2007 December 02 Sunday
Tyler Cowen Sees Benefits From US Dollar Decline
In a New York Times column where he paints a pretty optimistic picture about the effects of the declining US dollar Tyler Cowen argues that the Chinese won't use their massive holdings of US dollars to cause a severe dollar crash.
Another worry is that a falling dollar puts the United States at the mercy of China. Dr. Brad Setser, a currency analyst at RGE Monitor, estimates that the Chinese hold about $1.2 trillion in dollar-denominated assets. China is likely to slowly diversify into other currencies, but Chinese leaders have no interest in encouraging a run on the dollar or a fire sale of dollar-denominated assets. China is in a more vulnerable position than the United States, if only because China is a poorer country and has underdeveloped capital markets.
Still, it would be naïve to argue that a weak or falling dollar can never hurt the United States. Extreme volatility can increase general anxiety and discourage economic commitments. If the dollar went into a true free fall, it would damage the reputation of the United States as a desirable place for foreigners to invest. That would hurt; but on the other hand a low dollar would mean bargains for foreigners, thereby attracting investment and limiting the potential negative fallout from a dollar collapse.
I am reminded of how some people were convinced before World War I that a war between the major powers was no longer possible because they had too many shared interests as a result of mutually beneficial world trade. Well, my point is that individuals and countries are not always cool rational calculators of their interests.
If the people running China have Tyler's wisdom on where their best interest lie then they'll aim for a slow decline in the dollar against the Chinese yuan currency. If they have that wisdom they might even succeed in managing that decline. But, hey, governments aren't always wise. A libertarian-leaning free market economist like Tyler surely understands that. So we can't expect that the Chinese will make wise decisions about their capital markets and currency. In fact, China is currently undergoing a boom with a really immature capital market that very easily could blow up.
Well, turns out Tyler thinks China might slip into a massive depression within 7 years of last year and he even thinks the United States runs a similar risk. Tyler's pretty optimistic about what markets can accomplish. But he thinks for whatever assortment of reasons we haven't escaped from the risk of massive economic depression.
China's economic development and the continued intertwining of the Chinese economy with the whole world economy connects the rest of the world with a country that has a historic tendency to go into convulsions. This will create problems.
When growth is high and dominated by export manufactures, and these require central bank foreign currency support in order to
maintain that high growth rate, a certain vulnerability exists.
Investment in fixed capital for those export manufactures being very high as a percentage of total production, and
especially relative to most countries, the shutdown of that sector which produces for fixed investment for the expansion of capacity in export manufactures for several years means a recession.
The whole process being state-directed, though, it seems unlikely that they would zero out their dollar support of hundreds of billions a year.
What is more likely, is that they might be unable to keep increasing that support so as to have continuing double-digit growth in export manufactures. China is so late to this game that there are no longer any large export-surplus countries for them to eliminate, which don't also do dollar support in the same way. Analogies to capitalism and its economic history don't fit well, since these are socialist projects, commandeering resources and intervening in currency 'markets' to get a certain kind of growth.
Look, I've been hearing shrieks and screams about 'China facing a massive depression' for at least 20 years now - about the same time that China's been on the up, the reality is that nothing has stopped the juggernaut, despite the wishful thinking of the naysayers and in terms of export penetration and growth of incomes and assets the trend looks pretty impregnable.
Of course these are the same doom-mongers that have been chanting 'Japan is finished!' Japan is finished!' for the past 40 years whilst dancing-out a little jig of joy - they were wrong then and are wrong now.
I the final analysis, Chinese industrial and economic success and prowess is of genetic origin, and for that reason the nation will stay pretty resilient.
The Chinese are going to Africa. I have no doubt that they will succeed where the Africans have failed, i.e. growing crops and not hacking people up with machetes. They can have it, but at least someone will put the place to good use.
Best line of the article:
"At first, people were not willing to go to Africa because it's too hot, there are diseases and there are wars," says Mr Liu.
That about sums up the place!
Instead of selling the dollars and cause a decline in the value of the dollar, China will attempt to use this foreign currency to buy foreign mines and territory in Africa, Asia, and South America, and possibly in Canada. But later if the raw materials become scarce, there will be complaints from the Western countries against Chinese ownership of raw material sources in Africa and South America.
They are already in Canada http://www.chinadaily.com.cn/china/2007-06/29/content_906746.htm
"But later if the raw materials become scarce, there will be complaints from the Western countries against Chinese ownership of raw material sources in Africa and South America."
These complaints will be treated with contempt, derision and the laughter they deserve and will accomplish nothing except to make the West and US look like a bunch of whining softies.