Friday, February 26, 2010

Simon Johnson Should Just Shut Up, Already

China's central bank has accumulated massive amounts of Treasury securities. This is nothing more than China propping up the dollar. Further, the accumulation of the Treasury securities has acted liked a sponge that has absorbed a significant amount of the new debt issued by Treasury.

China's propping up of the dollar has been a bonanza for U.S. consumers, since dollars are more valuable then they otherwise would be on international exchange markets. It has also been a huge gift to the U.S. government, since without the Chinese market interventions a U.S. debt crisis would most likely be roiling the markets right now.

It is true that the propping up of the dollar does limit U.S. exports. However, the resources that would be directed toward producing exports can now be redirected to producing other goods for the U.S. market. Thus, it is a win, win for U.S. consumers.

The intervention does damage the standard of living of the Chinese, since it makes the importation of U.S. goods much more expensive. It further leaves the Chinese government in the akward poistion of holding huge amounts of Treasury securities that it has no clue as to how to liquidate.

It is, in other words, a terrible policy for internal China. It only helps Chinese exporters.

Yet, in the world of bizarre economic thinking, the Chinese fight the idea that they should stop propping up the dollar, while U.S. economists devise plans that call for the U.S. to demand that China stop its dollar support.

The latest to propose and end to this gift from China is MIT Professor, and former chief IMF economist, Simon Johnson. He writes in NYT:
The exact amount of China’s foreign-exchange reserves is not knowable based on publicly available information. But a reasonable working assumption is that China owns close to $1 trillion of United States Treasury securities. That would be nearly half of the stock of Treasuries thought to be in the hands of “foreign official” owners, which was $2.374 trillion at the end of 2009, and just under one-seventh of all American government securities outstanding ($7.27 trillion, of which $3.614 trillion was held by all foreign owners, official and private, at the end of 2009).

China holds such large reserves because it intervenes to buy dollars in order hold down the value of its currency, the renminbi. It is in the interests of both the United States and global economic prosperity that China allows its currency to appreciate. Foreign-exchange market intervention on this scale is a breach of China’s international commitments (as a member of the International Monetary Fund) and constitutes a form of unfair trade practice.

If China were to end its intervention, the renminbi would appreciate substantially, likely in the region of 20 to 40 percent. The primary effect would therefore be an effective depreciation of the American dollar against the Chinese renminbi – and against all other countries’ currencies that are implicitly pegged to the renminbi (more precisely, to the dollar rate with an eye on China’s competitiveness).

Such a change in the value of the dollar would help expand our exports and improve our ability to compete against imports; .
It is true, as I said, that U.S. exports would improve, but overall it appears that Johnson has taken this part of the equation and is treating it as though it is the entire equation, when it is nothing of the sort,

First, when Simon writes:
...this would aid in the process of recovery, job creation and broader adjustment in the American economy
He ignores the fact that China has been propping up the dollar for years, which means that here in the U.S. the jobs that would have gone into export production have been redirected to other sectors. A Chinese halt to its propping up of the dollar would, thus, not create new jobs in the U.S. but rather transfer jobs away from domestic production. It would thus lower the standard of living for those living in the U.S.

Simon's position suggests the absurd situation that there is a part of the unemployment rate that should be labeled, "People sitting around waiting for China to stop propping up the dollar."

Further, he fails to mention the huge elephant in the room, China's massive Treasury security purchases and what it would nean to the Treasury market if China stopped buying Treasury securities. Does he really think that the debt markets will remain stable if China stops adding to its Treasury portfolio?

Bottom line, China's foreign exchange intervention is a huge gift to the U.S. It is a mad policy as far as China's domestic policy is concerned. An end to the policy would cause a dramatic lowering of the standard of living in the U.S. and would cause crisis like conditions in Treasury debt markets. U.S. economists should really just shut up about China's policy that bails out the U.S. and damages China, and hope China never figures out what it is doing to itself.

Please, somebody give Johnson a quick kick under the table.

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