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U.S. economic security and the challenge from China.

Abstract

The Chinese economic system is based on the concept of autocracy and state-directed capitalism. The Chinese challenge is playing out in four theaters: trade, North Korea, the South China Sea, and One Belt One Road. To do all those things requires dollars: trade provides the dollars. I don't believe that it is possible to resolve the trade problems with China within the WTO system and provide an equitable playing field. But if we isolate ourselves, we'll give China the world to develop its expertise and resources. The U.S. acting alone may not have much effect on China; the rest of the world needs to be aware of the challenges posed by China.

Keywords China * Trade * WTO * Tariffs * Economic security

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We certainly can have American economic prosperity, security and global growth at the same time. I don't believe we can have one without the others. That might not be the thinking in Washington these days, but it is mine.

The critical concept here is economic security. In order to have economic security, we have to grow fast enough that we can sustain an adequate national defense to meet the threats and challenges that China and Russia pose: those of a traditional military nature, a propaganda nature, and so forth. But just as important we need to be able to sustain domestic support, especially among our young people, for capitalism and democracy.

Millennial, if you poll them, have an affection for socialism. They do. This was quite evident before Alexandria Ocasio-Cortez came along. They also have some affection for the notion of an authoritarian government, or for someone who just makes decisions. I think we can blame those views on the lousy job market that is the legacy of the financial crisis, and the fact that the economy in this century just hasn't grown very rapidly.

As a consequence of those conditions, 40% of young people with a college degree are in jobs that don't require one. They don't earn very much money and they're saddled with a great deal of college debt. Further, this administration was not needed to bring dysfunctional personalities to Washington--we already had plenty of them here.

Dysfunction has reached a terrible level. It is in complete contrast to the past. For example, when Richard Nixon was elected president, the Democrats who controlled the Congress said, well, we're going to do our best to find a way to work with this guy. That is not what has happened for recent administrations, no matter which party had the top job.

This dysfunction is particularly hazardous because of the Chinese challenge. China is another economic system. The Chinese offer their system to the world. It's based on the concept of autocracy and state-directed capitalism. That's their market socialist economy. Frankly, it is very reminiscent the economies of Japan and Germany in the 1930s, which were quite effective, at least for a time.

The Chinese challenge is playing out in four theaters. One is trade, which we're focused on right now. The huge bilateral trade deficit is very critical across a number of dimensions. It slows U.S. growth. It slows U.S. innovation and investments in R&D, and things like that. It's partially responsible for the kind of job market we have.

China has found other ways to challenge us. I don't think they're particular enamored by North Korea having missiles and bombs, and all of that. But it's a great way of pinning down the Americans and our attention. In the South China Sea, and in other places, they are now building a blue-water navy. That requires American resources to counteract.

Finally, One Belt One Road, which I heard an editor say is just a way of getting people in debt so you take their assets. Well, it can do that, and it has in some places, but most fundamentally, it's an instrument of soft power, through which China can propagate its vision of an autocratic, market-socialist economy. To do all of these things requires dollars. Trade provides those dollars.

That is why trade is so central. You can't have One Belt One Road without dollars. You can't have a blue-water navy without dollars. Dollars are still the currency of the realm globally. The Russians pose challenges, but they're much smaller. I think the Russians are nicely living in the tsar's era. I don't know why Crimea is so important to them. The only thing that's more bizarre than that is what's going on in Kashmir right now. Those moves reflect medieval instincts.

Nevertheless, the Russians are creating lots of mischief. Russia may be a small economy, but if you devote most of your resources to defense, or offense, and to disrupting other people's elections, you can make a lot of mischief that costs a lot of money for us to counteract.

Turning back to China, with regard to the trade talks, I am not optimistic at all that they will yield a productive result. In a nutshell, the WTO was meant to be a club of market economies. During the Cold War, that's what we tried to make it. China has not become a market economy in a traditional Western sense. If you look at the areas where the negotiations are not making significant progress, that is on dismantling their industrial policies, and their subsidies, and so forth. We are not talking about French dirigiste subsidies and industrial policies. We're talking about things that are much more virulent.

I don't believe that it is possible to resolve those within the WTO system and provide an equitable playing field for trade. The Chinese actions involve more than just government policy. Private sector behavior is also very important. The Chinese Communist Party has cultivated a cultural kleptocracy, where it's perfectly acceptable to steal.

