. Richman

Bruce Bartlett, an adviser to President Ronald Reagan and a treasury official under President George H.W. Bush, writes in Reason Magazine ( 5-26-08) “Herbert Hoover was rightly reviled for having the worst record on international trade of any president. The Smoot-Hawley Tariff, which Hoover signed into law in 1930 after a Republican Congress passed it, was a significant factor in deepening the Great Depression. Since then, every president has embraced at least the rhetoric of free trade. But actions and rhetoric are different things, and George W. Bush in particular has preached free trade while advancing the agenda of a petty protectionist.”

There are several things wrong with this statement. Herbert Hoover was not “rightly reviled”, the Smoot-Hawley tariff had nothing to do with the depression. The Smoot-Hawley tariff was passed after the stock market bubble burst in 1929. A thousand economists petitioned Pres. Hoover to veto the bill. It would not have mattered if he did not. Our trade deficit on goods and services amounted to less than three-tenths of one percent of the 1929 GDP; our surplus on goods and services actually declined from 1930 to 1938 as Table 1 indicates.

Table 1.






Exports of goods and services










Imports of goods and services










Surplus or deficit goods & services





Surplus or deficit on goods





Gross domestic product





Deficit gds and srvcs as % of GDP





Source: BEA

As it turned out, foreign trade had little to do with the depression of the thirties. Monetary policy which permitted the bursting of the stock market bubble to force the closing of hundreds of banks was certainly the major culprit. The paper losses of those who gambled in the stock market need not have pushed the economy into depression. No real inputs were laid off. A comparable crisis is currently being prevented by a monetary policy dedicated to keeping liquidity and supporting the commercial and investment banks from a similar paper crisis.

George W. Bush rightly tried to protect the U.S. steel and textile industries from unfair competition. And Bush’s and Clinton’s alleged protectionism was too little to dent the enormous growth of the trade deficit from one-half of one percent of GDP in 1992 to 5.7 percent in 2006 as Table 2 indicates. It appears that the U.S. needed a lot more protectionism from foreign beggar-my-neighbor policies than either president was willing to give. We show that in our book, Trading Away Our Future. Failure to protect our industries from predatory mercantilist practices of trading partners such as Japan, China, permitting them to buy American financial assets instead of purchasing our goods is very likely to precipitate another depression.

Bruce Bartlett goes on to write:

One of Franklin Roosevelt’s first acts in office was to reverse Smoot-Hawley. He later insisted that freer trade be a key element of postwar planning, which led to the creation of the General Agreement on Tariffs and Trade. . .From then on every president had a hand in liberalizing world trade. John Kennedy initiated a round of multilateral trade negotiations, concluded under Lyndon Johnson, that eventually led to a reduction in world tariff levels by about a third. Under Richard Nixon, another round of trade negotiations began, known as the Tokyo Round, which Jimmy Carter finally pushed through an increasingly protectionist Democratic Congress in 1979.

All of these contributed to the worsening trade position of the U.S. which converted the U. S. from world’s leading creditor to world’s leading debtor. Whole industries were obliterated, millions of workers lost good-paying factory jobs, wages stagnated, the distribution of income worsened, and not only did the government become the world’s leading debtor but American private savings rate declined to zero, even corporate net investment declined to zero. Corporations began de-capitalizing buying their own stocks to create artificial capital gains to justify the enormous bonuses managers began paying to themselves. And why was this happening? Because of our tolerance of exploding chronic trade deficits as Table 2 shows

Table 2







Exports of goods and services












Imports of goods and services












Surplus or deficit goods & services






Surplus or deficit on goods






Gross domestic product






Deficit on goods and servics as % of GDP






The problem, as we see it, is that the U.S. is practically alone practicing free trade (notwithstanding the protection given a few industries and sectors.) The resulting consequences of trade deficits have been completely ignored by the entrenched economic bureaucracies in government and academia. They have never asked what the consequences of the chronic trade deficits are. The traditional answer is why should we object if countries want to sell us goods for paper dollars that cost nothing to print? What fools they are, our leadings economists exclaim, while China grows at double-digit rates and we grow hardly at all. We received an e-mail from a prestigious economist very recently who told us trade is good even when it is one-sided, we are simply getting goods with having to pay for them in goods.

