Between the House passing the China currency bill (and I think the Senate may as well) and various politicians pushing for a foreclosure moratorium, one has to wonder what sort of politics/policy another year of 9-10% unemployment will generate. I am guessing China will finally emerge as the new bipartisan big bad for U.S. politics (more for economic than military reasons), while there will probably a flurry of new housing ideas like this one proposed by economist Glenn Hubbard.
Politics and policy from inside Washington
Here is what James Carville and Stan Greenberg want Democrats to say about trade to voters (Via Sean Higgins at Investor’s Business Daily:
My passion is “made in America,” working to support small businesses, American companies and new American industries. (REPUBLICAN HOUSE CANDIDATE) has pledged to support the free trade agreements with Colombia, Panama, and South Korea and protect the loophole for companies outsourcing American jobs. I have a different approach to give tax breaks for small businesses that hire workers and give tax subsidies for companies that create jobs right here in America.
This leads to the final question: how might China be cajoled or coerced into changing its policies? Negotiation remains a hope. The rest of Group of 20 leading countries should unite in calling for these changes. But if negotiation continues to fail, alternatives must be considered. Import surcharges are one possibility. Fred Bergsten of Washington’s Peterson Institute called for countervailing currency intervention in the FT this week; and Daniel Gros of the Centre for European Policy Studies in Brussels recommends capital account reciprocity: affected countries could prevent other countries from purchasing their financial instruments, unless the latter offered reciprocal access to their financial markets. This idea would also make the Bergsten plan more effective.
I find ideas for intervention in capital markets far more attractive than those involving action against trade, as the US House of Representatives proposed last week. First, action on trade would have to be discriminatory: there is no reason to attack all imports, merely to change Chinese behaviour. But this would almost certainly be a violation of the rules of the World Trade Organisation. A trade war would be very dangerous. Insisting that China stop purchasing the liabilities of other countries so long as it operates tight controls on capital inflows is, instead, direct and proportionate and, above all, moves the world towards market opening.
Some fear that a cessation of Chinese purchases of US government bonds would lead to a collapse. Nothing is less likely, given the massive financial surpluses of the private sectors of the world and the continuing role of the dollar. If it weakened the dollar, however, that would be helpful, not damaging.
Me: In addition, China is losing big US multinationals and the GOP, both key members of the old free-trade lobby. This will be a major US political issues next year with unemployment continuing to stay an elevated levels.
My pal Don Luskin gets it just right in the WSJ today: America is wrong on both taxes and trade.
All else being equal, if the Bush tax cuts don’t get extended, that’s a 2.3% hit to 2011 GDP. That means instant double-dip recession, starting at midnight, Dec. 31. … Now to protectionism. Last week the House passed the Currency Reform for Fair Trade Act. … The bill, if passed by the Senate and signed by the president, would mandate that the Department of Commerce take a foreign country’s currency interventions into account in determining whether its trading practices are unfair. In the case of China—the target at which this bill is aimed—Commerce would determine that the amount by which the yuan is allegedly undervalued. … Surely China would retaliate. That makes the bill a nuclear threat of mutual assured economic destruction. If carried out, it would crush trade between China and the United States, which are huge export markets for each other.
As Luskin also points out, a rising yuan is no silver bullet — there’s lots of risk with little potential reward. Along with the tax increases, Washington is amazingly anti-growth right now. Instead, they need to make growth the new government initiative.
Looking for some bipartisan solutions to America’s economic problems?
Well, I just read a great book on U.S. economic policy that is definitely worth checking out: “Seeds of Destruction” written by Glenn Hubbard and Peter Navarro. Hubbard is the former head of the Council of Economic Advisers under George W. Bush and is now dean of Columbia Business School. Navarro, a Democrat, is a business professor at the University of California, Irvine and author of ”The Coming China Wars.”
Here are some excerpts of a chat I recently had with Navarro. (Later this week, I will post my interview with Hubbard.):
What’s wrong with the policy ideas coming out of Washington?
