Each time the China currency issue erupts, I like to repost my articles on the topic:
“Geithner is Exactly Wrong on China Trade” – The Wall Street Journal. January 26, 2009.
“An End to Currency Manipulation” – Far Eastern Economic Review. March 26, 2008.
“The Elephant in the Barrel” – The Wall Street Journal. August 12, 2006.
“Money and the Middle Kingdom” – September 24, 2003.
See our new commentary in RealClearMarkets looking beyond the Google-China dustup: “The Internet is the U.S./China’s new Dollar/Yuan.”
With the China currency question once again in the news, I’m reposting my Wall Street Journal article from early 2009. (For a much longer treatment, see this paper.)
THE WALL STREET JOURNAL / January 26, 2009
The dollar-yuan link has been a great boon to world prosperity
by BRET SWANSON
Treasury Secretary-designate Tim Geithner’s charge that China “manipulates” its currency proves only one thing. Three decades after Deng Xiaoping’s capitalist rise, America’s misunderstanding of China remains a key source of our own crisis and socialist tilt.
The new consensus is that America failed to react to the building trade deficit with China and the global “savings glut,” which fueled our housing boom. A “passive” America allowed China to steal jobs from the U.S. while Americans binged with undervalued Chinese funny money.
This diagnosis is backwards. America did not underreact to the supposed Chinese threat. It overreacted. The problem wasn’t “global imbalances” but a purposeful dollar imbalance. Our weak-dollar policy, intended to pump up U.S. manufacturing and close the trade gap, backfired. Currency chaos led to a $30 trillion global crash, an energy shock, bank and auto failures, and possibly a new big government era. For globalization and American innovation to survive, we must first understand the Chinese story and our own monetary mistakes.
We’ve heard the refrain: China’s rapid growth was a mirage. China was stealing wealth by “manipulating” its currency. But in fact China’s rise was based on dramatic decentralization and sound money. (more…)
Here are a few good perspectives on Google’s big announcement that it will no longer censor search results for google.cn in China, a move it says could lead to a pull-out from the Middle Kingdom.
“Google’s Move: Does it Make Sense?” by Larry Dignan
“The Google News” by James Fallows
I agree with Dignan of Znet that this move was probably less about about China and more about policy and branding in the U.S. and Europe.
UPDATE: Much more detail on the mechanics of the attack from Wired’s Threat Level blog.
Intel CTO Justin Rattner
says many people underestimate America’s lead in post-graduate education. Intel has found, for example, that the skills of PhDs from Chinese universities that the company has hired do not yet match those of U.S. graduates, he says.
On the other hand, Rattner says, tougher immigration laws are weakening the U.S. advantage as a magnet for students from around the world. Many Silicon Valley companies were founded by foreign students after they got degrees from Stanford, the University of California at Berkeley, Caltech and other U.S. institutions.
“Now we tell them to go home, and don’t come back anytime soon,” Rattner says. Such a policy could have made it impossible for people like Andy Grove, Intel’s Hungarian-born former CEO, to have risen to the top of the U.S. tech scene. “Nowadays we would have packed him up and sent him home,” Rattner says.
“The Americans have not had to deal with a true economic rival since the British more than half a century ago. America today is as unaccustomed to global economic competition as the British were at their apex. The U.S. often seems lumbering and ill-suited to the demands of economic rivalry.
“The only way to avoid Britain’s fate and meet the challenge of China is to reinvigorate economic life. This is a multiyear endeavor that must be done primarily through innovation, not legislation. America needs to retool its domestic economy to build on the global success of many U.S. companies. It must focus on inventing new products and generating new ideas, rather than defending the rusty industries of yesterday. Fights over health care and climate change are the cultural equivalent of fiddling while Rome burns.
“China thrives because it is hungry, dynamic, scared of failure and convinced that it should be a leading force in the world. That is why America thrived a century ago. Today, such hunger and dynamism seem less evident in American life than petulance that the world is not cooperating.
“The U.S. is in danger of assuming that because it has been a dominant nation on the world stage, it must continue to be so. That is a recipe for becoming Britain.”
— Zachary Karabell, The Wall Street Journal, October 13, 2009
Stanford economist Paul Romer has had lots of good ideas over the years. Particularly his ideas about the importance of ideas in the economy. But his “Charter City” idea explored at the recent TED conference is one of the best yet.
Maybe I like it so much because it so closely tracks the concepts offered in my long paper of last August called “Entrepreneurship and Innovation in China – 1978-2008 – Thirty Years of Decentralized Economic Growth”, a follow-on article in The Wall Street Journal, and a previous essay “Breaking Metcalfe’s Law” on the economic importance of the exchange of ideas.