In contrast, there's the old story of some people at Coca-Cola getting a hold of, when it mattered, the recipe. The recipe nobody could figure out. They offered to sell it to the president of Pepsi-Cola. The president of Pepsi-Cola immediately called up the president of Coca-Cola. He said, "I've got three of your stooges in here trying to sell your crown jewels." After which he called the police. He then said, "You know, competition in America should be tough, but it should be fair." I think you'd have a lot of trouble getting that out of the mouth of somebody from Huawei.

Our options for dealing with China are very limited. We have to think in ways we haven't thought before. For one thing, we can't say, all right, we won't trade with China. We'll isolate China, we'll have nothing to do with them. Because the reality is if we try to isolate China, we will fail.

The Europeans are not going to go along with the analog to what's in the USMCA. A clause that says, if you make a deal with the Chinese, then this agreement is done. We're not going to be able to get them to go along with a trade Cold War with China. If we try to isolate ourselves from China, what we will do is isolate ourselves from the world.

Look at Germany. The Germans are very happy to buy Russian natural gas, even though that's what permits Mr. Putin to arm his missiles, and build his tanks, and build his navy, and his air force, and so forth. They're very happy to do that. Likewise, they want their markets in China. If you can't get the Germans to go along, you don't win over Europe.

My feeling is that we're going to have to find some kind of interface mechanism. This was talked about when Japan was a problem, but that went away. China is not going to go away.

Suppose we isolate ourselves. We're not going live in isolated splendor, protected by two oceans. We're not going to have the pre-Teddy Roosevelt America. The reality is our markets are not big enough to support 5G on its own, to support the R&D that's necessary for the instruments of commercial success such as artificial intelligence, and the instruments of the new state competition, or warfare (whatever you want to call it), which also includes artificial intelligence.

If we isolate ourselves, we'll give China the world to develop its expertise and resources. The rest of the world does not prosper, because China is an aggressive society.

It's a little bit like when I was a kid and the Dodgers were in Brooklyn (Now they're in a place on the West Coast that I'm not familiar with). They used to say about the Dodgers of the Walter O'Malley era, whenever you make a trade with the Dodgers, you send them a good ballplayer and they send one back. And then you find out the night before the trade he broke his arm, or he slept in a refrigerator, or what have you. He wasn't quite the ballplayer that he was two months ago. He's got a sore arm, he's got a torn knee. Their general managers were accused of that. Dealing with the Chinese is a little bit like making trades with the old Brooklyn Dodgers. It's kind of hard to be successful doing business with China. But if we don't succeed, I don't think the world succeeds.

I think that the basic assumption that we made when China joined the WTO was that its prosperity would drive it towards market reform. That that was kind of like the golden path. The only way you could be a truly successful society. In some ways, Adam is saying that statist systems ultimately fail. Maybe he's right. I just don't want to find out that he's wrong. And then have to deal with a monster.

My point of view is that we need to do a lot of things in the WTO as it relates to our trade with our traditional partners and as it relates to developing countries. That's one set of issues. The other set of issues is how does this club deal with China given that it's not going to have the kind of economic system for which the WTO was built?

My feeling is that the issues we are having with the WTO, as they relate to our traditional trading partners, will pass with the passing of this administration. There is a particular gestalt in this administration about international regimes generally, that would exist even if we weren't dealing with China. There's a certain xenophobia. I think it's well-known that I've been a China hawk for a long time. It's useful to me, from my point of view in dealing with China, that the administration is that way. But it is not useful to be threatening the Europeans with an automobile tariff to bring them to the table. That makes about as much sense as Adam saying, I'm bigger than you, and if you don't agree with me, I'm going to hit you on the head, I'm going to punch you in the nose. It's just dumb.

I agree with Adam that China, running around the world, spending lots of money, may be making bad investments in areas where they are unfamiliar. People generally make very bad investments when they make investments in areas where they are unfamiliar. For example, I'm really amused that Mister Cook is now going to be a movie mogul, and produce films and things like that to solve Apple's growth problem. He will go the way of Howard Hughes. Similarly, China's running around the world doing a lot of stupid things. We should not be surprised that it's undertaking stupid infrastructure projects around the world. They've built projects that cannot service their debt.

I think that we have to come up with a mechanism for dealing with China.

