Stephen Roach made three arguments last Friday.
I disagree with two of them, but agree with the third. And the third is by far the most important.
But before getting to the point of agreement, the points of disagreement.
The US saves less than it invests. Roach thinks the US would do so no matter what China does. So rather than criticizing China for subsidizing its exports (and US consumption), the US ought to be writing China thank you notes.
This is one of those arguments that I strongly disagree with. It is an example, I think, of what Brad DeLong calls one-equation economics. I personally don’t think the US deficit can be divorced from the willingness of China (and others) to finance it. Like Morris Goldstein, I don't think savings and investment balances are entirely independent of exchange rate policies, even if finding the connection takes a bit of work.
It is pretty easy to explain why the depreciation in the real value of the RMB (in the face of strong Chinese productivity growth) led – with a lag to the rise in China’s current account surplus. It is even easy to link the depreciation in the RMB and growing profits in the export sector to the surge in Chinese business savings. And, as Martin Wolf has shown, China has had to adopt restrictive macroeconomic policies to prevent inflation from eating away at the real depreciation. In order to avoid real appreciation through rising inflation, China basically had to clamp down on bank lending and increase government savings ... pushing the current account surplus up.
That is the core of my disagreement with Dr. Jen. He argues large Chinese current account surpluses are a natural byproduct of globalization. I think they are a natural byproduct of an undervalued RMB.
By contrast, if you start from the savings and investment side, is seems -- at least to me -- pretty hard to explain why the 10% of GDP increase in China’s investment to GDP ratio over the past few years should be associated with a rise (not a fall) in China’s current account surplus. Clearly, Chinese savings has grown even faster than Chinese investment - but unless it is pretty hard to explain what shock triggered a 15% of GDP increase in China's propensity to save.
A surplus in one part of the world has to be offset by a deficit elsewhere. So it isn't surprising that I think that there is a link between China’s savings surplus and the US savings deficit. China's large current account surplus and the associated growth in Chinese reserves, basically subsidizes US external borrowing. Without that subsidy, the US would borrow less from abroad. It would either save more or invest less.
China’s 2007 current account surplus looks set to top $300b, which is roughly enough to finance a third of the US current account deficit. There isn’t a comparable source of substitute financing out there. If China adjusted, the US would be forced to adjust.
Roach also argues that Chinese value added is low. He cites a Lawrence Lau paper from 2003. Lau was working off data from 2002, if not before. In 2002, China exported $300b and ran a $30b (customs) trade surplus. In 2006, China exported almost $1,000b of goods and ran a nearly $180b trade surplus – all while both importing a lot more oil for domestic use and paying a lot more for that oil. Chinese value added has – according to somewhat anecdotal but at least recent sources – gone way up over the past few years. Previously imported components are now made in China. There is no other way China could run such a large trade surplus while paying so much more for its imported commodities.
However, I fully agree with Roach’s key argument.
There can be no mistaking the intensity of the angst bearing down on the American workforce. I suspect something else may be at work here. As I have noted previously, at present, there is an extraordinary disparity between the capital and labor shares of US national income (see my 8 January dispatch, “The Power Shift”). The profits share currently stands at a 50-year high of 12.4%, whereas the labor compensation is just 56.3% -- back to levels last seen on a sustained basis in the late 1960s. It turns out that’s a very different juxtaposition of economic power relative to that which prevailed during the Japan bashing of the late 1980s. Back then, the shares of both capital and labor were under pressure: The profits share of about 7% was well below the 10% reading hit a decade earlier whereas the labor compensation share of about 58% was down markedly from the 60% reading hit in the early 1980s.
In my view, this underscores a key element of tension in America’s current backlash against globalization that was not evident in the late 1980s. Today, the pressures are being borne disproportionately by labor, whereas 20 years ago, capital and labor were in the struggle together. In the late 1980s, many of the once proud icons of Corporate America were fighting for competitive survival at the same time that US workers were feeling the heat of global competition. The pain was, in effect, balanced. Today, US companies, as seen through the lens of corporate profitability, are thriving as never before while the American workforce is increasingly isolated in its competitive squeeze. In essence, capital and labor are working very much at cross purposes in the current climate, whereas back in the late 1980s they were both in the same boat.
Despite all the talk about the risk of protectionism, I bet that there has been a lot less actual protectionism in the face of the current 6% of GDP US trade deficit than in the face of far smaller (as a share of GDP) trade deficits back in the 80s. The key reason: the China trade has generated a set of concentrated winners in corporate America and in the financial sector and they have exerted a bit of influence over actual policy.
The US has been no more willing to tax US imports from China (Walmart's supply chain) than US imports of oil …
Back in the 1980s, US auto firms using US workers were competing against German car firms using German workers and Japanese car firms using Japanese workers. As Roach notes, US firms were in the same boat as US workers.
That is less true today, even with respect to Japan. Ford owns a Japanese car company. Toyota makes a lot of cars in the US, even if Toyota’s US production is declining relative to Toyota’s US sales.
And it certainly isn’t true when it comes to China. US and European automakers are up in arms over the yen, but not over the RMB – presumably because GM and VW are making a lot of cars and a bit of money in China. And a huge number of US firms – the “designed in California, made in China” subset as well as the “everyday low prices" subset – depend on a Chinese supply chain. Or perhaps a Taiwanese run supply chain that now produces in China. US firms than can source production in China win from a weak RMB, as do US financial firms that supply China’s huge demand for financial assets.
US consumers win too – at least in principle. It isn’t quite as obvious in practice. Higher prices for the things China buys (oil, commodities) and the things China finances (houses) offset lower prices for the things China makes (most manufactured goods), especially when median nominal wages haven’t risen by that much over the past few years. Median real wage growth hasn’t been impressive during the past few years (even if 2006 was better), and real compensation growth has lagged productivity growth.
With labor compensation slipping as a share of national income and a growing share of those wages going to those at the very top (See the CBPP report on the latest data on after tax income), it isn’t exactly a surprise that a large set of folks are asking what is in it for me.
The raging debate over inequality spurred by Dr. Cowen misses a point. Workers may not be worse off than they used to be. But if they aren’t getting better off, they may not continue to support the policies that make those at the top better off. Stephen Roach gets it. Dan Gross does too. And he has figured out why at least of the more far-sighted winners are starting to worry too.