Romer uses China’s “free zones” envisioned by Deng Xiaoping and initially implemented by one Jiang Zemin as the chief example of how his charter cities would work in practice. He explains how they might cut the political-economic Gordian knot of societies too stuck in the past to make obviously needed rule changes that open the floodgates of ideas and entrepreneurship. These were the key themes of my paper.
Also check out this working paper by Romer that surveys the economic growth literature (hat tip: Growthology).
Last December, we celebrated the 30-year anniversary of Deng Xiaoping’s historic “Reform and Opening Up” campaign.
Today, we remember those who died at Tiananmen Square 20 years ago.
Fortunately, the legacy of Deng’s capitalist opening and decentralized economic program has far, far outweighed the tragedy of June 4, 1989.
Zachary Karabell does a nice job explaining the “superfusion” cooperative arrangement between the U.S. and China, showing why China doesn’t want and won’t trigger a crashed dollar. They want a strong and stable dollar, which, as we have been writing for a long time, is also in our best interest. We are of course constrained by global investors, who rationally want solid real returns. But the competitive and currency positions of the U.S. are a function of our own monetary, fiscal, and regulatory policy actions, not some malign intent on the part of weaker foreign economies who in fact depend on a healthy, thriving America.
David Malpass, as usual, explains it best in this video:
China proposes a new world reserve currency to replace the dollar and, it hopes, launch a new era of global monetary stability. In a paper released Monday in Beijing, central bank governor Zhou Xiaochuan wrote:
Theoretically, an international reserve currency should first be anchored to a stable benchmark and issued according to a clear set of rules, therefore to ensure orderly supply; second, its supply should be flexible enough to allow timely adjustment according to the changing demand; third, such adjustments should be disconnected from economic conditions and sovereign interests of any single country. The acceptance of credit-based national currencies as major international reserve currencies, as is the case in the current system, is a rare special case in history. The crisis again calls for creative reform of the existing international monetary system towards an international reserve currency with a stable value, rule-based issuance and manageable supply, so as to achieve the objective of safeguarding global economic and financial stability.
It’s an interesting concept, and as I contemplate the proposal I’ll air my praise and criticisms. I’m initially skeptical of a single IMF-managed currency and of Zhou’s suggestion that this will allow nations more flexibility in their own monetary policies. Hyperflexible monetary policies, especially in the U.S., were the source of the problem. But it’s too bad we ever arrived at this point. If the U.S. had better managed the stability of the existing world reserve currency — the dollar — there would be no need for a new “super-sovereign” currency. We had a good thing going, and we blew it.
I’ve written lots about the dollar and its nexus with China (here, here, here, and here).
Yet another remarkable dispatch from James Fallows on China’s attempts to navigate the global financial crisis. His conclusions:
(1) the Chinese people are less likely to revolt en masse in bad times than is often suspected. Even now, things are a lot better than ever before. Fallows quotes one Shanxi province party official:
Do you understand? If it had not been for Deng Xiaoping, I would be behind an ox in a field right now. . . . Do you understand? My mother has bound feet!
(2) China has at least a very good shot at achieving a truly innovative economy. Listing several new high-tech firms producing the best voice-recognition software he’s ever seen and some of the world’s most advanced batteries for everything from iPhones to new electric cars, Fallows writes:
In Beijing, in Shanghai, in Shenzhen, and elsewhere, I’ve recently visited companies that are trying to use the disruption of this moment to enter wholly new markets and do what so few Chinese firms have yet done: make high-tech, high-value products that bring high rewards.
These largely mirror my own views. In fact I couldn’t help but notice Fallows’ concluding sentences:
Many Chinese companies will fail or make mistakes under today’s intense pressure. But many are using the moment to prepare for their next advance. The question for Americans to think about is how we are using the same moment.
Here were the final sentences of my economic history of China’s 30-year rise, released during last summer’s Beijing Olympics:
What seems undeniable is that the next hundred years will be a Chinese century. The biggest question for politicians and business leaders in the U.S. is whether, through a recommitment to entrepreneurial capitalism, it will be another American century as well.
Stanford’s Ronald McKinnon, who I cited in my recent Wall Street Journal article on China, echoes my view:
Indeed, as the world goes into a severe economic downturn, the threat of beggar-thy-neighbor devaluations becomes acute — as in the 1930s. Stabilizing the exchange rate between the world’s two largest trading countries could be a useful fixed point for checking the devaluationist proclivities of other nations around the world.