It's going to get easier to get other people to sign on, but if they don't sign on, we'll just have to do it for ourselves. But I certainly am not one who wants to throw the WTO out the window, nor am I willing to accept the European solution as a prescription for the United States. Which is, well, we'll negotiate with the Chinese, reform the WTO to accommodate it, and where it doesn't work, we'll apply anti-dumping duties-excuse me, "subsidy countervailing duties." That's silly.

I had some basic problems with TPP, but that's because the only perfect trade agreement that could ever be written would be written by me. But I thought all the problems with the TPP were fixable. It was a very good foreign policy prescription by Mr. Obama. It was one of the few things that he did that I agreed with. Likewise, if we were not threatening our European friends, but rather explaining to them some of the things I just explained, I think they might see it in their self-interest to start pressuring the Chinese the way we are to get a fair deal. Because they have problems with technology theft, and industrial policy, all of the rest. But the problem is a president who wants to be hawkish with everybody.

A good example of what threatening people does to you involves Huawei and 5G. I don't think the administration has made it any easier to talk to the Europeans about the 5G build-out. Not buying 5G from Huawei costs money. Because Huawei has been able to develop their technology within a protected market, they can sell it for whatever price they need to there. They can offer it to the West at a very nice price. My feeling is that we're asking our European friends to bear some costs by relying on Ericsson, which makes them less inclined to listen to us. I think that's unfortunate. I would say though, it's very easy to blame all of our problems on Donald Trump, because he's not a loveable personality. But I think that if this was Barack Obama making the same case, he would also be getting pushback from Europe. It just would not be as severe and as easily justified.

I don't think the tariffs have had the effects on Chinese growth that President Xi blames them for having. I think if they cut a deal and the tariffs go away, that China's still going to have the growth problems it has. It's probably growing at less than 2%. I think if you subtract out all of the bogus growth, building buildings that don't get occupied or projects that don't pay, that China's probably not growing a whole lot right now at all. That had nothing to do with the tariff.

In the United States, I don't know that the tariffs have had a lot of effect so far. They have had negative effects in some places. There have been other places where the protected industries have done somewhat better. I don't know that the overall net negative has been large. I just don't think that they've been big enough to matter, given the exchange rate adjustments. Remember, on most goods, the tariff is 10% and the value of the Yuan is down about 9%. So that's almost a wash.

Basically, you can only justify these big tariffs if they have the effect of regime change. You can justify a tariff in a particular industry if it's been subjected to targeting and you're counteracting that targeting. You can make that argument for the metals tariffs. But you can't make the argument that it's good to have across-the-board tariffs and not have negative effects. So you can only justify them if they do, in the end, affect the lever that you want to get, the regime change you think is necessary.

One way to deal with China would be something akin to Warren Buffet's proposal--but only applied to China. That is to manage trade with China, give everybody that sells a dollar's worth of exports to China a license to buy a dollar's worth of imports. That would compel trade to balance. You can't do it overnight, but you can do it over a period of five years by giving people several-dollars' worth of licenses to start, and then gradually working down. That ensures that China doesn't accumulate large numbers of dollars which it can use for the purposes of soft power. However, the United States acting alone may not have much effect. The rest of the world needs to be cognizant of the challenges from China.

https://doi.org/10.1057/s11369-019-00124-9

Peter Morici is an economist and an emeritus professor of business at the Robert H. Smith School of Business, the University of Maryland and a national columnist. His views appear regularly in MarketWatch, published by Dow Jones, the Washington Times and other major metropolitan dailies throughout the United States and Canada, and on the website of Fox and others. He participates in the weekly and quarterly forecasting surveys at Reuters, Bloomberg, MarketWatch, and several other services, and his views are featured several times each week on the major TV networks and radio. He is a seven-time winner of the MarketWatch top forecaster award. He is the author of 18 books, numerous scholarly articles and has published in the Harvard Business Review and Foreign Policy. He received his PhD in Economics from the State University of New York.

Peter Morici (1)

Published online: 9 April 2019

Prepared from remarks at the session Can American Economic Security and Global Growth be Pursued Concurrently? at the NABE Economic Policy Conference, February 27, 2019.

[mail] Peter Morici

pmorici@rhsmith.umd.edu

(1) University of Maryland, College Park, MD, USA
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Title Annotation:ORIGINAL ARTICLE
Comment:U.S. economic security and the challenge from China.(ORIGINAL ARTICLE)
Author:Morici, Peter
Publication:Business Economics
Geographic Code:0PACI
Date:Jul 1, 2019
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