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Pearlstein: Steering U.S.-China economic relations toward a new normal

Steven Pearlstein
Wednesday, June 30, 2010; 12:00 PM

Washington Post columnist Steven Pearlstein hosted a discussion on Wednesday, June 30 at 12:00 ET on U.S.-China economic relations.

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U.S.-China economic relations: Dear Mr. Pearlstein: If the United States adopts the policies you've proposed, what do you anticipate would be the Chinese reaction?

Steven Pearlstein: They'd make a huge stink. They'd cancel some contracts. They'd slap on some tariffs of their own. They'd launch an appeal with the World Trade Organization. It would not be costless to us -- getting into fights never is. But after a year, once they saw we were serious, they would find a way to begin accomodating us in significant ways, and if we respond with a positive tit for tat, things could finally improve. They've been testing us for years and what they discovered was that we were easy to push around. So guess what -- they pushed us around.

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China-US: What should be the thing the US should be most concerned with as China's economy continues to expand and the standard of living in China rises?

Steven Pearlstein: We should welcome and celebrate their rising standard of living, and the rising productivity of their workers, and the relative size of their economy. Global economics is not a zero sum game. Let me repeat that: global economics is not a zero sum game. What we should be concerned with, however is if that growth is the result of a fundamentally imbalanced and unfair trading relationship that limits us from selling into this booming market, so that some of those dollars they earn selling us electronics and sneakers and everything at Wal-Mart can be recycled back not in Treasury bills but in purchases of American goods and services. THAT would be balanced trade.

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a new tune?: Is this column a marked departure from your previous wisdom on trade and China? It seems so to me. But some of us did foresee this back in 1996 or whenever that was, some of us saw exactly the traits in China that you decry today and were certain that China would not change their ways. Why would they, after all, when they could get rich doing things in their standard authoritarian way? Given that the optimism that China would join the free market world was unwarranted and China maintains policies destructive of our own interests, is it time to place less faith in the WTO and its provisions, which seem so clearly inadequate to address recalcitrant nationalists/imperialists such as China? If WTO cannot within its framework adequately solve this issue, are we then still much as we were before, a community of individual nations with their own self-interest? And should not that self-interest take precedence over "international norms" when nations act in ways harmful to other nations?

Steven Pearlstein: You make good points except one: I've actually been critical of the China WTO accession deal from the beginning, and in favor of managed trade with managed economies. So there has been no siginficant change in my position.

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What if renminbi is OVERvalued?: In terms of recent years, there is general consensus that the dollar peg artificially depressed the Chinese currency, which has boosted their exports to the US. We have not had the opportunity to deflate our currency as a means to balance trade. But considering their national debts, idiosyncratic state/private enterprises, and a worrysome real estate bubble, what if it turns out soon that the renminbi would soon float downward instead of up?

Steven Pearlstein: If it does it does -- I have no doubt where the longterm trend would be. You have to remember, however, that because China has a closed capital account, and parties outside China can't hold yuan, and parties inside China can't trade them for foreign currency at will, this isn't exactly a free currency market as far as yuan-dollar is concerned. So that presents a problem. As long as those features exist in China -- and I'm not saying the Chinese are wrong to maintain them -- then they may have to continue managing the currency. And what the economics would dictate (their productivity growth rate is much higher than ours) is that their currency would move up relative to ours.

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Currency Effects: I'm thinking this is more smoke than fire. Also, what are the ramifications if Europe and the US decide, in tandem, to inflate away their debts? At whose detriment would this be? Thanks for answering my questions.

Steven Pearlstein: Yes, the implication of a more balanced relationship is that they don't send us so much cheap credit with which to live beyond our means. Interest rates go up. The value of their Treasury holdings goes down. Interest rates that are artificially low because a trading partner wants to manipulate its currency are NOT a good thing in the long run, even for the debtor country. Why? Because they encourage us to take on more debt, to live beyond our means, and because they cause us to use this cheap borrowed money to bid up the price of real estate and financial assets to levels that are not supported by the underlying economic -- bubbles, in other words. As for Europe, although its complicated, let's say that because of the rigidity of the dollar-yuan exchange rate, the "burden" of adjustment has fallen indirectly on the euro, meaning it has pushed up the value of the euro as well, slowing those economies as well. Europe, like the rest of the world, would benefit if the yuan were allowed to float freely and China would open its capital accounts.