The WSJ’s RealTimeEconomics blog reports on Hank Paulson’s clarification to the Chinese over his recent serial blaming of “global imbalances” as the cause of the financial crash.
“In assessing the financial market crisis, I have repeatedly and consistently targeted the vast majority of my criticism at problems in the United States, particularly our flawed and outdated regulatory structure,” Xinhua quoted Mr. Paulson as saying. “Whenever I have commented on global imbalances, it has been against that backdrop and I have gone out of my way to say that no single country is to blame for the imbalances.”
John Tamny at RealClearMarkets weighs in on the dollar-yuan China trade debate.
See my latest on the nexus of China trade, monetary policy, and our current crisis in Monday’s Wall Street Journal. Contrary to the new conventional wisdom, which is gaining considerable steam, I argue that:
America did not underreact to the supposed Chinese threat. It overreacted. The problem wasn’t “global imbalances” but a purposeful dollar imbalance. Our weak-dollar policy, intended to pump up U.S. manufacturing and close the trade gap, backfired. Currency chaos led to a $30 trillion global crash, an energy shock, bank and auto failures, and possibly a new big government era. For globalization and American innovation to survive, we must first understand the Chinese story and our own monetary mistakes.
A “more competitive currency” and monetary “stimulus” cannot create new wealth. Only technology and entrepreneurship can do that. The “China currency” issue distracts America from all the important things that could actually make us more competitive –e.g., better K-12 education, much lower corporate tax rates, cutting-edge broadband networks, less (not more) centralization and power in Washington, and, of course, a stable dollar.
It looks like incoming Administration official Tim Geithner will continue the long line of clueless protectionist currency policy at the Treasury Department. In written responses to the Senate Finance Committee, Geithner asserted what even the disastrous Snow/Paulson Treasury’s wouldn’t say officially: that China is “manipulating” its currency, the yuan.
Mere journalist James Fallows understands the issue much better than technocrat Geithner:
to boil it down to the bald assertion that “China is manipulating its currency” ignores, vulgarizes, and misconstrues a lot more than it clarifies.
Gold promptly rocketed $40 today, as the American weak-dollar policy resumes.
Hugo Restall thinks about the implications of Chinese aircraft carriers and its prospective blue water navy:
These are worst case scenarios. There is another possibility, however: that China’s ambitious plan might be a positive development. In the past, the People’s Liberation Army has emphasized asymmetrical warfare, apparently believing it could find inexpensive and innovative ways to counteract American might. If it is now moving toward a more conventional road of military modernization, pitting like against like, that is less likely to cause the miscalculations that lead to war, because China is less likely to be seduced by ideas that it can neutralize U.S. superiority with asymmetry.
James Fallows talks about his forthcoming China book, Postcards from Tomorrow Square:
in watching Japan’s rise and then its financial stagnation, we’d seen the last dramatic stage in East Asian economic development. The similarities in China’s approach — and, mainly, the differences — have been an important touchstone all the way through. And as I think will be evident to readers, I have found China’s economic rise to be a fundamentally more open phenomenon, for the rest of the world, than Japan’s approach was.
As for the latest crisis — hey, blame Alan Greenspan! Not me.
The New York Times, in its series on the origins of the financial crisis it calls “The Reckoning,” pins our housing and credit bubbles on Chinese savings and the U.S.-China trade gap. This is basically the view of Alan Greenspan and Ben Bernanke. We were helpless. Monetary policy had become ineffective. The New York Times also says the U.S. failed to react to the China-U.S. “imbalances” soon enough, that we took a “passive” approach.
In fact, most of this is backward. We did not under-react to China. We overreacted. The U.S. weak-dollar policy — a combination of historically low Fed interest rates and a Treasury calling for a cheaper currency — was a direct and violent reaction to the trade gap. A series of Treasury secretaries and top U.S. economists, from John Snow and Hank Paulson to John Taylor and Martin Feldstein, explicitly backed this policy as a way to “correct” these “imbalances.” This weak-dollar policy was designed to reduce the trade gap but in fact boosted it by pushing oil and other commodity prices through the roof. It also created and pushed excess dollars into other hard assets like real estate, resulting in the housing boom and then bust.
America’s overreaction to China’s rise in particular and our misunderstanding of global trade and finance in general was thus, I believe, the chief source of our current predicament. The Fed and Treasury failed to grasp the truly global nature of the economy and the centrality of the dollar around the world. I tell the story of Chinese-U.S. interaction in this long paper, “Entrepreneurship and Innovation in China: 1978-2008.”
Three decades ago today, Deng Xiaoping shook the world.
Maximum Entropy