Scott Sumner Destroys Financial Times Fear of China

This article was first published by me on Talkmarkets. The pandemic has complicated our relationship with China. Yet we have prospered from the relationship in recent times until the trade wars of Donald Trump reversed that prosperity.

The Financial Times has come out with an article fearful of China. Scott Sumner of the Mercatus Center decimated it. For the FT, fear of losing a cultural war with China must be widely understood. The FT said:

 While tariffs are President Donald Trump’s personal preoccupation, fears over losing an economic and cultural war (and possibly a real one at some point) with China is a worry that is shared broadly in the US, no matter what circles you travel in.

Sumner destroys the FT author's arguments by pointing out a few choice facts:

1. The worry of losing a cultural war with China is not widespread. Both Sumner and I have never met anyone who worries about that. I watched Japan movies like Godzilla, but confess I have never watched a Chinese movie. I am sure Chinese folks have watched a boatload of US movies.

2. Many companies in America do not have the freedom to sell technologies in China, making the FT author's claim that American companies can sell where they like not universally true. Globalization means you sell where you can and make money. Globalization is not inherently evil. But there has to be a common sense approach, not forcing nations to bend to the will of the United States or to US big finance. There is a dark side to globalization. It usually involves politics.

3. We worried that Japan would overtake us. Never happened, really. Yes, they sell cars. But they performed better with fewer needed repairs. The parts from Japan actually have improved American cars and their performance! Japan puts factories in America and Japanese citizens love American products. Both nations have prospered from the relationship.

Americans must grasp that China is potentially the largest and most wealthy customer for US business. If it were a mine it is the largest mine in the world. American business must mine China! Chinese people love US products!

USA had massive tariffs in its early development, far greater than the average of 14 percent for China. Chart was uploaded by Wikipedia user James4 for common use.

As Dr. Sumner said at Econolib:

Moving a country of 1.4 billion people from middle income to high income is a huge gain in welfare.  In fairness, this will occur regardless of what policy the US adopts regarding technology transfer, but it will happen faster with a liberal regime.  Some might ask why we should care about the welfare of the Chinese.  I’d ask people to first consider why we should care about the welfare of anyone outside our friends and family.  The answer is simple; it’s the right thing to do.

Continuing to cultivate that relationship will advance prosperity. As I have written before, the Chinese already buy a third of the luxury items produced worldwide. What reasonable nation seeks to undermine its largest customer all in the name of a culture war? Would this be happening if the Chinese were Occidental folk? One wonders.

Unless the culture war is an excuse for attempted world economic domination, which would be equally as disturbing. After all, the USA dominated world economics after WW2, yet our cars were lousy. It took healthy competition from Japan to improve our automobile quality. These political notions of superiority do not translate to real economic superiority.

One of the biggest issues regarding China is moving the nation, which has pockets of wealth but is a huge nation, to a more general prosperity. Jake Werner of Foreign Policy in Focus has written an eloquent defense of China behavior. He sees that China needs to pull itself past Brazil, Egypt, and other nations or it will be stuck in a middle income malaise that won't work with so many people. 1.4 billion plus people expect more. Werner says:
The emerging confrontation with China is only the latest sign that something has gone seriously wrong in the global economy. China critics are not wrong that the United States and China are now trapped in a zero-sum competition for economic growth. The problem, however, is not Beijing but the structure of the global economy itself. As it becomes increasingly clear that the existing form of globalization has exhausted its potential to advance development, vilifying China has become a substitute for facing honestly the urgent need to transform the nature of global growth.

What they fear above all else is that China might fall into the "middle-income trap," in which a country's developmental trajectory levels off and stagnates well short of advanced status.  
We do not know how the future will pan out as to the extent of tariffs, but it appears that the American obsession with keeping China down has reached frenzied proportions. The result may not keep China down, but will likely close doors once open to the United States.

The currency wars that will follow massive tariffs could drive the Chinese Yuan down to more than 7 renminbe per dollar. This would make it prohibitive for many Chinese tourists to come to the USA. It will hurt American retail, airlines, Las Vegas, and other major tourist destinations. The US depends upon Chinese purchasing power in many ways.

Yes, the Chinese want to support the Yuan to make it acceptable as an international currency. But in survival mode, that could be put on hold. The Yuan was allowed to fall close to the breakthrough point of 7 per dollar until the PBOC intervened.

Add to all this the fact that China is binging on dollar denominated debt, and we see that China may not need to sell US treasuries in order to even the tariff conflict likely coming. No, if China continues to binge on dollar denominated debt when it does not need funding, it could become the tail that wags the dogs (US banks)!

It is my opinion that China could put up with so called hot money flows just to be able to offset any efforts Donald Trump may have to ramp up economic sanctions or tariffs on China. The banks that loaned this money to China are likely strongly leveraged.

As for the Yuan and foreign debt, we can see that:

The yuan's fall does not seem intentional. 
The reason: the weaker the yuan, the greater the risk of defaults on overseas debt. The market for dollar debt for Chinese companies barely existed in 2008. Today, it stands at about $500 billion. Not an amount that fuels panic about systemic risk, with Beijing sitting on more than $3 trillion of foreign-exchange reserves. Defaults on overseas loans, though, have a way of shocking even the strongest of political systems.

[Tariff] action on another $200 billion may be coming -- on the way to as much as $505 billion. The fallout makes it even harder to raise capital. Any slowdown in growth will ricochet back at China's weaker credits.

The war China could wage in a tariff war could be defaulting on this $500 billion dollars of debt. That would drop the Yuan like a rock, and hurt western banks enormously. The borrower (China) would have massive leverage over the financial system while still being the banker to the US government! Manipulation of the currency would be unnecessary if China decides to ding its own credit worthiness!

There is no need to fear China unless it is provoked. Hopefully, it is proven that that reckless course of action would be just plain stupid on many levels.


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