One of the important lessons this recession has taught us is the limits of depending primarily on American consumers and Asian exports to drive growth. Because when Americans found themselves in debt or out of work, demand for Asian goods plummeted. When demand fell sharply, exports from this region fell sharply. Since the economies of this region are so dependent on exports, they stopped growing. And the global recession only deepened.Obama went on to express vague support for the pending FTA with South Korea and indicated that the United States would - at some point - restart formal negotiations to join the Trans-Pacific Partnership (TPP) FTA, which currently includes Brunei, Singapore, Chile and New Zealand and could serve as a platform for a larger pan-Pacific agreement. (The US already has FTAs with Singapore and Chile.) A day later, he repeated most of these statements in a separate speech in Singapore.
We have now reached one of those rare inflection points in history where we have the opportunity to take a different path. And that must begin with the G20 pledge that we made in Pittsburgh to pursue a new strategy for balanced economic growth.
I’ll be saying more about this in Singapore, but in the United States, this new strategy will mean saving more and spending less, reforming our financial system and reducing our long-term deficit. It will also mean a greater emphasis on exports that we can build, produce, and sell all over the world. For America, this is a jobs strategy. Right now, our exports support millions upon millions of well-paying American jobs. Increasing those exports by just a small amount has the potential to create millions more. These are jobs making everything from wind turbines and solar panels to the technology you use every day.
For Asia, striking this better balance will provide an opportunity for workers and consumers to enjoy higher standards of living that their remarkable increases in productivity have made possible. It will allow for greater investments in housing, infrastructure, and the service sector. And a more balanced global economy will lead to prosperity that reaches further and deeper.
For decades, the United States has had one of the most open markets in the world, and that openness has helped fuel the success of so many countries in this region and others over the last century. In this new era, opening other markets around the globe will be critical not just to America’s prosperity, but to the world’s.
An integral part of this new strategy is working toward an ambitious and balanced Doha agreement – not any agreement, but an agreement that will open up markets and increase exports around the world. We are ready to work with our Asian partners to see if we can achieve that objective in a timely fashion – and we invite our regional trading partners to join us at the table.
Now, despite the obvious ambiguity, Obama's talk of Doha, FTAs and exports is all welcome news, but I want to focus on the President's new "Asia strategy" for now. What the heck is it? No, seriously. How is this dramatic trade "rebalancing" going to work?
From what I can surmise from Obama's statements, the focus of his Asia strategy will be to reduce the US trade deficit. His approach has three main "pillars": (i) reducing barriers to US exports in Asia; (ii) increasing domestic consumption throughout Asia (particularly China); and (iii) reducing US consumption and spending. Thus, the US will import less and export more, and the Asian economies will export less and import more. And the trade deficit will shrink (as will corresponding bilateral capital flows). The increased US exports will provide lots of good-paying American jobs, and the increased foreign consumption will ensure more stability (i.e., independence when/if economic calamity strikes again).
I think that pretty much sums it up. But if this is the President's big strategy, it's two parts nonsense, and one part disturbing harbinger of his future domestic agenda. Let's look at the facts, shall we?
As an initial matter, it's important to reiterate that the trade deficit is not - repeat NOT - a sign of economic distress (see here for more). As the US economy (measured by GDP growth) expands, the trade deficit historically increases because American businesses and families are increasing their consumption of imports. Thus, the trade deficit has historically been a sign of good economic times, not bad ones. Indeed, the current recession is proof positive of this relationship, as the trade deficit shrunk dramatically in the first half of 2009 while GDP growth was depressingly negative, and is only now increasing again as the US economy has started expanding. So, it's hardly a given that US and Asian policymakers should be focusing on rebalancing the trade deficit at all. It's also not a given that a reduction in the US trade deficit will necessarily lead to more jobs. Indeed, we were running massive deficits in the 90s and 2000s, and unemployment was low and stable.
But for now, let's put these important fundamental questions aside and focus on the three pillars of the President's Asia strategy. I think they provide a pretty clear picture of where we're heading, and it ain't pretty.
PILLAR #1: Increased Asian market access. Lowering trade barriers in Asia will not dramatically alter US-Asia tradeflows and the US trade deficit because trade liberalization has only a minor effect on overall trade levels. Instead, global incomes and personal savings/consumption dictate why some countries run trade surpluses, and why the United States consistenly runs a deficit. As Dan Ikenson and I explained earlier this year:
The Chinese have been big savers throughout their process of economic liberalization, which began in 1978. Americans, on the other hand, have tended not to save very much. Some might want to chalk that up to American profligacy or evidence of declining industriousness and virtue, but the fact is that one of the reasons for low US savings rates is that foreigners have traditionally preferred investing in the United States over other economies. The availability of foreign capital has helped drive US business expansion as well as helped tip the balance in favor of spending over saving for many Americans. Relatively low interest rates have made spending more affordable and saving less prudent.Historical data support our assertions. According to a 2008 Cato Institute survey of economic research, almost 70% of the post-WWII increase in global trade was caused by rising global incomes. Indeed, only 25% of the increase can be attributed to the removal of market access barriers. So the first pillar of President Obama's Asia strategy - increased market access for US exports in Asia - will have relatively little effect on the balance of trade between the US and Asia.
Foreign investment in U.S. real estate, factories, equities, and government debt—all reflected in the large U.S. capital account surplus— helps explain low U.S. saving rates. The surplus of foreign capital (which mirrors the deficit in the current account) has kept U.S. interest rates low, and interest rates are the cost of current spending vis-à-vis saving. When interest rates fall, the cost of spending versus saving also falls.
