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Blaming 'undervalued' yuan wins
votes
By Henry C K Liu
With
the 2004 US presidential election drawing near, the
trade deficit is again a campaign issue. Proponents of
globalization have long argued that the US current
account (trade) deficit is not a serious concern since
it is being financed by a capital account surplus
supplied by America's trading partners, providing ample
debt financing for the dollar economy. Imports from
low-wage countries have kept the dollar inflation rate
low, with attendant benefits of low interest rates and
high liquidity. For more than a decade, the loss of US
blue-collar manufacturing jobs was accepted as what
Federal Reserve Board chairman Alan Greenspan called
"creative destruction", a distortion of Joseph A
Schumpeter's concept of survival of the economically
fittest through continuous innovation.
Notwithstanding that 2.1 million jobs have left
the United States since President George W Bush took
office in January 2001, the dollar economy has not lost
manufacturing jobs; it merely relocated them overseas
for more productivity per unit of investment. US
transnational companies are still employing a growing
global workforce for the benefit of US consumers through
cross-border wage arbitrage and dollar hegemony, which
permits a fiat currency of the world's most indebted
nation to retain the privileged status of reserve
currency.
Thus when US job growth slows, the
stock market, which measures the global performance of
companies, rises. US labor unions have watched
helplessly the drastic drops in membership that
translate into loss of political leverage in shaping US
economic policy. Greenspan told Congress that "thinking"
jobs are better than "doing" jobs. The United States
will keep high-paying jobs in financial services,
management, design, development, sales and distribution
- and let the emerging economies have the low-paying
assembly-line jobs in factories owned by US companies.
Even small business, a key component in job
creation, is increasingly taking advantage of low-cost
telecommunication and transportation to play the
wage-arbitrage game through cross-border outsourcing.
Now that the effects of cross-border wage arbitrage are
hitting the high-tech sector, laying off highly paid US
high-tech workers and giving their jobs to cheaper
workers overseas, the political reverberations are
louder. In this jobless recovery, these better-educated
workers have the political clout to turn US policy
toward protectionism.
The impossible dream:
Bringing back low-wage jobs
Yet the structural
characteristics of globalization make the prospect of
bringing low-paying manufacturing jobs back to high-wage
locations an impossible dream, unless US workers are
prepared to work for below-living wages and US
industries are prepared to live with the stricter US
labor and environmental regulations. The dollar economy
grows at the expense of US domestic employment. The high
yields on workers' pension-fund investments are robbing
the same workers of their jobs.
This structural
crisis has been masked by the unprecedented expansion of
US consumer debts, which now exceed US$9 trillion, or 90
percent of gross domestic product (GDP). This is
collateralized by the wealth effect of high returns on
worker pension funds invested in the stock market and
the inflated value of their homes. Total credit-market
debt for all sectors is now 299 percent of GDP. In 1984,
when consumer debt stood at only 50 percent of GDP, it
drove the market three years later, in 1987, to a severe
crash, which Greenspan bailed out with a flood of
liquidity that released the biggest financial bubble in
history - it burst first in Asia in 1997 and finally in
the US in 2001.
Imports from low-wage countries
such as China are resold in the United States at a
greater profit margin for US importers than that enjoyed
by Chinese exporters. Thus a $2 toy leaving a US-owned
factory in China is a $3 shipment arriving at San Diego.
By the time a US consumer buys it for $10 at Wal-Mart,
the US economy registers $10 in final sales, less $3
import cost, for a $7 addition to the US GDP. This
yields a ratio of GDP gain to import value of
two-and-a-third.
Chinese GDP gain to export
value ratio is zero if the $2 export price becomes part
of the US capital account surplus. If half of the $2
export price is used for paying return to foreign
capital, then the ratio is in fact negative. The numbers
for other product types vary, but the pattern is
similar. The $1.439 trillion of imports to the United
States in 2002 were directly responsible for some $3.35
trillion of US GDP, almost 32 percent of its $10.45
trillion economy. That is why US policymakers have no
incentive to reduce the trade deficit. But during a
presidential campaign, blaming it on China's undervalued
yuan gets votes.
In 2003, Chinese exports
worldwide reached $430 billion, with imports of $410
billion, yielding a $20 billion surplus. The trade
volume between China and the US hit a historic high of
$126 billion in 2003. China has become America's
third-largest trade partner. Chinese imports from the US
reached $34 billion, while exports to the US exceeded
$92 billion. China's worldwide trade surplus for 2003
was $25.5 billion, meaning that more than half of the
surplus from the United States went to cover Chinese
deficits with other trading partners.
