Last week, we heard Europe was to blame for US economic woes. The President said that “some of the challenges that we’ve had over the last several months actually have to do with the fact that in Europe we haven’t seen them deal with their banking system and their financial system as effectively as they needed to.” This is undoubtedly true. Nevertheless, the implication was that US problems were made in Europe instead of the US.
This week, we are to hear that China is to blame for US economic woes. Congress will meet to take up legislation to threaten sanctions against China for currency manipulation. The Chinese currency is artificially low, making the US situation that much harder. Paul Krugman gives voice to the anxiety:
Respectable opinion is aghast. But respectable opinion has been consistently wrong lately, and the currency issue is no exception.
Ask yourself: Why is it so hard to restore full employment? … The answer is that we used to run much smaller trade deficits. A return to economic health would look much more achievable if we weren’t spending $500 billion more each year on imported goods and services than foreigners spent on our exports.
While it is true that China’s currency creates a bilateral deficit with the US, the US does have a multilateral deficit. Stephen Roach wrote last year correctly that:
Unless the problems that have given rise to the multilateral trade deficit are addressed, bilateral intervention would simply shift the Chinese portion of America’s international imbalance to someone else. That “someone” would most likely be a higher-cost producer – in effect, squeezing the purchasing power of hard-pressed US consumers.
Clearly, the implication of the anti-China rhetoric is that US problems were made elsewhere instead of the US. In Herbert Hoover’s State of the Union address at the end of 1930, Herbert Hoover voiced similar concerns. His view, like the President today, was that the US was over the hump, having put efforts in place to encourage economic growth. Yet, these efforts were being undermined by problems that emanated from abroad.
Hoover expressed more concretely why he believed the US was poised for sustained recovery in the 1931 State of the Union Address, saying:
The situation largely arises from an unjustified lack of confidence. We have enormous volumes of idle money in the banks and in hoarding. We do not require more money or working capital–we need to put what we have to work.
Fed Chairman Bernanke echoes these thoughts when he said recently that:
Even taking into account the many financial pressures they face, households seem exceptionally cautious. Indeed, readings on consumer confidence have fallen substantially in recent months as people have become more pessimistic about both economic conditions and their own financial prospects.
What Hoover in 1930-1931 was telling us and what Obama and Bernanke are telling us today is that policy has been accommodative enough to reanimate animal spirits, to get firms hiring and to get consumers spending. Yet, the economy seems to be getting worse. The logic is that the problems must emanate from outside the U.S.
In today’s political environment that means tariffs against free riders/currency manipulators. Last year, when this issue was hot and heavy I outlined what I see happening if tariffs are imposed:
If the US goes forward with tariffs, the Chinese cannot let this stand because it would undermine the Communist Party’s authority domestically. At a minimum China will retaliate in kind. Potentially they could escalate. Depending on the size of the sectors affected – to date, we have seen tariffs on chicken, steel and tires – this could derail America’s nascent technical recovery, which I see leading to lower employment and output and depression.
Professor Professor Xiang Songzuo from the Centre for International Monetary Research at Renmin University in Beijing told the BBC as much yesterday. He called the US position “wrong and absurd” and said there would definitely be retaliation. That sounds like economic war to me; what I see as Murder-Suicide. This would be a bad outcome. If this scenario occurs, wouldn’t this be similar to the trade dynamic from the 1930s?
This post originally appeared at Credit Writedowns and is reproduced with permission.