It is these differences between the United States and other countries in levels of consumption and saving that explain the current large U.S. account deficit and the equally large capital account surplus. Neither is much a function of trade policy.
PILLAR #2: Increased Asian consumption of US exports. As indicated above, the second pillar of Obama's trade strategy - increased Asian consumption - is more economically sound than the first pillar because domestic consumption and savings actually do impact tradeflows. But there's still one big problem with Pillar #2: it's completely and utterly unrealistic in the near term. The Chinese have been attempting to stoke domestic consumption for years now, but to little avail. Indeed, such consumption is the "holy grail" of Chinese economic policy because it will decrease China's reliance on exports - and the health of export markets - to maintain full employment (the Chinese government's primary policy motivation). Yet despite the billions and billions of dollars that the Chinese government has funneled into its economy in order to jumpstart domestic consumption, China remains pretty dependent on exports for economic growth. And many other Asian economies are in the same boat.
There are two main reasons for the lack of domestic consumption in Asia: (1) culture; and (2) per capita income. (Note that trade is not mentioned here.) On the former, the Chinese people, and many of their Asian counterparts, are simply predisposed to save rather than consume. Of course, government policies - including strong investment protections, social safety nets, and a strong rule of law - can help encourage domestic consumption, but they can't do very much in the near term. The Chinese government has started to alter its domestic policies in order to encourage more consumption, but it has found this traditional cultural predisposition difficult to overcome.
On the latter reason, a simple review of per capita GDP (adjusted for country-specific purchasing power) explains why most Asian countries can only consume so much: their people remain relatively poor, particularly in comparison to their American counterparts. According to the stats linked above, 2008 per capita GDP was about $3000 in Vietnam, $4000 in Indonesia, $6000 in China, $8000 in Thailand, and $14,000 in Malaysia. By comparison, per capita GDP is almost $47,000 in the United States. So a quick and dramatic increase in Asian economies' domestic consumption is pretty much impossible. (And it also explains why Americans consume so darn much.) The "imbalance" here is systemic, and it's not going to change anytime soon. (And for anyone who thinks that Chinese currency appreciation is a silver bullet here, you might want to check out the miniscule change in consumption patterns that resulted from the 2005-2007 RMB appreciation.)
So Pillar #2 appears to be off the table, at least for the next several years.
PILLAR #3: Decreased US consumption. As noted above, US consumption patterns can affect tradeflows between Asia and the United States, and unlike Pillar #2, there are things that the US government can do to decrease or discourage domestic consumption. In particular, the government can (1) devalue the dollar; or (2) tax consumption. The dollar has declined significantly over the past few months, and most people think that it'll drop more in the future. That said, the dollar is only back to mid-2008 levels, and there are serious reasons to doubt that the dollar will be devalued to the point that it has a significant and long-term effect on US-Asia trade. First, the Chinese (and other major holders of US debt) would freak out, as their debt-holdings and investments became less and less valuable. Second, US consumers - already battered by the current recession - would face a massive, implicit tax hike, as most of the things they purchased would suddenly become much more expensive. (And the government wouldn't derive a dime of revenue from this "tax.") Third, investment into the United States would collapse (something I discuss here at length) - hardly a recipe for job growth. So a big dollar devaluation is unlikely.
That leaves consumption taxes. The White House and Congress are already pushing a huge tax on energy (through Cap and Trade) that would certainly decrease domestic consumption of energy-intensive products (especially if it includes carbon tariffs on imports of these goods). But Cap and Trade appears dead in the Senate this year, and the White House has already hinted that the legislation might need to be shelved so the administration can focus on deficit-reduction and jobs policies in 2010.
On the other hand, several high level Democrats - including those inside the White House - are openly contemplating a Value-added Tax (VAT) on all domestic consumption. The VAT not only would significantly temper American consumption, but also would raise massive amounts of new revenue for the cash-strapped US government to pay down its debt (also mentioned in Obama's "strategy" speech) and/or finance major new government programs like trillion-dollar health care "reform." Finally, VATs are not collected on export sales, and any previous VAT paid on inputs used to make the exported product is typically refunded at the border. So exports gain new preferential status in the US economy under a VAT system. In sum, a VAT would be a classic three-fer for the Obama White House: discouraging US consumption, encouraging exports, and (sneakily) raising oodles of revenue for the federal government. Of course, whether it's actually good for economic growth is a totally different matter (hint: it isn't).
In this light, Obama's odd "Asia strategy" makes a lot more sense: he's essentially giving notice to China and other Asian economies that rely - at least in part - on American consumption that such consumption is going to be dramatically tempered by a new VAT - a policy that also will encourage US exports and help quell fears about an exploding US deficit and an imploding US dollar. Pillars #1 and #2 are just window dressing.
Of course, the President and his party could avoid all of this "rebalancing" nonsense and encourage strong US and Asian economic growth if they would just stop spending money that the United States doesn't have and lower taxes (particularly capital gains and payroll taxes), not raise them, to encourage savings, investment and hiring. But that's not how they roll (as the $2 trillion ObamaCare debacle and the President's $3 trillion budget make abundantly clear). Instead, they're scheming to find a new, secret way to confiscate lots of taxpayer money, discourage American consumption, and boost exports. Cripes.
So open your wallets, everyone. The VATman cometh. Let the "rebalancing" begin.
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