One hopes Ben Bernanke and the Fed gang are reading the Drudge Report, where the top news items one day last week were: Enlarged U.S. deficits allow Switzerland to displace the United States as the world’s most competitive economy; Obama asks the Senate to raise the debt ceiling beyond its current $12.1 trillion level; the United Nations continues its push for a “global currency” to displace the U.S. dollar as the world’s go-to reserve; and — this will be no surprise, given the other headlines — the ChiComs are freaking out.
China’s role as enabler of American borrowing is often exaggerated and greeted with irrational suspicion, what Bryan Caplan probably would identify as garden-variety anti-foreign bias in American political thinking. We would be less worried, probably, if it were Canada or Britain holding vast reserves of dollars. It is worth bearing in mind, though, that the Middle Kingdom has its own robust tradition of anti-foreign bias, and that Beijing’s actions may not always follow the rational model of Homo economicus. That is why last week’s alarmed assessment of U.S. monetary policy from Cheng Siwei, a Communist-party princeling currently entrusted with China’s green-economy initiative (which is to say, he’s Beijing’s Van Jones, but less committed to Communism), deserves attention: “If [the Fed] keeps printing money to buy bonds it will lead to inflation,” he said, “and after a year or two the dollar will fall hard. Most of our foreign reserves are in U.S. bonds, and this is very difficult to change. So we will diversify incremental reserves into euros, yen, and other currencies.” Cheng added that China would like to invest in gold — which topped $1,000 an ounce as he spoke — but so heavy is China’s presence in the gold market that the price rises when Beijing buys and falls when it desists, presenting all sorts of complications to their money managers.
Cheng’s economic analysis may or may not be naïve, but naïve economics very often shapes public policy, even under undemocratic regimes. China will diversify, he says, and that is not news. The question is, How fast? Cheng’s public pronouncements suggest that Beijing may be looking to ramp up that schedule, and the government that Cheng represents controls about $2 trillion in dollar reserves, the world’s largest accumulation of same. China’s ability to move the gold market suggests a similar ability to move the dollar market. The Chinese have not much economic incentive, of course, to sink the greenback, and every economic incentive to keep it strong. But they are worried about those dollar-denominated investments, and there is a price, presumably, that they would be willing to pay in exchange for having less to worry about. Which is to say, there’s no reason for us to panic — unless they panic.
Panic is a catchy thing. First, the obligatory disclaimer: The sky is not falling, neither over Washington nor over Beijing. There is, in fact, almost no sign of inflation on the American horizon at the moment — the great worry during the financial crisis was deflation — though there are plenty of gut-level reasons to suspect that may change, and that such a change could come with brutal speed and little warning. Second, we should remind ourselves — though doing so increasingly has the character of prayer — that the size of our national debt relative to our economy, while large and worrisome, is not out of proportion when compared with that of other countries with which we are accustomed to comparing ourselves: Our national debt is 60.8 percent of GDP, Canada’s 64 percent, France’s 68 percent, Italy’s 101 percent, and Japan’s 173 percent.
About that: How much does the United States really resemble Italy? Or Switzerland? Supply-siders have traditionally minimized the importance of the U.S. debt and deficits, pointing to Japan and Europe for comparison. I myself believe that it does not make as much sense to compare the United States to, e.g., Canada as we seem to think. Canada is a sparsely populated, relatively homogeneous, relatively undynamic country with which we happen to share a border and three-fourths of a language. Likewise, the United States has much less in common with Britain, the nations of Western Europe, and Japan than we habitually assume.
In terms of population size, socio-cultural diversity, and economic dynamism, one might argue that the United States much more resembles India, or possibly China, albeit a very rich version of India or China. China and India are the two most populous countries in the world; the United States is No. 3. In our diversity and dynamism we resemble India; in our status as a world economic and military power we resemble China. What do their national debts look like? India’s is 61 percent, quite close to our own. China’s is 16 percent, i.e., basically nothing. That may not be as much an economically significant fact as a politically significant fact: An authoritarian regime with few debts, lots of assets, high growth, and lots of income from trade has very different incentives from a democratic regime with lots of debt, a politically unpopular trade deficit, and a partly lamed banking-and-finance sector — one that is vulnerable to a second financial crisis (for instance, one involving the $700 billion in securities backed by unsteady commercial mortgages that may do now what residential mortgages did last year) as well as to general consumer-price inflation and to investment bubbles.