Let them eat dollars

You have to love the Chinese. No sooner had Standard and Poors downgraded U.S. debt than Beijing let loose with a huge scold about how Ameica has to get its debt under control.

Normally I’d be lambasting Uncle Sam right along with the Chinese. For more than thirty years I have been urging that U.S. incentives to save and spend be reversed in an effort to weaken the dollar, reduce the U.S. trade deficit, and increase domestic investment, production, and jobs. But in this case, I just can’t allow the Chinese gall to go unremarked even though their criticism is technically valid.

I mean, let’s get real. Even as they were scolding, the Chinese authorities were in the market buying billions of dollars worth of U.S. Treasury debt. And why are they doing this? Well, there are complex reasons, but a main one is to keep their own currency undervalued as a kind of export subsidy. By buying U.S. Treasuries, China’s leaders are pushing up the value of the dollar versus the yuan and thereby making U.S. exports more costly and U.S. imports of Chinese goods and services less expensive. In effect, they are devaluing their own currency.

This behavior by China has tended to depress U.S. interest rates, subsidize U.S. consumption, and remove any disadvantage to the United States of its over-consumption. In short, China has done everything it can to encourage and induce just the behavior it is now urging Washington to halt.

No one is forcing the Chinese to buy dollars and treasuries, and a sure way to force Washington to become more serious about prudent fiscal behavior would be for China to halt its buying. But it doesn’t and it won’t. Not only does China constantly accumulate dollars as a result of the trade surpluses its weak yuan policies induce, but, unlike most countries, China’s dollars all wind up being held by the government because Beijing does not allow private citizens and corporations to hold the dollars they earn. Rather they have to turn them over to the government in return for yuan. Thus, just as the United States, over-consumes, China chronically under-consumes as an essential element of its long term, export led economic growth strategy.

Indeed, China’s consumption is not only abnormally low as a percent of GDP, but the rate has been falling as China rushes to invest ever more as the tried and true way of maintaining economic growth rates.

The rest of the world, including the G-20, the International Monetary Fund, the World Bank, and most of the world’s leading economists have urged China to let the value of the yuan rise and to shift toward more domestic consumption led growth patterns. But China has refused, preferring instead to continue playing the mercantilist game.

China must know that if it insists on running chronic and enormous trade surpluses, the value of its dollar holdings must fall. In effect , what China is doing is suppressing consumption which is transformed into dollar holdings in the hands of the Chinese government. Beijing is transferring funds from the household sector to the investment and government sectors.

Thus, if China really wants to assure the value of its dollar holdings, it should reverse this policy. In short, it should let the people eat some of its accumulated dollars. Hence, I, at least, say "let them (the Chinese) eat dollars."