Dear Button-Woods

This post is in response to some recent clamor amongst my relatives over the exact "threat" that the US economy faces from China. Below is a rather chunky extract from my paper on the comprehensive "China threat" (full version here). This excerpt argues that the the Chinese and US economies are highly interdependent and with significant room for complimentary growth. It is worth noting that in sector by sector terms, the US's largest competitors in like-value goods are Japanese and German manufacturers.

Extract from "BRINGING TOO MUCH TO THE TABLE: THE US RESPONSE TO THE THREAT OF CHINA 2010"

In recent months prominent US politicians and economists have expressed fears of a mercantilist turn in Chinese foreign policy and the possibility of the strategic use of currency, trade and investment flows by China to sabotage the US economy. However to a great degree such fears fail to take into account the economic interdependency of the two powers and the CCP regime’s political investment in global economic stability and growth. Indeed some analysts accuse the US of ‘talking shop’ at the dinner table of traditional security – muddying the waters of the traditional Sino-US strategic dialogue on East Asia with non-traditional security considerations.

Trade and Currency

In the deconstruction of the US response to these new threats this paper will first address the issue of Sino-US currency flows. Over the last decade or so since the 1997 Asian Financial Crisis, East Asian states have looked to build monetary autonomy and financial insulation through the procurement of foreign currency reserves – in particular the US dollar (Cohen 2008). China’s dramatic growth in trade competitiveness over this period was to a large degree dependent on the ‘New Bretton-Woods System’ (Wu, 2006). Chinese officials pinned the Renminbi to the US dollar at an arguably undervalued fixed exchange rate that kept export prices low and attracted foreign direct investment (FDI). In the wake of the Global Financial Crisis the issue of China’s burgeoning trade surplus with the US has become intertwined with debates over Chinas alleged currency manipulation. Political candidates in the US have taken to ‘China-bashing’ – claiming that job losses in the rust-belt are due to outsourcing to China (most have gone to other states) (Strasser, 2010). These claims are premised on the belief that an undervalued Renminbi is responsible for weak US export volumes and the trade deficit with China. However in March this year Professor Niall Ferguson of Harvard University testified to the House Ways & Means Committee that the main beneficiaries of the ending the renminbi/dollar peg would not be the US, but China’s trade competitors in emerging markets (Committee on Ways and Means, 2010). Ferguson also added that there was not only a danger of a “trade war or tariff war” akin to the ‘beggar thy neighbour’ competitive currency depreciations of the great depression but also a danger of a “currency war” (Committee on Ways and Means, 2010). Despite Professor Ferguson’s warnings, on the 29^th of September the House of Representatives passed legislation approving extensive tariff powers on Chinese imports – yet to be approved by the senate (Sanger & Chan, 2010).

In contrast to the US, Japan has made efforts to recognize the interdependence of its economy and that of China. Talking in a press conference in a call for practical steps to repair Sino-Japanese relations post the September ‘trawler incident’, Japanese Chief Cabinet Secretary Yoshito Sengoku declared “the world economy has become one and is mutually interdependent. This is not just a risk for Japan” (Sieg, 2010). It should be noted that China’s exceptional export-orientated economic development has thus far been highly dependent on a stable world system built on the “rules and norms of non-discrimination and market openness” (notably under the WTO since 2001) (Ikenberry, 2008). Furthermore the legitimacy of Communist Party rule in China, particularly along the coastal provinces, has been greatly buoyed by consistent economic development. Hence it must be asked to what degree the Chinese ‘economic threat’ is the product of the ignorance and political manipulations of US officials.

Investment

Since the decline of the US economy post-9/11 China’s trade surplus with the United States has soared while it also accumulated vast sums of US dollar reserves in the form of US securities and debt. The result is that China now holds in reserve approximately $1.3 trillion US dollars which could potentially be used strategically (via mass sell-out) to “threaten manipulation of the value or stability” of the US dollar (Cohen, 2008, p 462). The Obama administration has thus far refrained from making any official statements on the risk of a currency war, although public discussion is running rampant. US lobbyist groups such as ‘Citizens Against Government Waste’ have funded television scare campaigns characterizing Chinese held US-debt as the first step in the ‘fall of the US’ (Goldkorn, 2010). Such developments are evidence of a deep suspicion in the United States of China’s declared peaceful development ambitions. In response China has recently gone to unusual lengths to publically express its side of the argument. On the 23^rd of September Premier Wen Jiabao took the unprecedented step of an interview with CNN in which he expressed his hope for a quick US economic recovery (Barbara, 2010).

