China is not the problem

There is currently an international cacophony being created by economists, politicians, political commentators and any-one else that thinks they have something to say which goes like this: China’s export orientation and its “manipulation” of the renminbi to stop it appreciating is damaging World demand and plunging the Western world into unsustainable debt levels and persistent unemployment. The simple retort is: the commentators have it all backwards and are ignoring the policy options that the Western world has but which policy makers will not fully utilise. But it is an interesting debate and the institutional attachment to the debate is not necessarily predictable as you will see.

In the FT on Tuesday (March 16, 2010) University of Tokyo economics professor Takatoshi Ito wrote that China’s property bubble is worse than it looks but his argument can be distilled down to making a case for the revaluation of the renminbi:

The Chinese authorities are doing better than their Japanese counterparts in the 1980s. The central bank is tightening regulation of loan-to-value ratios and trying to end easy credit. But they are hesitating to take up the best policy – interest rate hikes and appreciation of the Chinese renminbi. The property bubble is a clear sign of overheating … If the renminbi is appreciated, any overheating of China’s export sectors will be slowed, while standards of living will improve with higher purchasing power.

Along the same lines, Paul Krugman’s column last Monday (March 14, 2010) – Taking On China – continues his attack on China as some sort of cause of the global financial crisis and the inability of Western nations to get growth going again.

He outlines what he thinks is the problem, which is in effect a non-problem:

To give you a sense of the problem: Widespread complaints that China was manipulating its currency – selling renminbi and buying foreign currencies, so as to keep the renminbi weak and China’s exports artificially competitive – began around 2003. At that point China was adding about $10 billion a month to its reserves, and in 2003 it ran an overall surplus on its current account – a broad measure of the trade balance – of $46 billion …

The International Monetary Fund expects China to have a 2010 current surplus of more than $450 billion – 10 times the 2003 figure … it’s a policy that seriously damages the rest of the world. Most of the world’s large economies are stuck in a liquidity trap – deeply depressed, but unable to generate a recovery by cutting interest rates because the relevant rates are already near zero. China, by engineering an unwarranted trade surplus, is in effect imposing an anti-stimulus on these economies, which they can’t offset.

But as we will see this is not the problem. Notice he only talks about monetary policy as the vehicle out of the depressed domestic demand in many countries. The overall point that we will explain here is that even though net export deficits drain demand this does not “cause” a recession or allow the recession to “persist”.

The reason the Western nations are mired in gloom has little to do with the Chinese exchange rate manipulation, which really only damages the Chinese. Further, an opposite view has been put by the United Nations Conference on Trade and Development (UNCTAD) this week where they argue that the Chinese have helped the World out of a depression. Certainly, the Australian case study in avoiding a recession at all owes some part to the fiscal policy decisions made by the Chinese government. The early and significant fiscal intervention was dominant but it helped that our trade position didn’t deteriorate very much.

Krugman also wants some patriotic American in the US Treasury Department to dob the “manipulative” Chinese into authorities (you can read what he said about this if you want to).

However, much of the fear in the US is based on the misplaced idea that if the US gets too tough with China, the latter will dump its US dollar assets and cause havoc.

Krugman is smart enough to know this is a “common misunderstanding”. He said “we have no reason to fear China”:

What would happen if China tried to sell a large share of its U.S. assets? Would interest rates soar? Short-term U.S. interest rates wouldn’t change: they’re being kept near zero by the Fed, which won’t raise rates until the unemployment rate comes down. Long-term rates might rise slightly, but they’re mainly determined by market expectations of future short-term rates. Also, the Fed could offset any interest-rate impact of a Chinese pullback by expanding its own purchases of long-term bonds.

It’s true that if China dumped its U.S. assets the value of the dollar would fall against other major currencies, such as the euro. But that would be a good thing for the United States, since it would make our goods more competitive and reduce our trade deficit. On the other hand, it would be a bad thing for China, which would suffer large losses on its dollar holdings. In short, right now America has China over a barrel, not the other way around.

All of this is sound reasoning except that if the US dollar falls in value that is hardly an advantage to the US. It means their real terms of trade declines – I will come back to that later.

But if you think about Krugman’s overall argument – there is clearly a tension. He thinks that the China is depressing world demand on the one hand, but on the other hand, that the US has them over a barrel. This confusion – I was too kind too call it a “tension” – is sourced in the faulty overall reason that emerges from mainstream macroeconomics about trade relationships and policy options in fiat currency systems – again I will expand on that later.

Based on his faulty logic he then goes off the wall by suggesting the following:

In 1971 the United States dealt with a similar but much less severe problem of foreign undervaluation by imposing a temporary 10 percent surcharge on imports, which was removed a few months later after Germany, Japan and other nations raised the dollar value of their currencies. At this point, it’s hard to see China changing its policies unless faced with the threat of similar action – except that this time the surcharge would have to be much larger, say 25 percent.

I don’t propose this turn to policy hardball lightly. But Chinese currency policy is adding materially to the world’s economic problems at a time when those problems are already very severe. It’s time to take a stan

Hmm, a trade war … and totally unnecessary.

If successful this would in the short-term further reduce the material standard of living of Americans who are already suffering under with the unemployment and income loss fallout of their collapsed economy. By denying the US citizens access to the cheapest possible imports the US government would be compounding the consequences of their failure to implement fiscal policy of sufficient magnitude and jobs focus as private demand collapsed.