Everybody knew that Japan’s market was closed to American goods while it pursued a policy of export-based development at our expense. Even the Chinese Communists pretend to be opening their markets when in fact they impose all sorts of barriers to closing the trade gap. When they decide to produce automobiles, they impose barriers on not only autos but auto parts and ask our companies to provide the capital for their new automobile industry. And our companies are pleased to oblige.

Lenin was not far off when he announced his new economic policy (NEP) in 1921. Privately, he assured his supporters that the policy was to enable the farmer capitalists to finance their own destruction. The USSR would long ago have surpassed the U.S. had Stalin’s orthodoxy not killed that policy. The Chinese Communists, obviously more intelligent than their Soviet counterparts, applied its NEP to industry as well as agriculture, enjoying the benefits of capitalism until they are ready to bury it.

Bruce Bartlett’s other points include the assertion that NAFTA, CAFTA, and including Colombia and Korea and others in a free trade area is a protectionist ploy. So far that has not been the case. Canada’s and Mexico are enjoying a trade surplus as other oil-producing countries are doing. The problem is not in the stars, it is us. We allowed OPEC, an illegal cartel, to restrict output of its members while we pay the price. We won’t drill in the ANWR while Russia exploits its tundra. We restrict consumption of coal, we throw money at foolish alternative sources of fuel. Worst of all, as Lee Iacoca says, we worship at the false god of Free Trade.

- - - - - -

Dr. Raymond Richman is Professor Emeritus of Public and International Affairs at the University of Pittsburgh. He earned his Ph.D. in Economics at the University of Chicago. With co-authors, Dr. Howard B. Richman, economists, and Dr. Jesse T. Richman, Asst.Professor of Political Science at Old Dominion University,he is the author of Ideal Tax Association's recently published book, Trading Away Our Future (Pittsburgh, PA., Ideal Taxes Association (Web site:

Sunday, May 25, 2008

We are published today on Enter Stage Right

Here is part of our column.

How to recapture the Republican advantage on trade
By Jesse Richman, Howard Richman, and Raymond Richman
web posted May 26, 2008

When a new issue emerges that is popular, sometimes one party captures the issue and wins elections thereby. At other times no major party will adopt the issue and third parties emerge to champion it. Finally, some issues are dealt with by both parties.

The Democratic Party, but not the Republicans, began talking about trade in 2006 when Senator Chuck Schumer took leadership, both on the trade issue and in enlisting Democratic candidates who would make trade an issue. The result was that the Democrats recaptured the House and Senate in 2006. Trade has also been a major issue in each of the recent Democratic special election victories in formerly solid Republican districts.

Public opinion on trade has shifted decisively against current policies. Americans are increasingly concerned that current trade policies are not serving the interests of the U.S. economy. In an October 2007 Wall Street Journal/NBC News poll, 59 percent of Republicans agreed with the statement that

"Foreign trade has been bad for the U.S. economy, because imports from abroad have reduced demand for American-made goods, cost jobs here at home, and produced potentially unsafe products."

Enough of the 59 percent of Republicans who believe that foreign trade has been hurting the US economy are willing to vote on that basis that the party cannot afford to ignore them. People used to say that a conservative is a liberal who has been mugged. Many Republican voters are free traders who think their country is being mugged.

How has the mugging occurred? The Chinese government, the Japanese government, and others have been intentionally keeping trade unbalanced in order to steal our industries. They have been following the old mercantilist practice of selling to us without buying from us and have accumulated trillions of dollars as evidence of their manipulations. U.S. government policies have abetted rather than obstructed such strategies.

The result has been the loss of one U.S. industry after another, the decline in U.S. median wages as manufacturing workers move to the service sector, and the current stagnation of the American economy. Our trade agreements have been designed to reduce tariffs, but have not stopped our loss of industries because they have failed to address other trade manipulations.

In spite of the shift in public opinion, the Republican Party leadership has forged ahead as if public opinion had not changed one iota. John McCain on the stump dismisses voters concerns about trade. In January he told Republican primary voters in Michigan that their "jobs aren't coming back." During an early April trip to Wisconsin, he paid little attention when Bucyrus CEO Tim Sullivan told him about the new 40% Chinese tariffs on his company's mining equipment exports. In late April, McCain stood before a shuttered Youngstown Ohio factory and asked voters to reject the "siren song of protectionism." ....