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yes, but...: Your column in spot-on about the economic dimensions of this issue, but what about human rights? When trade normalization and WHO membership were being debated 20-something years ago, proponents argued that engagement would give us more leverage to campaign for human rights. Why don't we use it?

Steven Pearlstein: Not my issue. I generally don't think we should tie these two things together.

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Trade imbalance???: I confess, after reading your article, I am upset. I now realize I have a trade deficit with the Washington Post. And my supermarket. And the gas station. And my doctor. And on and on. I purchase their services but they don't return the favor! On the positive side, I have a trade surplus with my employer. On a more serious note, trade imbalance between China and the US is not real. The Chinese sell Americans goods; we pay with dollars; the Chinese then use many of these dollars to buy IOUs issued by Uncle Sam. Although the result is a measured U.S. current-account deficit with China, there's no more any economically meaningful "imbalance" in such a result than there would be if, say, Texans lent a lot more of their dollars to Uncle Sam. The real imbalance is the gargantuan deficit created by the government. That's what I would really worry about. Talk of imbalances in trade diverts attention from the real problem: Uncle Sam's gargantuan debt. That fast-accumulating debt is a huge problem. It is caused not by trade with China but rather by Washington's lack of fiscal discipline.

Steven Pearlstein: Very clever. But, alas, not very original. In general, bilateral trade imbalances are not the story -- what matters is a country's overall trade balance. And in our case, of course, it is whoppingly negative. China and the China bloc are a big part of that problem, along with Middle East oil suppliers who also peg their currency to the dollar. So in this case it is relevant to talk about the bilateral relationship because it is so big.

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Change our system?: Do we have the political courage to admit that our blind faith in the markets has yet again proved illusory? Until we do so, I can't see any sort of progress. Yes, the Walmarts of our economy have strong lobbying powers, but they work against our cultural background of "trust the markets" and "the markets will solve all our problems." The right-wing marketing organizations like Cato, Heritage, AEI, Competitive Enterprise Institute, Mercatus Center and the rest are so successful that many Americans actually believe that gov't regulation caused the financial crisis. Books like Judge Posner's "A Failure of Capitalism" don't make a dent in public perception. Look at the success of the tea baggers and their anti-gov't rhetoric. I see no way Washington will be able to take the steps you correctly advocate.

Steven Pearlstein: So let's tone down the right wing conspiracy stuff, shall we?

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Tariffs then Perhaps Additional Protectionist Measures: Mr Pearlstein,I'm happy to see your advocacy of tariffs to address the issued of currency disparity. Thousands (if not millions) of jobs have been lost and perhaps tariffs will provide some modicum of relief. It seems to me, however, the problem goes much deeper.In countries such as China (but many others as well), competition for employment keeps wages extremely low (by conventional US standards) permitting those countries to manufacture and sell goods to us for far less than we can do so for ourselves. Even though our productivity measures indicate our productivity is among the highest of the developed countries, there is no way for us to be competitive with the likes of China. Are we not then faced with one of two alternatives, either let the standard of living for the majority of our populace continue to decline (and I believe perhaps on a steeper and steeper downward slope), or, on the other hand, become increasingly protectionist? I have to add that the economists standard answer, education, will at best make only a small difference. Just look at the numbers of college graduates either not employed or greatly under employed.

Steven Pearlstein: On the other hand, to continue to be a high wage country, we need to do the kind of work that justifies such wages and that usually means higher-skilled work.

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Currency Manipulation: Everyone gets so up in arms because the Chinese "manipulate" their currency to be artificially low. However almost no one gets up in arms about our own currency manipulation. The Federal Reserve, in the name of quantitative easing (money printing) has purchased a trillion dollars of treasury bonds and may potentially buy a few trillion more. I agree with those actions and, in fact, want more, but let's not throw stones when we clearly live in a glass house. The Chinese have amassed $900 billion is treasuries over a few decades. The Fed did more in less than a year. Why is China constantly demagogued and the Fed praised for the same actions?