In addition to the above attempts at reassurance by China, there exist several major reasons why the threat of a currency war is highly unlikely to ever be fulfilled. Firstly, any depreciation in the dollar entails significant losses for China in terms of the decline in value of the reserve holdings of US dollars. This fact is well recognized by the Chinese and evidenced by the substantial increase in foreign purchases of U.S. Treasury securities from $156.8 billion in 2007 to $307.6 billion in 2008 (U.S. Department of Commerce, 2009). Such an increase was despite a drop in net foreign purchases of U.S. stocks from $182.4 billion to just $6.9 billion and of corporate bonds from $372.1 billion to $0.6 billion. Secondly, Chinese exporters are still heavily reliant on US consumption and therefore are unlikely to endorse any currency manipulations that will cripple their largest market (Conaway, 2009). Thirdly, despite recent US protests that the Renminbi is still ‘unfairly’ undervalued, continued upward revaluation of the Renminbi is the most likely future trend given the threat of inflation to the Chinese economy (China Stakes, 2009). Between 2004 and 2005 domestic monetary supply increased 14 per cent, loans expanded at 11 per cent, housing prices 10 per cent and land rent 8 per cent (Wu, 2006, p 36). In the long term such contagious monetary ‘overheating’ produces dangerous overcapacity in industry and speculative bubbles (the consequences of which East Asia felt in 1997 – something China will surely try to avoid). Hence China is not committed to propping up the dollar relative to the Renminbi indefinitely. Rather, China’s interests lie in maintaining a high value for the dollar globally and keeping the US economy (and consumption) in reasonable health.

Foreign Direct Investment

A final point of consideration to be made in assessing the Chinese ‘economic’ threat is the significance of Chinese and US investment flows. From 2003 onwards China has found an opportunity to make active use of its $2.27 trillion in foreign currency reserves by encouraging its firms to ‘go global’. Through the extension of government loans, Chinese SOEs have engaged in a strategic buyout of assets crucial to China’s future development; notably producers of coal, oil and iron ore in the developing world (notably – Nigeria, Angola and Brazil) (Cheng & Ma, 2007). Most recently China has made its first drive into the US energy market through the SOE China National Offshore Oil Corporation (CNOOC) with the purchase of four exploitation licenses in the Gulf of Mexico from Norweigan energy group Statoil (Sydney Morning Herald, Nov 4, 2009). The global financial crisis has only intensified this buyout process as multinational corporations run short of credit supply. Whether or not this outward FDI growth is part of a long-term mercantilist strategy to monopolize resource flows cannot yet be determined. It should be noted that given predictions of the growth in Chinese demand for these resources such investment is still consistent with a ‘peaceful rise’ thesis (Zheng, 2007). China’s youthful sovereign wealth cannot be invested in domestic assets without causing uncontrollable inflation. Furthermore, the amount of FDI inflow to China – of which the US, Germany and Japan are the greatest contributors, continues to dwarf Chinese outflows of FDI. Hughes & Hale claim that inward FDI may still be as high as 40% of China’s GDP (2003, p 38).

US discomfort with the idea of growing Chinese economic prowess may be to a great extent attributable to a fear of being ‘locked out’ of Asian trade and economic development. The establishment of a number of significant inter-Asian trade agreements including the China-ASEAN Free Trade Agreement (2010), Japan-ASEAN FTA (2008) and China-Taiwan Economic Cooperation Framework Agreement (2010) have produced an image of increasing Asian economic cooperation and interdependence (Economist, 2010, July, Vietnam News Agency, 2008). Joshua Cooper Ramo goes so far as to argue China is presenting an alternative development model or “Beijing Consensus” in which there is “no hegemonism, no power politics, no alliances and no arms races” only a binding economic order that will ultimately secure China’s dominance (Ramo, 2004, p 43). However economist Paul Krugman argues that, despite the publicity of US complaints, the ‘undervalued’ Renminbi does greatest harm to the smaller exporting nations of East Asia by ‘unfairly’ sapping FDI and export market share (2009). There is a limit to the ability of China’s neighbouring exporters to restructure around Chinese growth and although complementarities do exist “there may not be unlimited room for them to grow” (Albaladejo & Lall, 2004, p 145). In particular the US market for medium and high tech machine goods is increasingly dominated by Chinese exports at great cost to high-tech specialist nations Korea, Taiwan and Singapore. To this extent Chinese preferences for export market share increasingly threaten other middle-tier exporters rather than the US. Chinese exports are only a threat to the US to the extent that American producers continue to produce low-tech labour-intensive goods. It should also be noted that US companies continue to gain from savings in production costs by investing in China.

In many respects the securitization by elements of US politics of trade, investment and currency relations with China is not only ill-founded by detrimental to US interests. Such claims, when considered in the context of Sino-US security tensions in the South China Sea as well as recent calls by President Obama for the release of Nobel Peace Prize winner and dissident Liu Xiaobo, risk creating the perception of an ‘anti-China’ stance by the US. If US policy makers continue to criticize Chinese government behaviour on so many issues they are likely to sour relations as a whole and inhibit progress on any one front.