To read the rest, go to

Senators Stabenow, Bunning, and Bayh introduce S.2813: "China Currency Manipulation Act of 2008"

Here is what Senator Stabenow wrote in her April 3, 2008, press release:

WASHINGTON -- U.S. Senators Debbie Stabenow (D-MI), Jim Bunning (R-KY) and Evan Bayh (D-IN) today introduced the China Currency Manipulation Act of 2008, which will put a stop to currency manipulation by China that is distorting international trade and creating a threat to the global economy. All three Senators also expect to work together in the near future to strengthen the trade remedies in Senate currency legislation reported by the Senate Finance and Banking Committees.

“Currency manipulation is a clear-cut form of unfair trade that is costing us jobs,” said Stabenow. “Our trade deficit with China continues to grow, hitting $256 billion last year, thanks in no small part to China’s manipulation of their currency. The solution is simple - we must hold countries that cheat accountable. America can compete with anyone when the playing field is level, and this bill is a much needed step in the fight for fair trade.”

In 1988, President Ronald Reagan signed legislation enacted by Congress that requires the Treasury Department to monitor the exchange rate policies of foreign nations, including China, and to report to Congress when any country intervenes to gain an advantage in trade with the United States by artificially depreciating the value of its currency.

Secretary Lloyd Bentsen cited China in 1994, but in the face of overwhelming evidence to the contrary, including a historic trade deficit, Secretary Henry Paulson maintains that China’s actions are unrelated to the obvious trade advantage that it gains by undervaluing its currency. The very recent nominal increase in the value of the yuan still leaves the Chinese currency undervalued by between 30 percent and 40 percent, according to trade economists who have testified before Congress. Last year, the United States trade deficit with China was a record $256 billion, the largest with any nation.

The Bunning-Stabenow-Bayh bill that is supported by the China Currency Coalition would require the Secretary of the Treasury to make a finding under the 1988 Act that China is manipulating its currency to gain an unfair trade advantage. It would require the Secretary of the Treasury to establish a plan of action within 30 days on its enactment with specific time frames and benchmarks to remedy China’s currency manipulation and to submit a report to Congress describing the plan. The legislation would also require the Secretary to seek consultations in the IMF under Article IV of the IMF charter with respect to China. The provisions in the bill are similar to those outlined in the currency legislation that was approved by the Banking Committee last July.

Here is the text of the bill

China Currency Manipulation Act of 2008 (Introduced in Senate)

To require the Secretary of the Treasury to take action with respect to currency manipulation by the People's Republic of China and for other purposes.

Be it enacted by the Senate and House of Representatives of the United States of America in Congress assembled,


This Act may be cited as the `China Currency Manipulation Act of 2008'.


Congress makes the following findings:

(1) The People's Republic of China has a material global current account surplus.

(2) The People's Republic of China has, since the beginning of 2000, accumulated a current account surplus with the United States of nearly $1,200,000,000,000, more than twice the size of the cumulative current account surplus of any other United States trading partner during the same period.

(3) The People's Republic of China has engaged in protracted large-scale intervention in currency markets, thereby subsidizing Chinese-made products and erecting a formidable nontariff barrier to trade for United States exports to the People's Republic of China, in contravention of the spirit and intent of the General Agreement on Tariffs and Trade and the Articles of Agreement of the International Monetary Fund.


(a) Determination- Notwithstanding any other provision of law, the Secretary of the Treasury shall--

(1) make an affirmative determination that the People's Republic of China is manipulating the rate of exchange between its currency and the United States dollar within the meaning of section 3004(b) of the Exchange Rates and International Economic Policies Coordination Act of 1988 (22 U.S.C. 5304(b)); and

(2) take the action described in subsections (b), (c), and (d) of this section.

(b) Action-

(1) IN GENERAL- The Secretary of the Treasury shall, not later than 30 days after the date of the enactment of this Act, establish a plan of action to remedy currency manipulation by the People's Republic of China, and submit a report regarding that plan, to the Committee on Banking, Housing, and Urban Affairs and the Committee on Finance of the Senate and the Committee on Financial Services and the Committee on Ways and Means of the House of Representatives.

(2) BENCHMARKS- The report described in paragraph (1) shall include specific benchmarks and timeframes for correcting the currency manipulation.

(c) Initial Negotiations- The Secretary shall initiate, on an expedited basis, bilateral negotiations with the People's Republic of China for the purpose of ensuring that the country regularly and promptly adjusts the rate of exchange between its currency and the United States dollar to permit effective balance of payment adjustments and to eliminate the unfair competitive advantage.

