Confidence in the Dollar

Henry C.K. Liu

This article appeared in AToL on July 2, 2009 as Dollar's Future in US Hands

Since 2008, I have been widely recognized on the internet as the person who changed China's policy regarding the dollar by advocating since 2002 that Chinese exports should be denominated in RMB yuan..
Chinese readers doing a google search on my Chinese name will find numerous posts to that effect.

The issue is not whether Asian central banks will continue to have confidence in the dollar, but why Asian central banks should see their mandate as supporting the continuous expansion of the dollar economy through dollar hegemony at the expense of their own non-dollar economies. Why should Asian economies send real wealth in the form of goods to the US for foreign paper of declining value instead of selling their goods in their own economy? Without dollar hegemony, Asian economies can finance their own economic development with sovereign credit in their own currencies and not be addicted to export for fiat dollars that repeatedly lose purchasing power because of US monetary and fiscal indiscipline. As for Americans, is it a good deal to exchange your job for lower prices at Wal-Mart? For a detailed analysis of the relationship of the Chinese currency to the dollar, please see my October 23, 2004 article)

In a September 2004 article, I wrote:
China needs to activate its domestic market to balance its overblown foreign trade.  The Chinese economy can benefit enormously by the aggressive deployment of sovereign credit for domestic development and growth, particularly in the slow-growth western and central regions.  Sovereign credit can be used to stimulate domestic demand by raising wage levels, improve farm income, promote state-owned-enterprise restructuring and bank reform, build needed infrastructure, promote education and health care, re-order the pension system, restore the environment and promote a cultural renaissance.  While exchange control continues, China can free its economy from the dictate of dollar hegemony, adopt a strategy of balanced development financed by sovereign credit and wean itself from excess dependence on export for dollars.  Sovereign credit can finance full employment with rising wages in the Chinese economy of 1.4 billion people and project it towards the largest economy in the world within a very short time, possibly in less than five years.  The expansion of its domestic economy will enable China to import more, thus also allowing it to export more without excessive and persistent trade gaps. Much needs to be done, and can be done to develop the full potential of China’s economy, but exporting for dollars is not the way to do it.

China is in the position to kick start a new international finance architecture that will serve international trade better.  China has the option of making the yuan an alternative reserve currency in world trade by simply denominating all Chinese export in yuan. This sovereign action can be taken unilaterally at any time of China's choosing.  All the Chinese State Council has to do is to announce that as of a certain date all Chinese exports must be paid for in yuan, making it illegal for Chinese exporters to accept payment in any other currencies. This will set off a frantic scramble by importers of Chinese goods around the world to buy yuan at the State Administration for Foreign Exchange (SAFE), making the yuan a preferred currency with ready market demand. Companies with yuan revenue no longer need to exchange yuan into dollars, as the yuan, backed by the value of Chinese exports, becomes universally accepted in trade. Members of the Organization of Petroleum Exporting Countries (OPEC), which import sizable amount of Chinese goods, would accept yuan for payment for their oil, so will Russia.  This can be done without de-pegging the yuan from the dollar and SAFE can retain it position as the exclusive window for trading yuan for other currencies without any need for new currency control regulations.  The proper exchange rate of the yuan can then be set by China not based on export to the US, but on Chinese conditions.
If Chinese exports are paid in yuan, China will have no need to hold foreign reserves, which currently stand at more than $480 billion [2004 figure, $2 trillion in 2009]. And if the Hong Kong dollar is pegged to the yuan instead of the dollar, Hong Kong's $120 billion foreign-exchange reserves can also be freed for domestic restructuring and development. Chinese trade surplus would stay in the yuan economy.  China is on the way to becoming a world economic giant but it has yet to assert its rightful financial power because of dollar hegemony.

There is no stopping China from being a powerhouse in manufacturing. Many Asian economies are trapped in protracted financial crisis from excessive foreign-currency debts and falling real export revenue resulting from predatory currency devaluation.  The International Monetary Fund (IMF), orchestrated by the US, has come to the "rescue" of these distressed economies with a new agenda beyond the usual IMF conditionalities of austerity to protect Group of Seven (G7) creditors. This new agenda aims to open Asian markets for US transnational corporations to acquire distressed Asian companies so that the foreign-acquired Asian subsidiaries can produce and market goods and services inside Asian national borders as domestic enterprises, thus skirting potential protectionist measures. The United States, through the IMF, aims to break down the traditionally closed financial systems all over Asia.  This system mobilizes high national savings to finance industrial policies to serve giant national industrial conglomerates with massive investment in targeted export sectors. The IMF, controlled by the US, aims at dismantling these traditional Asian financial systems and forcing Asians to replace them with a structurally alien global system, characterized by open markets for products and services and crucially, for financial products and services. The focus is of course on China, for as US policymakers know: as China goes, so goes the rest of Asia.