Chinese
consumers can't afford their own exports
Since
Chinese export value constitutes only 20 percent of its
final market price, economies that buy from China enjoy
a greater GDP growth from trade ($2.15 trillion) than
China does. Since China imports at full market price
with little markup, China does not enjoy any GDP add-on
from its imports. Fair trade between two economies with
disparity in wages and living standards then requires a
trade surplus for the less advanced economy.
If
the $430 billion of Chinese worldwide exports were
consumed domestically at their final market price, $2.15
trillion would be added to China's 2003 GDP of $1.41
trillion, more than doubling it. The higher the trade
surplus in China's favor, meaning more goods and
services leaving China than entering, the more serious
is its adverse impact on China's GDP. Chinese consumers
cannot afford the products they produce for export - not
because Chinese workers are not productive, but because
their wages are too low, which ironically does not make
Chinese products as competitive overseas as can be
because of high markup by foreign importers.
Greater profit margins enjoyed by the importing
economy raise apparent productivity because sales per
employee increase from the factory floor toward delivery
to the consumer. Thus the productivity growth in the US
has been achieved by having cheap labor doing the
producing overseas. Also, the closer final assembly is
to retail outlets, the higher its apparent productivity.
Through proximity to customers, sellers can gain
advantage in the assembly of imported major parts to
respond to changing customer orders. Thus US assemblers
who outsource their parts can win final sales away from
offshore integrated manufacturers who make the same
parts and assemble them abroad. Japanese car makers have
learned this lesson and are now assembling parts made
offshore in the US for the US market.
In the
high-tech arena, time to market of design innovation is
critical. By deferring cost through the use of employee
stock options, a local in the importing country can use
its high stock valuation driven by creative accounting,
and low production costs and low currency valuation and
interest rates in the exporter economy to raise low-cost
funds globally to subsidize production costs of the
final product further. The content of the products will
increasingly come from low-wage, low-margin exporting
economies, and the outsourcing assembler's manufacturing
involvement may be little beyond snapping outsourced
parts in place, advertised ad nauseam as a US brand.
Dell is a classic example, as is Disney's licensing
empire of made-in-China toys.
Highly indebted
emerging market economies, through the undervaluation of
their currencies to subsidize exports, ironically make
dollar debts more expensive to repay in local currency
terms. The moderating impact on US price inflation also
amplifies the upward trend of the trade-weighted dollar
index despite persistent US expansion of dollar monetary
aggregates, also known as money printing. Adjusting for
this debt-driven increase in the value of the dollar,
import volume into the US grew with the expansion of
dollar monetary aggregates, around 15 percent annually
for most of the 1990s. The US enjoyed a booming economy
when the exchange value of the dollar was rising, at a
time when interest rates in the US were higher than
those in its creditor nations.
Rising US
interest rates prolonged US boom
This led to the
odd effect that rising US interest rates actually
prolonged the boom in the United States rather than
restrained it, because they caused massive inflows of
liquidity into the US financial system, lowered
import-price inflation, increased apparent productivity
and prompted further spending by US consumers enriched
by the wealth effect of rising equity and real-estate
markets despite a slowing of wage increases.
This was precisely what Fed chairman Greenspan
did in the 1990s in the name of preemptive measures
against inflation. Dollar hegemony enabled the United
States to print dollars to fight domestic inflation,
causing a huge debt bubble with price deflation, pushing
up equity prices, which is called growth, not inflation.
The transition to offshore production is the
source of the productivity boom in the United States.
While published government figures of the productivity
index show a rise of nearly 70 percent since 1974, the
actual rise is between zero and 10 percent in many
sectors if the effect of imports is removed from the
calculation. The lower values are consistent with the
real-life experience of members of the blue-collar
working class and the white-collar middle class who have
to work longer hours to service their debts. Neither the
recovery nor the recent correction of the exchange rate
of the dollar will restore manufacturing jobs in the US,
unless the US is prepared to see its GDP drop by 25
percent. This is why Gregory Mankiw, chairman of the
White House Council of Economic Advisers, said last week
that outsourcing is a plus for the economy in the long
run.
Henry C K Liu is chairman of the
New York-based Liu Investment Group.
(A
shorter version of this article was published recently
in the Hong Kong Standard in two parts.)
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