(d) Coordination With the International Monetary Fund- The Secretary of the Treasury shall, not later than 30 days after the date of the enactment of this Act, instruct the Executive Director to the International Monetary Fund to use the voice and vote of the United States, including requesting consultations under Article IV of the Articles of Agreement of the International Monetary Fund, for the purpose of ensuring the People's Republic of China regularly and promptly adjusts the rate of exchange between its currency and the United States dollar to permit effective balance of payments adjustments and to eliminate the unfair competitive advantage in trade.

This bill could work given a Secretary of the Treasury and a President who were determined to reduce the Chinese trade surplus with the United States. However, given the fact that the US Treasury Department is usually dominated by a banking industry that benefits from the loans that are a byproduct of Chinese currency manipulations and given the likelihood that the President will need Chinese government cooperation on international issues, it is unlikely to accomplish anything, except to give those Senators who sponsor it some political cover.

An effective bill would announce to the Chinese that they have to reduce their trade surplus with the United States by 20% each year (about $50 billion) and that failure to do so would result in the imposition of Import Certificates tied to their imports from us that would gradually eliminate their trade surplus with the United States over a five year period.


Friday, May 23, 2008

Fire Sale Time

Time Magazine is running a largely insightful article this week on the trade deficit and its costs. Only two things are missing... a discussion of how to end the bleeding (e.g. policies that would reduce the trade deficit) and a recognition that foreign governments have played a role in abetting and sustaining the imbalances. None the less, it makes some good points. The title: America's Coming Garage Sale.

The real cause of the trade deficit is that Americans spend too much and save too little. That's true for both the government, with its mammoth budget deficits, and the average consumer. American household debt reached $13.8 trillion at the end of 2007, or more than double the amount in 1999. This debt-financed consumption has led to a level of imports well beyond the nation's ability to pay for them. Americans have no one to blame but themselves.

Now toss on top of that unstable situation the current financial chaos. One effect has been to depress the value of American assets, such as shares and property. This alone is impoverishing the average American. Housing price futures are predicting a more than 20% decline in Los Angeles home prices over the next 12 months. Christopher Wood of brokerage house CLSA recently wrote that the financial meltdown will "produce the most devastating wealth destruction" in the U.S., "which conventional monetary policy will be powerless to prevent." Americans are already getting poorer by the day.

So is the U.S. vis-á-vis the rest of the world. The losses at American financial institutions and fears of a coming recession have eroded confidence in the U.S. economy and depressed the value of the dollar against other currencies. The dollar has hit record lows against the euro, and last week sank to its weakest level versus the yen since the mid-1990s. That means all of those imports that Americans buy – from oil to toys – are becoming increasingly expensive, eroding the average American's quality of life. "By pursuing a policy of diminishing the dollar," says Thailand-based investment analyst Marc Faber, Americans "impoverished themselves relative to the rest of the world."

It also means that those mounds of dollars held by central banks and investors from Tokyo to Kuwait City are also deteriorating in value by the day. Yet the world can't just dump its dollars. Not only would that be incredibly destabilizing to the global economy, but it also would be effectively impossible. The dollar has been the reserve currency for decades and there are just too darn many of them out there to be converted into something else. Bankers in Beijing, Hong Kong and Dubai are stuck with the rotting stacks of greenbacks.

So the outcome is inevitable. As the financial crisis in the U.S. persists, the combination of decreasing asset prices and a weakening dollar will make the U.S. cheaper and cheaper to foreign investors. Irresistibly cheap. The U.S. is, after all, still a highly desirable place to own property, companies and securities. Foreign investors will see the crisis as a golden opportunity to buy prime pieces of Americana at bargain-basement prices. So all those dollars in banks around the world will flood back into the U.S. to buy stocks, bonds and property. Debt-burdened Americans, desperate for fresh cash, will be only too happy to sell — or be forced to sell. The U.S. will become one giant garage sale, where the buyers are Japanese banks, Chinese state-run investment funds and oil-rich Arab sheikdoms.

Of course, we've heard all of this before. For the past two decades, pundits have warned of the dangers of the trade deficit, while the U.S. has powered on. The big difference these days is that far more countries are awash in dollars today than there were in the 1980s. Even back then, if you remember, Japan recycled its surplus into U.S. assets when the dollar weakened in the late 1980s.

