the visible hand

it is the theory which decides what can be observed – einstein

A Chinese dilema, US initiatives

Posted by ecoshift on July 29, 2007

I’m puzzled by US policy initiatives vis a vis China. They seem poorly thought out and downright insulting with quite a lot of whining poor-loser thrown in.

I realize that China is still a communist state. While I’ve been only a little surprised at corporate willingness to throw democratic ideology to the wind in pursuit of competitive advantage I do somehow expect a bit more coordination in overall foreign policy objectives.

Imagine you are a Chinese leader in the previous decade.

The US, in hopes that your participation in the global economy will turn you into a Republican, or at least a Democrat, wants to invest in your economy. Okay, okay. The US really hopes to make some serious money on the deal. The intention is to exploit your cheap labor and your lax environmental standards to lower production costs while maintaining US distribution channels and marketing savvy. They intend to make a killing. You know it. They know it. You let them invest. You work hard. You watch carefully. You learn. Your domestic companies start offering to provide components, products and services to US companies. Soon your domestic firms are exporting directly into US markets in various partnerships with US firms. Fast forward 10 or 15 years.

Chinese success

Your economy is kicking butt. The quality of your products is increasing. Money from sales to US markets is pouring into your economy. You own massive amounts of US debt in order to maintain access to US markets and to keep US markets viable. You are financing US foreign wars, tax breaks for wealthy US stockholders and anything else the US government can’t afford to buy.

Real US values falter

But, the US stock market has been in decline against basket of global currencies for five years. The US Fed is desperately printing money while US investment bankers, money managers and corporate executives squander it on stock buybacks and speculative asset bubbles. Smart money in the US continues to flow to overseas. US manufacturing capacity is in decline. Sophisticated (well, at least complicated) and perhaps fraudulent leveraged financial machinations keep US asset bubbles appreciating in dollar terms. US companies struggle to compete in the global economy and US consumers are dependent on low-cost imports to maintain debt-driven lifestyles. You know this.

A Chinese dilema

The US appears more than willing to allow the value of US currency to steadily fall. Every 5% decline in the dollar’s value drops the value of your foreign reserves 65 billion dollars against that same basket of currencies. As the Yuan follows the dollar down you loose additional purchasing power in global markets. The interest rates you are earning on your US bonds don’t even come close to making up the difference. Other holders of US currency reserves are starting to let go. You need export sales to the US, but you are wondering how long you can continue to support failing US economic strategies. You are carefully evaluating the aggregate strength of global markets without US growth: Europe, India, Brazil, Japan, your own domestic economy. IS it time to change your strategy?

You hold the value of US currency in your hand. If you sell dollars the dollar will tank, US inflation will go through the roof and take interest rates with it. The US consumer will succumb to his credit cards amid rising fuel costs and a crashing housing market. You know this. You are looking at your options. Direct investment in US assets? Purchase US equities? Creation of a sovereign wealth fund for overseas investments? Can you afford to let the US dollar down? How badly do you need faltering US markets?

US initiative

It’s a delicate situation: liquidity drying up, housing prices falling, bridge loans desperately in need of buyers and globalization backfiring on the US economy. US leaders confidently step up to the plate with a sophisticated negotiation strategy:

  1. They angrily complain that you aren’t playing fair. That you win too much and that US manufacturers can’t compete in their own domestic markets. They demand that you allow your currency to appreciate… closing the door long after a herd of US manufacturing horses have been reallocated to ranches far away from the barn.
  2. As US credit markets begin to seriously falter the champions of multilateral investments float legislation that will not allow foreign (this means you) direct investment in strategic US assets.
  3. Then someone comes sidling up to the side door, opens up his trench coat, and offers to sell you an assortment of toxic mortgage backed securities.
  4. Finally the financial guys come forward and managers start to offer you equity stakes in their operations.

Seems like an inconsistent slap in the face to country that understands face. With stock market drops of over 700 points in week I can imagine China is sorely tempted to sell treasuries and drop any plans to participate in or support collapsing US asset bubbles and credit markets.

If the US plan is to somehow rebuild a strong US manufacturing component based on new found competitive advantage in export markets from a declining dollar, US companies and senators may want to look carefully at the percentage of imported commodities, parts, components and even finished products in US exports. After two decades of outsourcing, downsizing and reallocation of US manufacturing offshore I believe that horse will need a significant influx of capital to realize any advantage…. capital that no one will want to invest in a popping bubble… unless they happen to be burdened with 1.3 trillion in dollar denominated reserves.

If I’m missing something here, let me know…

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