hours after I reported Chinas announcement
that China, not the Federal Reserve, controls US interest rates
by its decision to purchase, hold, or dump US Treasury bonds,
the news of the announcement appeared in sanitized and unthreatening
form in a few US news sources.
Post found an economics professor at the University of Wisconsin
to provide reassurances that it was "not really a credible
threat" that China would intervene in currency or bond markets
in any way that could hurt the dollars value or raise US
interest rates, because China would hurt its own pocketbook by
Secretary Henry Paulson, just back from Beijing, where he gave
China orders to raise the value of the Chinese yuan "without
delay," dismissed the Chinese announcement as "frankly
professor and the Treasury Secretary are greatly mistaken.
understand that the announcement was not made by a minister or
vice minister of the government. The Chinese government is inclined
to have important announcements come from research organizations
that work closely with the government. This announcement came
from two such organizations.
economists make a mistake
in their reasoning when they assume
that China needs large reserves
of foreign exchange. China does not
need foreign exchange reserves
for the usual reasons of supporting
its currency's value and paying
its trade bills. China does not allow
its currency to be traded in
currency markets. Indeed, there are
not enough yuan available to trade.
A high official
of the Development Research Center, an organization with cabinet
rank, let it be known that US financial stability was too dependent
on Chinas financing of US red ink for the US to be giving
China orders. An official at the Chinese Academy of Social Sciences
pointed out that the reserve currency status of the US dollar
was dependent on Chinas good will as Americas lender.
two officials said is completely true. It is something that some
of us have known for a long time. What is different is that China
publicly called attention to Washingtons dependence on Chinas
good will. By doing so, China signaled that it was not going to
be bullied or pushed around.
made no threats. To the contrary, one of the officials said, "China
doesnt want any undesirable phenomenon in the global financial
order." The Chinese message is different. The message is
that Washington does not have hegemony over Chinese policy, and
if matters go from push to shove, Washington can expect financial
talk tough, but the Treasury has no foreign currencies with which
to redeem its debt. The way the Treasury pays off the bonds that
come due is by selling new bonds, a hard sell in a falling market
deserted by the largest buyer.
solace in his observation that the large Chinese holdings of US
Treasuries comprise only "one days trading volume in
Treasuries." This is a meaningless comparison. If the supply
suddenly doubled, does Paulson think the price of Treasuries would
not fall and the interest rate not rise? If Paulson believes that
US interest rates are independent of Chinas purchases and
holdings of Treasuries, Bush had better quickly find himself a
new Treasury Secretary.
lets examine the University of Wisconsin economists
opinion that China cannot exercise its power because it would
result in losses on its dollar holdings. It is true that if China
were to bring any significant percentage of its holdings to market,
or even cease to purchase new Treasury issues, the prices of bonds
would decline, and Chinas remaining holdings would be worth
less. The question, however, is whether this is of any consequence
to China, and, if it is, whether this cost is greater or lesser
than avoiding the cost that Washington is seeking to impose on
economists make a mistake in their reasoning when they assume
that China needs large reserves of foreign exchange. China does
not need foreign exchange reserves for the usual reasons of supporting
its currencys value and paying its trade bills. China does
not allow its currency to be traded in currency markets. Indeed,
there are not enough yuan available to trade. Speculators, betting
on the eventual rise of the yuans value, are trying to capture
future gains by trading "virtual yuan."
notion that China cannot
exercise its power without losing
its US markets is wrong.
American consumers are as
dependent on imports of
manufactured goods from China
as they are on imported oil.
In addition, the profits of US
brand name companies are
dependent on the sale to Americans
of the products that they make
in China. The US cannot,
in retaliation, block the import
of goods and services from China
without delivering a knock-out
punch to US companies
and US consumers.
reason is that China does not have foreign trade deficits, and
does not need reserves in other currencies with which to pay its
bills. Indeed, if China had creditors, the creditors would be
pleased to be paid in yuan as the currency is thought to be undervalued.
support of the Treasury bond market, Chinas large holdings
of dollar-denominated financial instruments have been depreciating
for some time as the dollar declines against other traded currencies,
because people and central banks in other countries are either
reducing their dollar holdings or ceasing to add to them. Chinas
dollar holdings reflect the creditor status China acquired when
US corporations offshored their production to China.
Reportedly, 70 per cent of the goods on Wal-Marts shelves
are made in China. China has gained technology and business knowhow
from the US firms that have moved their plants to China. China
has large coastal cities, choked with economic activity and traffic,
that make Americas large cities look like country towns.