The upside to greater foreign investment in the U.S. will be the strengthening of the dollar and the resurrection of stock and property prices. The downside is that the foreign business community – especially in Asia – will own larger swaths of the U.S. economy. And it is these foreign buyers who will benefit from the increases in the value of assets and the dollar. In fact, such a shopping spree has already begun. Look at the list of investors that recapitalized Citigroup in recent months – investment funds of the Singapore, Kuwait and Abu Dhabi governments. In fact, Asian investors bought a net $50 billion of U.S. stocks and bonds in January alone, up nearly 30% from December. "The U.S. is getting pretty cheap," says Charles Change, managing director of boutique investment banking firm Accolade in Seoul. "You always want to buy low and sell high."

There is, simply put, no way out of this situation for America. If you don't believe me, perhaps you'll believe Warren Buffett. The Sage of Omaha predicted this very scenario in 2003 in an article in Fortune. He tells the story of two fictional islands, Thriftville and Squanderville. In Squanderville, the residents live beyond their means by importing from Thriftville in return for IOUs. Eventually, Thriftville converts this debt into Squanderville assets until Thriftville owns all of Squanderville. America, Buffett warned, was facing the same fate. "Our trade deficit has greatly worsened, to the point that our country's 'net worth,' so to speak, is now being transferred abroad at an alarming rate," Buffett wrote.,9171,1725094,00.html?xid=rss-topstories

Thursday, May 22, 2008

Strengthening the Dollar

To Larry Kudlow (
Your discussion this evening with five Wall Street economists -- Gary Shilling, Fritz Meyer, Invesco Aim; David Malpass, Bear Stearns; Joseph Battipaglia, Stifel Nicolaus; and Jim Awad, WP Stewart Asset Mgmt – about the need for a strong dollar, about the declining value of the dollar being largely responsible for the sky-rocketing prices of oil and other commodities, left one thing out – the cause of the decline in the value of the dollar. You seem to think that the world’s central banks can do something about strengthening the dollar. Wrong, as my co-authors and I demonstrate in a recently published book, Trading Away Our Future (Pittsburgh, Ideal Taxes Association). The cause of the falling dollar is the trade deficits which amounted to about 5-6 percent of GDP the last several years, about $710 billion in 2007, $760 billion the year before, with no real decline in sight. Foreign countries accumulated U.S. financial assets and kept the dollar’s value high for several years but increasingly began investing their dollars in Euro assets, raising the Euro’s value as previously they did for the dollar. But the book speaks for itself.

My qualifications, Professor Emeritus of Public and International Affairs, the University of Pittsburgh; Ph.D. in Economics from the University of Chicago. Milton Friedman was Chairman of my dissertation committee.

The trade deficit is a secret. Free traders ignore it or think it is wonderful that trade with China, Japan, and the oil-producing countries has been burgeoning. Larry, I’m a free trader but trade has to be balanced. Failure to balance trade has cost us millions of manufacturing jobs, caused wage stagnation, worsened the distribution of income and is the cause of the stagnating U.S. economy.

It should be no secret that the chronic trade deficits of the United States are a basic cause of the current miserable performance of the US economy. Why then have successive Councils of Economic Advisors, the Commerce and Treasury secretaries, the governors of the Federal Reserve System, Congressional leaders, and nearly all of the economists in academia kept silent while our trade deficits grew astronomically over the past three decades

The principal reason for their silence is that they are politically addicted to an ideology of free trade and do not want to appear to be espousing barriers to trade. A very recent illustration was an op-ed in the WSJ in which a distinguished economist, Prof. Ronald McKinnon ( “The Dollar and the Credit Crunch”, WSJ 3-31-08) discusses the sources of the enormous accumulation of dollar reserves, mentioning specifically China and the Gulf oil-producing states, without once mentioning the trade deficits. Of course not, they are a secret! $700 billion; it’s just money!

Or a couple of days ago, economist Fred Bergsten in the WSJ 5-20-08 denounced “The Democrat’s Dangerous Trade Games” as protectionism, likewise failing to mention the trade deficits. Actually I have no fear of a free trade area encompassing Colombia, Panama, etc. with NAFTA. They are no threat to our well-being. But getting trade into balance with China and OPEC is not protectionism; it is anti-mercantilism. It is pro free and balanced trade. Please read the book.