The Democrats are infatuated with the idea of using fiscal and monetary policies to spend our way to prosperity. And the Republicans have long been infatuated with the idea that the only way you can get to where we need to go is to cut taxes. And both of these solutions either don’t work or are too simplistic or both.
How must our economic approach to China change?
We identify a set of mercantilist and protectionist policies that China engages in to gain a competitive advantage, not just over American manufacturers, but manufacturers throughout the world. And our whole policy thrust is constructive trade reform with China. I think the big ones are the export subsidies they continue to engage in despite [World Trade Organization] prohibitions, the undervalued currency is certainly a big one, the intellectual property issue, and of course when you are competing with a nation that has very lax environmental and health and safety standards, that is difficult as well.
So if you are going to engage in trade reform on the mercantilist side, you need to deal with all of those things. At the same time, there are protectionist measures that China now engages in, things like non-tariff barriers such as forced technology transfer as a condition of entry into a market, and things like forced offshoring of research and development — all of which are prohibited under free trade rules.
What has gone wrong with the U.S.-China policy?
My own view is that the Bush administration wasn’t watching China because of their free market ideology. And the Obama administration thinks they need China’s money to finance their budget deficits. I think that is a really bad bargain. At some point, the White House has got to acknowledge that these are really important issues and that simply relying on China to voluntarily go forward isn’t working.
So what should we do?
If I were Tim Geithner, I would fly over without any public announcements or press at all — a secret mission to China — and sit down with the “powers that be” over there and say, “Look, for both political and economic reasons, we can no longer tolerate this, but we do not want to confront you publicly on it. And unless you deal with this, then we are going to have to take these steps. We don’t mean to impugn your honor or integrity, but that is what is going to happen. And then I would go back home and see what happens, but not breathe a word of that to the press.
And if they don’t play ball?
Brand them a currency manipulator. And as I have written before, all you need is simple bill in Congress that says we will trade with anyone that abides by rules of free trade and leave it at that. Don’t mention China or anyone else. There is a legitimate difference between taking measure for self defense vs. engaging in protectionism. If China dumps goods in the U.S. that are substantially below costs and countervailing duties are imposed, that is not protectionism. That is self defense. A lot of Republicans seem to not quite understand that free trade does not mean export subsidies and an undervalued currency and things like that. And Democrats, with things like “buy American,” drive me nuts, too.
Many economists contend that China needs to consume more and move beyond export-driven growth. Does China see it that way?
The people in power have seen China prosper with these “beggar-thy-neighbor” policies. But what we are advocating is in as much their interest as ours.
Were there any areas of sharp disagreement while co-authoring the book?
We began at the outset seeking a middle ground, and I think once you’ve analyzed the problem, the solutions become, if not obvious, then kind of evident and it makes it easier to figure out what to do. We really never had a substantive disagreement on anything.
What does China’s new currency policy mean in terms of efforts in Congress to pass an anti-China currency bill? Here is some of what some smart people told me. First Gary Hufbauer of the Peterson Institute for International Economics:
1. The Chinese decision ratifies the forecast I made a while back — announcement of “flexibility” prior to G20 confabs.
2. This will take the heat off Geithner and put the Schumer bill on the back burner. Schumer and Geithner can both claim victory.
3. Going forward, my expectation is that “flexibility” will translate into RMB apprecition against the dollar of around 0.5% per month, for a cumulative appreciation not more than 15% over the next two years.
4. As the euro weakens against the dollar, China will claim (rightly) that its real effective XR is also appreciating, and that takes some of the edge off of pressure to appreciate the RMB against the dollar.
5. My guess is that other Asian countries will appreciate against the dollar as well, but less than China.
Next up is the Philip Levy of the American Enterprise Institute:
1. To me, the puzzle is why they did not do this back in February. The move relieves a great deal of the pressure on the Chiense to revalue and they incur minimal costs in terms of export sector pressure. The only position that really united the bulk of Western critics was that Chinese stasis on currency was unacceptable. As soon as this becomes a debate over the appropriate rate of appreciation, the critics will split.