Steven Pearlstein: This is complicated, I realize, but nobody suggests that what motivates the Fed is mercantilist currency manipulation, if for no other reason that the dollar is up, not down.

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Other sources of tee-shirts: If tee-shirts from China become too expensive, how about getting them from Haiti? Isn't it in our interest to support economies physically closer to us than China's?

Steven Pearlstein: There are some industries, like T shirts, that will never come back here. That's okay -- not a lot of high wage jobs in T shirts anyway. Or shoes. Or ironing boards. Or even low-end computer chips. The point here is to let markets work the way they can, which is to allocate production to those places that enjoy comparative advantage -- in other words, let every country do what it does best.

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Grand Bargain: What do you think of the idea of a grand bargain with China where we agree to formally link the yuan to the dollar in exchange for China making its currency convertible and opening its capital markets? This would allow older Americans who need to save to lend to young Chinese who would like to borrow but don't have access to capital markets. This would also be a huge incentive for the Chinese to lower their saving rates because they would have much less uncertainty over their currency. David Goldman and Reuven Brenner laid out these ideas a couple months ago.

Steven Pearlstein: My brain isn't big enough, and my understanding of macroeconomics isn't complete enough, to be able to evaluate your idea. One problem with the analysis is that the Chinese don't really need our capital -- they have plenty of savings that they can lend to each other if they want. I would say that you are right to point out that opening the capital account is as important as unpegging the currency in allowing the markets to really find a suitable equilibrium.

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Follow up: I don't mean to say there's a vast conspiracy from the right, but rather a very successful marketing effort. Prof. Gratez of Yale examined just such a marketing effort to repeal the estate tax. See his book "Death By A Thousand Cuts." I still think we will have to undergo a cultural change before we can deal successfully with China.

Steven Pearlstein: That's why I've suggested scrapping the inheritance tax entirely, and require estates to pay the capital gains tax on all unrealized gains before the proceeds are distributed. The studies show you can raise pretty much as much money as the inheritance tax, and the politics of it are much, much better. The big liquor distributors and other funders of the anti-estate tax lobby hate my idea, by the way.

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Unrelated to US China...: Steven Thanks for today's chat. I have a question on the ongoing debate over the extension of unemployment insurance - in your opinion, does the short-term benefit of putting money into the pockets of unemployed Americans outweigh the addition to the national debt on a long-term basis? I ask because it seems that the GOP has put an interesting line in the sand by arguing the addition of any debt is a non-starter. In other words, if they don't want to add debt to extend UI, what items ARE they willing to add debt for?

Steven Pearlstein: This is just the right thing to do -- the burden of rebalancing our economy is falling disproportionately on the 15 percent of Americans who are unemployed and under-employed, so it is the duty of the rest of us to help them out. Now you can pay for that with borrowed money, in which case there is fiscal stimulus, or you can pay for it by taxing the rest of us a big higher, which involves no fiscal stimulus. But one way or the other, we need to do that. That's not to say that there aren't plenty of people who do take lower paying jobs. But there are also lots of people who are very reluctant to.

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Double dip recession? Full blown Depression?: Steven: Are the Keynesians right? Will the European and U.S. austerity measures to cut deficits only result in strangling the recovery and sending us into a rerun of 2008? I read a piece in the New York Times about how austerity measures in Ireland, which have been implemented over the past two years, have done nothing to arrest the economic downturn. Granted, Ireland's economy isn't that of the U.S. or Germany, but is it a portent? Thanks.

Steven Pearlstein: There aren't any hard and fast rules on this. Much depends on Ireland's ability to borrow and at what cost, since "stimulus" is by definition done with borrowed money. Greece is in no position to stimulate, and I suspect Ireland isn't a whole lot better off. The problem with the way you set the question up is that it assumes there is a solution that prevents the country from suffering a painful period of decline in its standard of living. And the truth may be that there is no way -- and that the choices are between different versions of pain that have different distributional consequences and play out over a different time horizon.

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Steven Pearlstein: That's it for today, folks. "See" you next week.

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