Call me at 412-682-1286 and I’ll send you a copy or go to the web site and order one for the grand sum of $12.95.

Yours truly,

Raymond L. Richman

Public Opinion on Trade

A recent LA times poll tracks changing public opinion on trade policy.

The polling results are reported on

Los Angeles Times/Bloomberg Poll. May 1-8, 2008. N=2,208 adults nationwide. MoE ± 3.

"Generally speaking, do you believe that free international trade has helped or hurt the economy, or hasn't it made a difference to the economy one way or the other?"

In November 2007, 44 percent though trade was hurting and 27 percent thought it was helping. In May 2008, 50 percent though trade was hurting and 26 percent thought it was helping.

Wednesday, May 21, 2008

Bush Administration: China does not manipulate its currency!

Despite the more than $1 trillion US dollars that the Chinese government has collected as a byproduct of their currency manipulations, the Bush administration reported to Congress that China does not manipulate its currency. Here's a selection from the Associated Press story by Martin Crutsinger from May 15:

In a report it is required to deliver to Congress every six months, the administration said China needed to address the "substantial undervaluation" of its currency compared with the dollar. But the report said China did not meet the technical requirements under the law to be designated as a currency manipulator....

Treasury Secretary Henry Paulson had hoped to use a new series of high-level talks with Chinese officials to get the country to move more quickly in addressing not only the currency issue but a number of other contentious trade issues. However, those talks so far have had only limited results....

The National Association of Manufacturers, one of the leading groups pushing the administration to take a tougher line on China, expressed disappointment that the administration had chose again to refrain from citing China as a currency manipulator, a designation that would trigger negotiations between the two countries over the issue.

"Everybody in the world knows that China is manipulating its currency," said Frank Vargo, NAM's vice president for international affairs. "Treasury is continuing to hide behind the fig leaf of contending it can't determine China's intent."...

China is a major holder of dollar-denominated investments such as U.S. Treasury securities, which it buys to keep the dollar from falling in value against the yuan....

Sen. Benjamin Cardin, D-Md., said he could not understand why the administration was not taking a tougher approach on the currency issue. Sen. George Voinovich, R-Ohio, said his constituents were "livid" about the China trade issue. He accused the administration of failing to get tough with Beijing because the administration wanted Chinese support for dealing with North Korea over nuclear weapons.

In a speech in Beijing, Commerce Secretary Carlos Gutierrez warned that Chinese and U.S. officials needed to guard against rising economic nationalism in both countries, calling it a "troubling trend" that threatened progress on building economic partnerships between the two countries.

Hat tip: American Economic Alert


Tuesday, May 20, 2008

The Alfred E. Newman Approach to Trade

Sometimes believing that something is true is enough to make someone think it is true. Even when the facts disagree.

Many economists believe that a decline in the dollar will lead to a drop in the U.S. trade deficit. And so in spite of the facts, they believe that it is happening. The only problem is... it isn't.

Today's example in a long line of similar misstatements comes from yesterday's WSJ column by C. Fred Bergsten of the Peterson Institute. Speaking of the costs of reduced trade negotiation authority for the president, Bergsten wrote:

We will lose billions of dollars worth of exports and the associated high-paying jobs – just at a time when improvements in our trade balance, fortified by continuing growth abroad and a highly competitive dollar, are cushioning our slowdown.

For the first quarter of 2008 the U.S. trade deficit was $210 billion. For the first quarter of 2007 the U.S. trade deficit was $202 billion. Improvement? What improvement?

So... why isn't the falling dollar helping the trade deficit? I can tell you in three letters: oil.

Factoring out petroleum, the trade deficit has been coming down. But the deficit in oil has been going up and up. Overall, it is a little bit worse than a wash.

Monday, May 19, 2008

McCain knows that China manipulates its currency, but thinks that talk can change that

Senator McCain has been advertising that his economic plan will be to negotiate new trade agreemenst in order to increase US exports. Here is what he said about trade with Asia on February 23, 2007:

As China, Japan, and the European Union pursue closer trade ties with the rest of Asia and among themselves, the United States should set the standard for trade liberalization in the region. We need to conclude the ongoing free trade negotiations with Thailand and Malaysia, and then expand these benefits to other ASEAN states, which together constitute America's fifth largest trading partner. India's economy may grow faster than China's in 2007, illustrating the importance of securing greater U.S. market access to this economy of a billion consumers. A new economic partnership initiative with Indonesia would help spur growth and strengthen market institutions in the world's largest Muslim country. And the U.S.-South Korea Free Trade Agreement, which is currently under negotiation, promises not only economic benefits - South Korea is our seventh largest trading partner - but political ones as well: a bilateral FTA will help give economic ballast to our strategic relationship and thereby strengthen America's security posture in Asia.

