China needs to worry about America’s economy, not its debt | CHINA US Focus

CHINA US Focus - Exclusive Analysis of the Politics, Economics, Military and Culture of China-US Relations.


China needs to worry about America’s economy, not its debt

Tang Xuepeng, Senior Editor, 21st Century Business Herald
August 24, 2011
Share on FacebookFACEBOOK
Share on TwitterTWITTER

Even though the United States came to an agreement on the debt ceiling negotiations recently, Standard and Poor’s still downgraded the nation’s longstanding sovereign credit rating from AAA to AA+.  The news rocked stock markets around the world.  On August 4, the Dow Jones dropped 513 points and lost another 635 points four days later.  European and Asian pacific markets have looked even more dismal.  President Obama denounced Standard and Poor’s rating change, saying the United States’ credit will always be AAA.  Some economists who also took exception to the downgrade feel “there is an enormous discrepancy. It is unbelievable.”  Warren Buffet said, America ought to have a AAAA rating. 

Indeed, Standard and Poor’s action is surprising if we look only at paying back debt and ignore the supremacy of the U.S. dollar.  American debt is paid back in it’s own currency.  This means the United States will never have a debt repayment crisis.  This is very difficult for other countries to do.  But clearly Standard and Poor’s is not looking at it from this angle.  I believe its point of view is more dynamic.  The crux is in the relationship between debt relief and economic growth.

Without question it is hard to be optimistic about the the United States’ prospects for economic growth and jobs.  The unemployment rate has stayed stubbornly above 9% and many positions have been outsourced.  The labor market needs to be reconfigured, such as with a new technological innovation that can provide new employment opportunities, or if labor costs abroad (such as in China) were to rise while costs fall in the United States, thereby creating employment opportunities.  Though this [scenario] may seem protectionist in nature, it is the truth, and no matter what, it will be a long and arduous road for the United States.  If economic growth is weak, it not only will have a large amount of debt, its new creative output (such as GDP) will not reach  necessary levels either.  It’s just as with an individual who owes a lot of money.  It doesn’t matter as long as he is capable of earning a lot.  Everyone will predict he will eventually pay the money back, but if he owes a lot and his earning potential is not strong, people will think he’ll renege.  They will be wary of his credit and take precautions against him. 

There is a fantasy in Keynesian economics that says extremely intense and feverish stimulus over a short period of time will suddenly lift an economy up [out of its troubles].  It doesn’t matter if this process brings about serious inflation.  Federal Reserve Chairman Ben Bernanke’s Big Bang Theory adheres to this principle.  The two previous stimulus packages under Bernanke did not have very strong outcomes, but he certainly didn’t give up his ideas, believing the “final shock” was still necessary because the change brought about by quantitative easing is not gradual but sudden. 
However, Bernanke never had such a good opportunity as the debt ceiling negotiation, in which the two parties became an impediment to new stimulus.  The United States will face increasing pressure if it is going to increase its debt.  If they failed to raise the debt ceiling, then the Federal Reserve’s qualitative easing would have no legs to stand on.  QE only works when others purchase your debt, which keeps long term interest rates low.  Of course, some will say the Federal Reserve can buy corporate bonds with high credit ratings, but paradoxically these companies do not need to sell bonds now because they have enough money on hand.  Furthermore, there is much controversy over buying this kind of corporate bond because certain businesses gain preference, which creates the suspicion of government favoritism. 

Therefore, the story behind the massive losses in stock markets instigated by Standard and Poor’s devaluation is really about the United States’ long term economic growth.  They were downgraded because they very well may not be able to sustain their credit.  And once this happens, the cost of issuing bonds will go up, and the amount of bonds issued will probably go down.   Frankly speaking, as the largest holder of American debt this is actually in China’s interest, but the logic is not something many have considered yet. Just imagine if the supply of American bonds goes down because of the credit devaluation, and its debt holders do not try to sell of their bonds all at once.  No matter if it is China or Japan, if there is no big selloff, the Federal Reserve will likely start a third round of QE.  This means that the position of those who hold American debt will become stronger.  If the supply goes down and the demand goes up, there will not be a large decrease in the value of American debt.  In fact this has already been proved in the market where many people surprisingly are not selling short but going long.

I believe China’s greatest worry is not the decline of U.S. bonds.  The Republican Party and Tea Party are really China’s friends as they try to protect America’s credit.  China should worry more about America’s economic malaise causing an atrophy in overseas demand.  This will increase the difficulties for China’s exporters which will have to face a new round of layoffs.  The compromise between parties in the American debt negotiations will exert pressure on China’s exporters too, because in the political discussion over America’s debt, the Democrats lost ground on welfare, but the Republicans moved forward in terms of cutting taxes.  The Democrats’ concessions angered many voters, so Obama must use [the tactic of saying] “China took America’s opportunity through currency and trade protection” to calm their anger.  Simply put, the American government will put up a vigorous fight against China over trade friction and currency manipulation, which means that China faces the probability of an increasingly unfriendly environment.
Tang Xuepeng is a senior economics and finance editor for 21st Century Business Herald

NOTE: This is a translation of a commentary which appeared in Southern Weekly on August 11, 2011.  The original is here.



Related Articles

Alibaba Listing Underscores Asia’s “Gini” Out of the Bottle

09/30/2014 Curtis Chin, Former US Ambassador to Asian Development Bank

Xi Creates “New Normal” of Periphery Diplomacy

09/26/2014 Chen Xiangyang, Deputy Director, CICIR

What Alibaba’s Record IPO will do for China-US Relations

09/24/2014 He Weiwen, Co-director, China-US/EU Study Center, CAIT

Beijing’s Bear Hug on Russian Oil

09/22/2014 Michal Meidan, Director, China Matters

View China’s Antitrust Law Enforcement Objectively

09/19/2014 Yu Xiang, Research Fellow, CICIR

Asia-Pacific Adapting to Changes

09/18/2014 Zhang Yansheng, Senior Researcher, NDRC

Special Coverage

Sponsored Reports

This week in China-US Focus

Sign-up for e-mail newsletters and alerts and get the news you need delivered directly to your inbox.

Related Articles

Real Time Web Analytics