April 18, 2005

Yuan Point of View

I may have this all wrong. However, "getting serious" is not normally so easy to confuse with "flailing ineffectually." And might not Japan's reluctance to agree to a formal declaration that China should revalue the yuan have something to do with the implications of a Chinese currency float for Japan's own currency?

Posted by at April 18, 2005 05:12 AM | TrackBack (2)
Comments

"I may have this all wrong. However, "getting serious" is not normally so easy to confuse with "flailing ineffectually.""

If it was you deciding, what would you do?

Posted by: J Thomas at April 18, 2005 04:15 PM | Permalink to this comment Permalink

J. Thomas, this is an excellent question, one which anyone critical of administration conduct in this area should be prepared to answer.

First, if it were up to me the Secretary of the Treasury would not just be talking about the trade deficit and related currency issues to the G-7. Most Americans have no clue of our situation and no conception of why a "soft" rather than a "hard" landing would be preferable. If they are unpleasantly surprised later there will be a political price paid.

Second, I would have a Secretary of the Treasury who can explain in public why gradual yuan revaluation is in the respective interests of Asian and European countries, not just in our own. I don't know who that person might be, but it isn't John Snow.

Finally, I would move federal deficit reduction back up to the top of the policy agenda. Reducing the budget deficit will not fix the trade deficit or the overvaluation of the dollar against the yuan, but the (perfectly accurate) impression abroad is that America is doing nothing about its massive excess of spending relative to income. This undermines any calls we might make on other governments to act responsibly with respect to the international economic order.

The spending cuts and tax increases that would be necessary to reduce the budget deficit would be unpopular. That's the way it goes.

Posted by: JEB at April 18, 2005 08:29 PM | Permalink to this comment Permalink

I think you saw a bit of heightened concern on the part of the U.S about its twin deficits at the G7 meeting over the weekend. We'll see if that can translate into actual policy movement in the coming weeks and months.

As far as the U.S. is concerned with the yuan, the stance by some in Congress that China needs a massive yuan appreciation (25-40 percent) to rectify its ballooning trade surplus with the States ($160 billion last year and growing) is almost certainly overstated.

Snow had been quite vocal in calling for a reval a couple years ago, but the Chinese would never take such a drastic step at the behest of the U.S. So the U.S., correctly in my view, switched tactics to advising China behind the scenes on the technicalities and implications of the move.

But now two years have gone by and, apart from some modest opening of the capital account, there hasn't been much in the way of progress towards a more flexible currency. So now we are seeing the rhetoric come back a bit.

Posted by: Scott at April 19, 2005 01:24 AM | Permalink to this comment Permalink

JEB, I don't want to pick on you, but I'd like to use your proposal to point out some of the challenges.

You mention using spending cuts and tax increases to reduce the deficit. Let's look at spending cuts. The federal budget has already been cut to the point that to cut it more we'd have to cut one or two of four big items. All the little items put together don't amount to much. Here are the three items:

1. Payments on the deficit. About $400 billioin. The obvious way to cut those payments is to keep the interest rate low. But we've gone as far as we can on that one and we're having to raise interest rates. A second possibility is to cancel part of the deficit. That's what privatising social security is about -- it's an attempt to get rid of those debts. If we try to cancel part of the debt that isn't to US citizens ... don't go there.

So these payments are very hard to cut. Paying down the national debt would be the best way to cut the payments on the debt, but that would require we run a surplus, which probably means cutting deeper in the other two big items.

2. Social security. About $600 billion. This is the obvious place to raid, provided enough people get convinced they won't get their money anyway. For somebody who's 30 years from retirement, what's the chance SS will last 30 years without getting raided? Somebody's going to grab that money someday, why not us now?

3. Medicare and medicaid. About $800 billion. This is not an obvious place to raid. When you cut here you're telling old or disabled voters that it's time to die now. The public doesn't believe we're that desperate yet. The crisis of a hard landing would have to hit first before they'd believe that. There aren't going to be big cuts here unless we can work out some set of interlocking private bureaucracies that leaves people unfunded but not knowing who to blame.

4. Military and intelligence. Somewhere between $500 billion and $1.5 trillion. The military budget has black projects that are secret. The major part of the intelligence budget is secret. I don't know how much money it is and neither do you, but it's a lot. How are you going to cut it when you don't even know about it? And the public would be outraged. If you want a sample of how outraged they'd be, propose it here on this blog.

Besides the immediate problems, there are the second-order effects. The economy is driven by federal spending. Reduce spending and what will happen to consumer demand? When the federal employees stop buying and the employees of federal contractors do....

Next problem, raising taxes. It's necessary. Is it something you can build a political campaign around? Maybe. Maybe people are getting fed up enough with the bullshit that they'd agree to that. So ... whose taxes will get raised and how much? You'll need to pick somebody who doesn't have a lot of clout, right?

Imagine it's 3 years 5 months from today. Your candidate is campaigning about raising taxes. We're in a deep recession. (If the economy is OK then Bush's successor will probably be winning, but how could it?) All the economic indicators are rosy but somehow something is wrong. Very low inflation though hamburger is at $8/pound and eggs are $2.50 a dozen. Very low unemployment. GDP is growing at 4.5% but somehow you wouldn't know it looking at federal tax receipts or consumer spending etc.

So, times are bad and you're campaigning for large tax increases. When was the last time a president increased taxes in a recession? Was it Johnson? Nixon said "We are all Keynsians now", was he wrong?

There's the other way. If the economy could heat up, if we could actually get things moving, then the deficit would get smaller by itself. We'd have a painless way out. But what can we do to create that?

I like your other ideas. For what it's worth, I can imagine that Snow might do a good job if he was allowed to. He's probably a competent economist who has to be careful to mouth the party line or else lose his job. Who knows how well he'd do if he got the chance to actually do something? But he won't get that chance, he'll go out when Bush does.

Posted by: J Thomas at April 19, 2005 04:05 AM | Permalink to this comment Permalink
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