Completing FTAs with Thailand, Malaysia, and South Korea, in concert with the agreements we have already struck with Australia and Singapore, should set the stage for an ambitious Pacific-wide effort to liberalize trade. Such efforts have very tangible impacts. As this audience knows well, wheat farmers in eastern part of this state, fruit and vegetable growers throughout Washington, manufacturing giants like Boeing and software titans like Microsoft - all of them benefit from and depend on foreign markets. By concluding bilateral and regional trade agreements, by revitalizing the Doha round of global trade talks, and by ensuring that America stands on the cutting edge of global commerce, we can ensure that the benefits of open markets reach all 50 of our states.

And to talk about the Asian economies is to speak of China. I know some of our citizens fear the specter of Chinese economic growth, worrying that it will result in the loss of American jobs and the inability of our economy to compete. Others take the opposite view, trumpeting China's vast market potential, low labor costs, and exports, which allow American manufacturers to move up the value chain. America benefits from China's economic growth. But by the same token, its rising prosperity also raises legitimate expectations that China will behave as a responsible economic partner.

As Chinese businesses 'go global,' we must insist that they operate in an open, fair, and transparent manner, with sound, internationally-accepted standards for corporate governance. We should push Beijing to adopt a market-determined value for its currency, ensuring that trade is conducted on a level financial playing field. We need to convey to China that its go-it-alone approach to locking up energy supplies is unlikely to be either effective or sustainable, and that its environmental stewardship cannot fall prey to its economic ambitions.

In these cases, there is significant room for economic cooperation. The U.S. and China have a mutual interest in developing new and diverse energy supplies, improving energy efficiency, and developing environmentally sustainable energy alternatives. U.S. trade and investment in China's undeveloped rural areas can help create the broad-based growth Chinese leaders seek. China's rapidly aging society would benefit from U.S. private-sector involvement in building health care and pension systems, while Beijing's steps toward banking and financial reform will, if fully implemented, create new business opportunities for American companies. Finally, China's desire to construct a "knowledge economy" implies a mutual interest in protecting intellectual property and preventing counterfeiting.

As important as all these steps are, the future trajectory of our economies lies not only in effective economic policymaking, new business opportunities, and the management of financial risks. Security and economic growth are intimately connected, and a threat to peace is a threat to prosperity. The overarching security challenge in Asia today is to preserve and extend American leadership, and to do so in a way that promotes the emergence of freer and increasingly open societies.

I have boldfaced the relevant passage in the above quote. It shows that over a year ago, Senator McCain realized that China was manipulating its currency in order to steal American industry, but he thought that this strategy was a very small issue. Moreover, he didn't realize that every one of the Asian countries that he was mentioning were following the same strategy.

Apparently, he did not understand that these currency manipulations are the lynchpin of their mercantilist strategies, designed to increase their exports and restrict their imports with the United States so that they can steal our industries.

If all he is going to do is "push Beijing" to end this practice, he won't even succeed with China. His policy will end in failure, just as President Bush's "jawboning" ended, just a little over a month ago, in complete and utter failure.

Incidentally, this quote suggests the possibility that McCain doesn't even realize that the yuan-dollar currency exchange rate is already determined by markets. If it weren't, there would be a currency black market. The Chinese government buys a massive amount of dollars in order to manipulate the prices of the two currencies. It may be true that he doesn't understand economics.

The key is not flexible exchange rates. The key is a gradual end to Chinese government dollar purchases. The Japanese government allows a completely flexible exchange rate between the yen and the dollar, but still manages to manipulate that exchange rate by buying massive amounts of dollars.

The only way to prevent all of the Asian currency manipulations, as well as their other restrictions on their imports of American-made products, is to impose Import Certificates on every country that has been accumulating dollar reserves. Otherwise, the mercantilist governments would continue to manipulate exchange rates in order to expand their exports while limiting their imports from the United States.


Saturday, May 17, 2008

Bush's administration's jawboning trade policy with China ends in utter failure

For the past several years, the Bush administration has been telling US manufacturing industries to just be patient. The Chinese government, who tightly controls the price of the dollar in terms of the yuan, would strengthen the yuan versus the dollar.