2. There will certainly be continued criticism. It is highly unlikely that China will appreciate much faster than the 6 percent annual rate they followed from 2005-2008. That’s not going to deliver the millions of jobs that Fred Bergsten, Paul Krugman, and the Economic Policy Institute have been promising. Those critics were talking about a 25-40 percent appreciation all taking place while the United States is in a liquidity trap. I never bought their premise, but if you did, time was of the essence.
3. I doubt Sen. Schumer or Chairman Levin will be satisfied with a steady but minimal rate of yuan appreciation, but it should certainly reduce pressure on Secretary Geithner to name China a currency manipulator.
4. And, of course, it will be interesting to see whether the Obama administration will take a firm stand. If they threatened a veto, it would be the first time they’d blocked a measure because of anti-trade content within (going back to Buy America and Mexican trucks). My understanding was that Schumer had hoped to attach the provision to must-pass legislation anyways. I would be thrilled to see the Obama administration take such a firm stand, but surprised as well.
Me: Beijing’s currency concession might temporarily defuse Capitol Hill critics who want to limit imports. But it won’t dispel them. With American unemployment high and congressional elections just months away, China is just too convenient an economic scapegoat. Only if PetroChina oil was fouling the Gulf of Mexico right now could China be a more tempting political target. Trade relations are sure to remain contentious.
This is from the New York Times is important (as outlined by me):
1) A stronger renminbi could prove a mixed blessing for the United States. If China cuts back sharply on purchases of Treasuries, then the Obama administration could find it harder to finance American budget deficits.
2) But with the Chinese economy booming, a small move in the renminbi may still leave the central bank struggling with trade surpluses and a tide of speculative investment into China. That could force it to continue buying Treasuries with the extra dollars.
3) A slightly stronger renminbi that fluctuates each day against the dollar will mainly hurt low-margin, labor-intensive industries in China like shoes and textiles, they said. Many Beijing officials have been worried about job losses in these industries if the currency appreciates. Much of this production is already starting to move out of China, notably to Vietnam and Bangladesh, where labor costs have stayed low. And Chinese factories producing these goods have been struggling to find enough workers in the last two months as the economy grew powerfully this winter, stoked by heavy bank lending, strong demand for workers in the retail sector and rising government spending on high-speed rail lines and other infrastructure investments.
4) More high-tech industries, like the production of computers, have tended to favor a stronger renminbi. Further migration of labor-intensive industries to other countries could free up more workers for high-tech work, making it it cheaper for these industries to import materials that are priced in dollars. Such a development would create more Chinese competition for high-tech operations in America, however.
Me: I certainly don’t think the Obama administration views this is a silver bullet for the U.S. economy or the elevated levels of unemployment. More like it might help at the margins. The real benefit of appreciation is avoiding a highly destructive trade war.
Our more aggressive bidders use a crude approach. They look at the trade gap, assume that every billion dollars of trade deficit equates with a certain number of jobs, and multiply. Fair, in contrast, uses years of data to estimate a detailed model of how the global economy works. Then he reruns the model under the assumption of a 25 percent appreciation in China’s exchange rate. His model contains the same effects that the others rely on—increased demand for U.S. goods as Chinese imports become more expensive. But he sees offsetting effects as well: decreased Chinese output and imports; increased U.S. prices; decreased U.S. wealth and wages; increased U.S. interest rates. He finds the latter effects more than outweigh the former.
Heartened to hear the words of Google co-founder Sergey Brin in the WSJ:
China has “made great strides against poverty and whatnot,” Mr. Brin said. “But nevertheless, in some aspects of their policy, particularly with respect to censorship, with respect to surveillance of dissidents, I see the same earmarks of totalitarianism, and I find that personally quite troubling.”
Me: I especially like the “whatnot” part. Prosperity is important. But so is freedom. And the West waits for China to make as much progress with political freedom as it has with economic freedom — though even the latter has a long way to go. More change will come, especially as this generation of leadership passes
Emerging markets (esp. Mexico, Russia, China) that may become emergency markets due to social unrest, according to the Economist: