I didn’t make this title up, but it’s so clever I wish I had. Andy Xie, the Former Morgan Stanley Asia economist used this as the sub-header in a column in today’s Caixin editorial. Xie doesn’t buy the G-20 rhetoric that all is fine in the land of foreign exchange and trade. He sees the money printing, the currency volatility and the protectionist bluster as creating political instability.
The world seems full of smoke ahead of a world currency war. The weapon of choice is quantitative easing, a.k.a. QE. If you print a trillion, I’ll print a trillion. Of course, he and she will too. No change in exchange rates after a trillion? Let’s do it again, QE2. If you listen to people like Geithner, the end of the world is quite near. Rich people everywhere are buying gold for a little peace of mind, not just the Chinese. They are literally trucking it by the ton or two home. When currency values vanish in a QE melee, at least the rich have the gold to stay rich.
If you listen to American pundits, politicians or government officials, it’s all China’s fault. China is far from perfect. Its currency policy certainly isn’t. But it is not the cause for the world’s ills. The U.S. is by far the biggest source of uncertainty and the initiator of the QE war. Its elite created the biggest financial bubble since 1929, even removing regulations designed to prevent it, and left the U.S. economy in shambles after its burst. The same people want to find a quick cure to hold onto their power. Unfortunately, there is no quick cure.
The U.S. has cut interest rates to zero and run up the budget deficit to 10 percent of GDP. It’s a shock-and-awe Keynesian policy. But, after a few quarters of strong growth, the economy is turning down again, and the unemployment remains close to 10 percent. And this figure would be much higher, close to 20 percent like Spain’s, if it included the underemployed and those who have stopped looking for work.
The stimulus has failed.
How should one interpret the result? If you were Paul Krugman, you would say it wasn’t enough. Of course, if 20 percent of GDP in budget deficit and another round of QE still don’t work, he would say not enough again. You can never prove Krugman wrong. Such a smart fellow.
I take Xie’s point here. When I pointed to the 20-year depression in eastern Germany despite massive stimulus or the 20-year depression in Japan despite large stimulus, high deficits and mounting public sector debt, I got the "but they never stuck to their guns. They needed to really jam it on. And they have not done so" chorus from some readers. On Japan, even my friend Marshall Auerback takes me to task, as the Japanese have been very ‘stimulus on, stimulus off, stimulus on’ over the past two decades. What are we to make of this?
My take: Krugman did say the Obama administration’s economic policy wasn’t going to get it done from the start. He also predicted the likely response (see here):
I see the following scenario: a weak stimulus plan, perhaps even weaker than what we’re talking about now, is crafted to win those extra GOP votes. The plan limits the rise in unemployment, but things are still pretty bad, with the rate peaking at something like 9 percent and coming down only slowly. And then Mitch McConnell says “See, government spending doesn’t work.”
OK. I said the same thing at the time. And yes the Obama Administration blundered in over-promising 8% unemployment, which makes it hard to now say stimulus did help prevent a Depression. Eventually, though, you have to concede to the political reality – one which you predicted, that Mitch McConnell could convincingly say “See, government spending doesn’t work.” It’s just not credible to go back to the well for more of the same.
So what do you do? You change tack. Like Xie, I say you admit that it will take longer for the economy to recover from a massive credit bubble and that stimulus, while warranted, is not going to ever be enough in and of itself. These things will take time. But wasn’t this always the right way of seeing this? In my view, it is counter-productive to say otherwise because voters will lose faith.
Xie points out that the US economy was "in a misallocated state." We had a huge over-investment in financial services and real estate, over-consumption and a lack of savings. The goal should be correcting this. I cannot support stimulus if its only goal is to prolong this. When you have the Federal Reserve chasing rates down to zero for an "extended period" and government officials explicitly saying they want to prop up asset prices artificially, you know that stimulus is not designed to correct the "misallocated state." It is designed to perpetuate it, lengthening and worsening the economic pain.
But instead of trying to successfully steer the US to a new economic paradigm, America is now turning to option #3, protectionism – pointing the finger at China and saying "That’s the bad guy." As Xie says:
The third interpretation is that it’s China’s fault. Yes, China’s exports to the U.S. rose sharply during its stimulus-inspired pickup, i.e., the stimulus partly went to China. But, whose fault is it? Apple makes all the iPhones in China, because it costs under US$ 20 each, even after the massive wage increase for Chinese workers. Apple’s gross margins are 30 times the processing cost that goes to China. Maybe Apple is an extreme example. But, the fact is that China’s exports to the US are American goods that retail for 3-4 times of the factory-gate prices. American companies want to make the goods in China to satisfy the stimulus-inspired demand.
People like Geithner would argue that China should raise the currency to force American companies to move production back to the U.S. I suppose that that is how the whole yuan appreciation idea may work. But, at what exchange rate would the American companies want to do it? American wages are ten times China’s. Should China increase its currency value ten times?
Of course, the American pundits wouldn’t put it that way. They would talk about China’s trade or current account surplus and the rising forex reserves, the prima facie evidence of currency manipulation. I don’t want to deny that the rising forex reserves are a problem that China must tackle with. But, it is a separate issue from the US economy. The solution isn’t yuan appreciation either.
If the US didn’t have a deficit with China, it still would have a deficit with ninety other countries. The problem is not just China; it is also the low household savings rate. When the household savings level increases, the current account deficit decreases. So, what you would see if the household sector increased its net saving is a reduction in the current account deficit. I’ve covered this ground. Why aren’t American politicians focusing on this – something they can actually fix?
I don’t see the US backing away from the protectionist rhetoric unless we see a dramatic change in the economy. Tariffs are where it’s headed right now.
In the meantime, let’s just print a trillion more dollars and see if that does the trick.
Source: QE: The Numberless Oblivion – Andy Xie, Caixin Online