Trade flows under neoliberal globalization in the context of dollar hegemony have put Asian countries in a position of unsustainable dependency on foreign, dollar-denominated loans and capital to finance export sectors that are at the mercy of saturated foreign markets while neglecting domestic development to foster productive forces and to support budding domestic consumer markets. In Asia, outside the small elite circle of well-heeled compradores, most people cannot afford the products they produce in abundance for export, nor can they afford high-cost imports. An average worker in Asia would have to work days making hundreds of pairs of shoes at low wages to earn enough to buy one McDonald's hamburger meal for his family while Asian compradores entertain their foreign backers in luxurious five-star hotels with prime steaks imported from Omaha. Markets outside of Asia cannot grow fast enough to satisfy the developmental needs of the populous Asian economies. Thus intra-region trade to promote domestic development within Asia needs to be the main focus of growth if Asia is ever to rise above the level of semi-colonial subsistence that will inevitably translate into political instability.

The Chinese economy will move quickly up the trade-value chain, in advanced electronics, telecommunications, and aerospace, which are inherently "dual use" technologies with military implications. Strategic phobia will push the US to exert all its influence to keep the global market for "dual use" technologies closed to China. Thus "free trade" for the US is not the same as freedom to trade. Increasingly, the world’s nations will all procure their military needs from the same global technology market.  Depriving any nation access to dual-use technology will not enhance national security as the deprived nation can easily shift to asymmetrical warfare which is more destabilizing than conventional armament.

Still, China will inevitably be a major global player in the knowledge industries because of its abundant supply of raw human potential. Even in the US, a high percentage of its scientists are of Chinese ethnicity. With an updated educational system, China will be a top producer of brain power within another decade. World leaders in high-tech, such as Intel and Microsoft, are actively pursuing cross-border R&D wage-arbitrage in Asia, primarily in China and India. As China moves up the technology ladder, coupled with rising consumer demand in tandem with a growth economy, global trade flow will be affected, modifying the "race to the bottom" predatory competitive game of two decades of globalization among Asian exporters to acquire dollars to invest in the dollar economy, toward trade to earn their own currencies for investment in domestic development.

Asian economies will find in China a preferred alternative trading partner, possibly with more symbiotic trading terms, providing more room to structure trade to enhance domestic development along the path of converging regional interest and solidarity. The rise in living standards in all of Asia will change the path of history, restoring Asia as a center of advanced civilization, putting an end to two centuries of Western economic and cultural imperialism and dominance.

The foreign-trade strategies of all trading nations in recent decades of neoliberal globalization have contributed to the destabilizing of the global trading system. It is not possible or rational for all countries to export themselves out of domestic recessions or poverty. The contradictions between national strategic industrial policies and neoliberal open-market systems will generate friction between the US and all its trading partners, as well as among regional trade blocs and inter-region competitors. The US engages in global trade to enhance its superpower status, not to undermine it. Thus the US does not seek equal partners as a matter of course. With economic sanctions as a tool of foreign policy, the US has been preventing, or trying to prevent, an increasing number of US transnational companies, and foreign companies trading with the US, from doing business in an increasing number of countries deemed rogue by Washington. Trade flows not where it is needed most, but to where it best serves the US national security interest.

Neoliberal globalization has promoted the illusion that trade is a win-win transaction for all, based on the Ricardian model of comparative advantage. Yet economists recognize that without global full employment, comparative advantage is merely Say's Law internationalized.  Say's Law states that supply creates its own demand, but only under full employment, a pre-condition supply-siders conveniently ignore. After two decades, this illusion has been shattered by concrete data: poverty has increased worldwide and global wages, already low to begin with, have declined since the Asian financial crisis of 1997, and by 45 percent in some countries, such as Indonesia.

Yet export to the US under dollar hegemony is merely an arrangement in which the exporting nations, in order to earn dollars to buy needed commodities denominated in dollars and to service dollar loans, are forced to finance the consumption of US consumers by the need to invest their trade surplus dollars in dollar assets as foreign-exchange reserves, giving the US a rising capital account surplus to finance its rising current account deficit. [Wages everywhere are continuing to decline with no bottom in sight in the current credit crisis.]

Furthermore, the trade surpluses are achieved not by an advantage in the terms of trade, but by sheer self-denial of basic domestic needs and critical imports necessary for domestic development. Not only are the exporting nations debasing the value of their labor, degrading their environment and depleting their natural resources for the privilege of running on the poverty treadmill, they are enriching the dollar economy and strengthening dollar hegemony in the process, and causing harm also to the US economy. Thus the exporting nations allow themselves to be robbed of needed capital for critical domestic development in such vital areas as education, health and other social infrastructure, by assuming heavy foreign debt to finance export, while they beg for even more foreign investment in the export sector by offering still more exorbitant returns and tax exemptions, putting increased social burden on the domestic economy. Yet many small economies around the world have no option but to continue to serve dollar hegemony like a drug addiction. End of excerpt.

At long last, jolted by the global financial crisis that began in July 2007, China is finally demanding that its export be paid in Chinese yuan. But this demand should not be interpreted as a push to make the RMB a reserved currency for international trade. China only wants to denominate its bilateral trade in yuan. It has no desire in making the yuan a reserve currency for international trade in which China is not directly involved. Because of the size of the US economy, the dollar will continue to serve as a preferred reserve currency, but only if the US puts its own financial house in order.

June 30, 2009