Monday, January 16, 2006

800 Pound Gorillas

Not just one, but a whole pack of them are sitting in this story in the Washington Post.

Complying with the general theme of what I write here, the story is about China. This time U.S.-China relations and trade.

(Gorilla #1) It was announced that China's currency reserves are greater than $800 billion dollars. That is the equivalent of over 10% of China's estimated GDP. Part of the growth was spurred on by (Gorillia #2) China having to buy foreign currency to counteract its BOOMING export sector. China's trade surplus (the amount it sold to other countries minus what it bought from other countries) last year was $102 billion.

And so begins the name calling. U.S. manufactoring companies are complaining that the Chinese Yuan is undervalued--which generally would stand to reason--because a country that has ENORMOUS exports like China does, normally suffers consequences like currency valuation increasing because of all the goods flowing out and money flowing in.

So why doesn't China's Yuan increase in value (making Chinese goods more expensive, and giving American manufactorers a chance to compete)?

In large part because (Gorilla #3) of U.S. deficit spending. It's all well and good to want to fight wars (remember this war? or this one--page 4), cut taxes, and create one of the largest government expansions since FDR, but there is always going to be a consequence.

The consequence for the U.S. is that China's currency (which is substantially linked to the dollar) doesn't increase in value because the Chinese take much of the foreign currency it accumulates through exporting, and buys up U.S. debt. The result of this is that, ultimately, the money stays in the U.S. economy, not the Chinese economy, so they're currency doesn't have to change, and there is no market-based reason for ours to.

Ironically, then, the way to make American business competative globally again is to raise taxes. This would lower our deficit, limiting China's ability to buy our debt, and forcing them to either A. revalue their currency, or B. invest in our stock market giving our businesses the benefit of their capital. Another option would be to drastically reduce the size of the federal government. Here are some programs that are about the size of our estimated annual deficit that would help give us back our advantage:

  • the Defense Department
  • Social Security
  • Medicare and Medicaid
  • Everything Else
Believe it or not, each of these categories ends up being about 1/3 of the budget, or $400 billion dollars. And no, that's not a typo. The government spends about 33% more than it takes in every year, which means our budget is 133% of our tax revenue. Just let Congress know which of those you're willing to give up. I'm sure they can use a few good ideas. Otherwise, get ready for the Chinese to own a good sized chunk of the U.S.

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