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The US's China Syndrome


Momentous changes -- and correction of the trade deficit -- are inevitable.

During the recently completed Strategic and Economic Dialogue, high-level Chinese and US officials spent 2 full days dancing around key issues without seriously engaging in any truly substantive dialogue. In fairness, it was perhaps useful to stage a "get acquainted" feel-good session between officials in both administrations to try to set a new positive tone in a bi-lateral relationship that, in the past few years, has been on the rocks.

However, unfortunately, there's no way to way to get around the fact that there's a structural problem at the heart of US-China economic relations that's largely zero sum in nature. Dealing with the massive US-China trade imbalances is inevitable. And resolution of this problem, even a partial one, is going to entail zero-sum losses. And in this case, there's little question that the main loser is going to be China.

If there's one picture that can sum up the inexorable fact that China stands to lose the most from the correction of global trade and capital flow imbalances, it's this:

What this graph shows very dramatically is that the US doesn't have a general problem of economic competitiveness, nor is the dollar substantially overvalued relative to the major currencies in the world. A brief perusal of the graph demonstrates clearly that, in terms of trade competitiveness and the concomitant soundness of its currency, the US has one major problem, and its name is China.

In this graph, we can see that the non-oil trade deficit with China, which has been growing steadily and dramatically for the past decade, currently represents 83% of the total non-oil trade deficit of the United States. Only 17% of the US's non-oil trade imbalance --representing a negligible proportion of its GDP -- is attributable to non-oil trade with the rest of the world.

For example, the US trade position vis-a-vis Europe is one of a modest deficit -- a deficit that's eminently manageable and poses little long-term threat. Indeed, a modest trade deficit with Europe can be considered the natural consequence of a relatively more dynamic US economy (i.e. higher structural growth rates) and the fact that the US is a more attractive destination for investment (i.e. accounting identity means that a modest structural capital account surplus will drive a modest current account deficit).

This implies that the value of the US dollar is currently within a range that can be considered roughly within "fair value" parameters with respect to the euro. A similar conclusion would apply, on balance, to the US trade position vis-a-vis most of world's other major economies and most of the world's major currencies.

It's true that the increase in US imports from China has come partially at the expense of other emerging nations (particularly other Asian nations). However, even taking this factor into account, if you eliminate the trade deficit with China -- which has been growing steadily and dramatically in the past decade -- the overall US trade imbalance virtually vanishes to levels eminently manageable in the long term, taken as a percent of GDP.
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