The Chinese government has begun a concerted campaign of economic threats against the United States, hinting that it may liquidate its vast holding of US treasuries if Washington imposes trade sanctions to force a yuan revaluation.Those foreign reserves come to more than $4,400 per US resident. China is by far the largest holder of US government debt instruments, and the country continues to extend that lead on a daily basis.
Two officials at leading Communist Party bodies have given interviews in recent days warning - for the first time - that Beijing may use its $1.33 trillion (£658bn) of foreign reserves as a political weapon to counter pressure from the US Congress.
There are those who see this as, rather than a cause of concern, something to celebrated. By tying their holdings so intimately with US debt, the PRC has a strong incentive to see the economic strength of the US maintained. In the extreme case, if the US were reduced to having to default on the obligations, China would see $1.33 trillion--more than one-fifth of annaul GDP--go down the drain.
The currency "nuclear option" is clearly hyperbole, like the more literal nuclear option discussed publicly by the Chinese military two years ago. But the PRC can begin selling, or less dramatically, simply stop buying, US treasures at any time. That would accentuate the international enfeeblement of the dollar, which hit a new record low against the Euro a couple of weeks ago, and has taken it in the chin against the yen, as Japan has accepted Iran's request that it cease paying for Persian oil in US dollars.
If China acted upon this threat and began a concerted selloff of its US debt holdings, the yuan would of course suffer alongside the dollar. But how much does Beijing care if that occurs? Less than policymakers in the US do. Keep in mind, by pegging the yuan to the dollar for so long (and now to a basket of currencies influenced by the dollar), the Chinese government has chronically kept the yuan weak for decades.
Further, because China is an export-driven manufacturing country, a drop in the yuan's value will only make it an even more favorable nation to buy goods from. Chinese workers will see their savings worth less in terms of what they can buy on the international market, but that will in turn increase what Chinese citizens buy from within China. As a poor country that is becoming less so with amazing alacrity, the average Chinaman is looking at a potential decline in the rate of his own enrichment, not an impoverishment.
Contrast this to the effects such Chinese action would have on the US. A drop in the dollar would reduce exports to the US. With an annual trade deficit of $764 billion and rising, that will be felt immediately in the form of increased prices for lots of different goods. In an economy that is growing by only a few percentage points, that means an abrupt drop in the average Joe's standard of living. Much of what the US physically exports are raw materials that return to the US at latter stages of product development, so the relative drop in the price of American-made products will be intially dampened.
China is better prepared, both economically and socially, for the shock than the US is, were it to occur.
Still, I see the forces conspiring against the valuation of the dollar as a net positive. The US has become a debtor nation that consumes more than it produces, a trend that enriches countries like China, Venezuela, and the Gulf states, who in turn buy up US assets with the money. We have an almost nonexistent savings rate and the world's third least-favorable per capita account balance. We bankroll corrupt and antagonistic entities like the UN, shoulder the cost of military alliances like NATO that provide little benefit to us, and dole out more in foreign aid than any other country. I fail to see how this can continue on in perpetuity. Inevitably, a readjustment will occur, and much of this will be forcibly put to a stop, out of necessity.
Indeed, there are some encouraging signs that it is already occuring. While the domestic marketshare of US car companies has dipped below 50% for the first time, car manufacturing is showing some signs of moving back into the US due to the dollar dip:
Volkswagen AG is signaling it may build a new factory in North America, the latest sign of how the weak dollar is forcing European car makers to mull moving roduction closer to their U.S. customers.We can accelerate a resurgence in domestic manufacturing by scrapping the federal income tax and replacing it with a national sales tax (also known as a consumption tax). This would make the US an ideal place to export from. It would also have the added benefit of making illegal immigration less lucrative, by axing payroll taxes of the legally employed, thereby reducing their costs to their employers relative to the costs of hiring illegal workers by about one-third.
The world's fourth-largest auto maker is also considering a major reorganization of its U.S. business to try to bring consumers and decision makers closer together, according to Stefan Jacoby, who this month was named chief executive of Volkswagen of America Inc.