Indeed the Chinese government did respond to Bush administration "jawboning" by strengthening the yuan versus the dollar a bit, but not enough to actually cause our trade deficit with China to improve. Instead the trade deficit continued to worsen. On March 20, the Chinese government stopped strengthening the yuan as shown by the graph at the following website:

This graph shows that China has stopped complying with the Bush administration's request that it strengthen the yuan vs. the dollar. Bush's "jawboning" with China has thus ended in complete and utter failure.

It is not clear whether the Chinese ended their compliance with Bush's strategy in defiance of the Bush administration or whether the Bush administration themselves asked China to give up that policy.

Whatever the reason, the result is predictable. The Chinese will steal American industries at an even faster rate for a while.


Friday, May 16, 2008

GE is planning to sell its appliance division to the highest bidder

General Electric is planning to sell off its appliance division to the highest bidder. The most likely candidate is a Chinese firm, though there are other suitors, all of them foreign.

The likely outcome is the loss of 300,000 more US manufacturing jobs when the Chinese firm moves GE's appliance production to China while holding onto GE's US market share, probably using the GE brand name.

If Import Certificates were on the horizon, then GE would be keeping this division. It would be anticipating that increased sales to China would make up for its falling sales in the United States. Instead, more American workers will get laid off, foreigners will get GE's market share in the US appliance market, and the US economy will continue its current stagnation.


Thursday, May 15, 2008

Summers Sometime Solutions

Two recent columns by Lawrence Summers in the FT argue for a readjustment of global priorities concerning trade. Summers begins by noting the shifts in public sentiment.

In the first column Summers notes that

making the case that trade agreements improve economic welfare might no longer be sufficient to maintain political support for economic internationalism in the US and other countries. Instead, I suggested that opposition to trade agreements, and economic internationalism more generally, reflected a growing recognition by workers that what is good for the global economy and its business champions was not necessarily good for them, and that there were reasonable grounds for this belief.

Summers column marks a marked retreat from the position of most economists. Perhaps he no longer belongs in the ostriches camp from Chapter 3 of Trading Away Our Future.

In the second column Summers highlights the importance of domestic capital investment to prosperity:

The most important reason for doubting that an increasingly successful, integrated global economy will benefit US workers (and those in other industrial countries) is the weakening of the link between the success of a nation’s workers and the success of both its trading partners and its companies.... Part of the reason why US workers (or those in Europe and Japan) enjoy high wages is that they are more highly skilled than most workers in the developing world. Yet they also earn higher wages because they can be more productive – their effort is complemented by capital, broadly defined to include equipment, managerial expertise, corporate culture, infrastructure and the capacity for innovation.... in an open economy ... Workers no longer have the same stake in productive investment by companies as it becomes easier for corporations to combine their capital with lower priced labour overseas.

Summers solutions are arguably steps in the right direction, though they don't go very far. They focus on taxes and regulation:

First, the US should take the lead in promoting global co-operation in the international tax arena. There has been a race to the bottom in the taxation of corporate income as nations lower their rates to entice business to issue more debt and invest in their jurisdictions. Closely related is the problem of tax havens that seek to lure wealthy citizens with promises that they can avoid paying taxes altogether on large parts of their fortunes. It might be inevitable that globalisation leads to some increases in inequality; it is not necessary that it also compromise the possibility of progressive taxation.

Summers does not note that the US is one of the larger such tax havens for non-resident foreigners. Because we abolished the withholding tax in the 1980s, almost all income earned by such individuals from US investments is tax free. Because the US treasury does not even report this income to foreign governments, avoiding taxes in their home countries is very easy. One of the negative consequences of this has been the trade deficits, which contribute to the disconnect between economic internationalism and the interests of US workers. The US can take unilateral action to reduce the impact of such shelters on the US economy, and it ought to do so.

Second, an increased focus of international economic diplomacy should be to prevent harmful regulatory competition. ... There has not been enough serious consideration of the alternative – global co-operation to raise standards. While labour standards arguments have at times been invoked as a cover for protectionism, and this must be avoided, it is entirely appropriate that US policymakers seek to ensure that greater global integration does not become an excuse for eroding labour rights.

This might help, and may be worth working towards. However, it is a long-horizon solution at best.