China has raised about 300 million of its population into higher
living standards, and is now focusing on developing a massive
internal market some four to five times more populous than Americas.
notion that China cannot exercise its power without losing its
US markets is wrong. American consumers are as dependent on imports
of manufactured goods from China as they are on imported oil.
In addition, the profits of US brand name companies are dependent
on the sale to Americans of the products that they make in China.
The US cannot, in retaliation, block the import of goods and services
from China without delivering a knock-out punch to US companies
and US consumers.
China has many markets and can afford to lose the US market easier
than the US can afford to lose the American brand names on Wal-Marts
shelves that are made in China. Indeed, the US is even dependent
on China for advanced technology products. If truth be known,
so much US production has been moved to China that many items
on which consumers depend are no longer produced in America.
the yuan pegged to
the dollar, China can dump
dollars without altering the
exchange rate between the yuan
and the dollar. As the dollar falls,
the yuan falls with it.
Goods and services produced in
China do not become more
expensive to Americans, and they
become cheaper elsewhere.
By dumping dollars, China expands
its entry into other markets and
accumulates more foreign currencies
from trade surpluses.
consider the cost to China of dumping dollars or Treasuries compared
to the cost that the US is trying to impose on China. If the latter
is higher than the former, it pays China to exercise the "nuclear
option" and dump the dollar.
The US wants
China to revalue the yuan, that is, to make the dollar value of
the yuan higher. Instead of a dollar being worth 8 yuan, for example,
Washington wants the dollar to be worth only 5.5 yuan. Washington
thinks that this would cause US exports to China to increase,
as they would be cheaper for the Chinese, and for Chinese exports
to the US to decline, as they would be more expensive. This would
end, Washington thinks, the large trade deficit that the US has
of thinking dates from pre-offshoring days. In former times, domestic
and foreign-owned companies would compete for one anothers
markets, and a country with a lower valued currency might gain
about half of the so-called US imports from China are the offshored
production of US companies for their American markets. The US
companies produce in China, not because of the exchange rate,
but because labor, regulatory, and harassment costs are so much
lower in China. Moreover, many US firms have simply moved to China,
and the cost of abandoning their new Chinese facilities and moving
production back to the US would be very high.
these costs are considered, it is unclear how much China would
have to revalue its currency in order to cancel its cost advantages
and cause US firms to move enough of their production back to
America to close the trade gap.
the shortcomings of the statements by the Wisconsin professor
and Treasury Secretary Paulson, consider that if China were to
increase the value of the yuan by 30 per cent, the value of Chinas
dollar holdings would decline by 30 per cent. It would have the
same effect on Chinas pocketbook as dumping dollars and
Treasuries in the markets.
also, that as revaluation causes the yuan to move up in relation
to the dollar (the reserve currency), it also causes the yuan
to move up against every other traded currency. Thus, the Chinese
cannot revalue as Paulson has ordered without making Chinese goods
more expensive not merely to Americans but everywhere.
result with China dumping dollars. With the yuan pegged to the
dollar, China can dump dollars without altering the exchange rate
between the yuan and the dollar. As the dollar falls, the yuan
falls with it. Goods and services produced in China do not become
more expensive to Americans, and they become cheaper elsewhere.
By dumping dollars, China expands its entry into other markets
and accumulates more foreign currencies from trade surpluses.
the non-financial costs to Chinas self-image and rising
prestige of permitting the US government to set the value of its
currency. Americas problems are of its own making, not Chinas.
A rising power such as China is likely to prove a reluctant scapegoat
for Americas decades of abuse of its reserve currency status.
and government officials believe that a rise in consumer prices
by 30 per cent is good if it results from yuan revaluation, but
that it would be terrible, even beyond the pale, if the same 30
percent rise in consumer prices resulted from a tariff put on
goods made in China. The hard pressed American consumer would
be hit equally hard either way. It is paradoxical that Washington
is putting pressure on China to raise US consumer prices, while
blaming China for harming Americans. As is usually the case, the
harm we suffer is inflicted by Washington.
Paul Craig Roberts was Assistant Secretary of the Treasury in
the Reagan administration. He was Associate Editor of the Wall
Street Journal editorial page and Contributing Editor of National
Review. He is coauthor of The
Tyranny of Good Intentions. He can be reached at: [email protected]
articles by Paul Craig Roberts:
In The Hole To China
A Free Press Or A Ministry Of Truth?