But the US government would also be promoting a lower US dollar parity overall which would just entrench these “costs” (lower real terms of trade) over time.

And, as I said totally unnecessary as I will explain below.

Yesterday’s (March 16, 2010) New York Times Editorial – Will China Listen? was more of the same:

The drumbeat of complaints in Washington about China’s manipulation of its currency – and the deafening silence pretty much everywhere else – might lead one to think that this is just an American problem. It isn’t.

China’s decision to base its economic growth on exporting deliberately undervalued goods is threatening economies around the world. It is fueling huge trade deficits in the United States and Europe. Even worse, it is crowding out exports from other developing countries, threatening their hopes of recovery.

The so-called “huge trade deficits” are benefits to the United States and Europe.

Further, as long as the developing countries haven’t signed up to IMF-bullied currency-pegs or other limitations on their currency sovereignty, they have the domestic capacity to improve standards of living without a reliance on net exports (with exceptions when food is totally imported).

And on the other side of the Atlantic, Martin West in the FT took up the beat-up China cause. In his column on Tuesday (March 16, 2010) – China and Germany unite to impose global deflation – he also blames China for depressing world demand. However, given his location he also implicates Germany in the crime. US commentators (and news in general) is the most nation-centric of all places and rarely considers foreign developments unless they impact on them.

Wolf noted that:

China and Germany are, of course, very different from each other. Yet, for all their differences, these countries share some characteristics: they are the largest exporters of manufactures, with China now ahead of Germany; they have massive surpluses of saving over investment; and they have huge trade surpluses.

Both also believe that their customers should keep buying, but stop irresponsible borrowing. Since their surpluses entail others’ deficits, this position is incoherent. Surplus countries have to finance those in deficit. If the stock of debt becomes too big, the debtors will default. If so, the vaunted “savings” of surplus countries will prove to have been illusory: vendor finance becomes, after the fact, open export subsidies.

First paragraph is factual and fine.

First two sentences in the second paragraph are fine and shows the nonsensical stance taken by China and Germany in this regard.

Third sentence in the second paragraph is backwards logic. Modern Monetary Theory (MMT) demonstrates that the external deficit countries “finance” the desire of the external surplus nations to accumulate financial assets denominated in the currencies of the deficit countries. If the deficit countries stopped purchasing that desire would be unfulfilled.

Further, to pursue that desire, the surplus countries are willing to net ship resource benefits (goods and services) to the deficit country. What do they get in return? Bits of paper and electronic bank balances.

His comment on the “stock of debt” is unclear. Is he talking about public or private debt? Certainly, the private sector can only carry so much debt. But, that reasoning does not apply to the public sector.

In the main I agree with Wolf on the EMU – he is not a fan. He particularly has implicated the inconsistent position of Germany – which wants to be a huge exporter but at the same time wants the nations it exports to to destroy the purchasing power in their economies through fiscal austerity programs. Unless Germany is prepared to increase domestic demand then it cannot expect fiscal austerity among its principle trading partners to help its export ambitions.

The fact that Germany is now in this imbrolgio is a reflection of the failed structure of the EMU. They won’t admit that but that is the core problem.

Wolf says that China is also caught in the same conflict:

Germany is in a supposedly irrevocable currency union with some of its principal customers. It now wants them to deflate their way to prosperity in a world of chronically weak aggregate demand. Mr Wen has the same idea. But the economy he wants to pursue this goal is the US. Fat chance!

I completely agree with this. But then Wolf advocates a position supportive of the view that China is hurting domestic conditions in the US and trade should be rebalanced by allowing exchange rates to move.

His policy bias is reflected in the statement that:

… countries that ran huge external deficits in the past can cut the massive fiscal deficits that result from post-bubble deleveraging by their private sectors only via a big surge in their net exports. If surplus countries fail to offset that shift, through expansion in aggregate demand, the world is inevitably caught in a “beggar-my-neighbour” battle: everybody seeks desperately to foist excess supplies on to their trading partners. That was a big part of the catastrophe of the 1930s, too.

The 1930s was the gold standard and trade imbalances really mattered because they constrained domestic demand policy. The US does not have to rely on increasing net exports to accomplish the necessary “post-bubble deleveraging by their private sectors” – that is Wolf’s prejudice against fiscal policy.

The US can accomplish the post-bubble deleveraging by their private sectors by stimulating domestic demand through fiscal policy and via the income growth allowing private saving ratios to rise. What China does is irrelevant to that capacity. I will come back to this later.

The theme against China is continued in the most recent World Bank Quarterly update on China, which “provides an update on recent economic and social developments and policies in China”.

In the March 2010 Quarterly update, the World Bank argues for revaluation of the renminbi.

In terms of the growth that the Chinese economy has enjoyed despite the World recession, the World Bank say that “(g)overnment-led investment was the key driver of growth for much of 2009” given consumption was flat and net exports growth declined.

Interestingly, they suggest that substantial restructuring of demand is already happening:

Gross exports were 27 percent of GDP in 2009, compared to a peak of almost 40 percent of GDP in 2007. We expect this ratio to recover somewhat in 2010. However, with domestic growth likely to outpace exports in the medium term, we expect the importance of exports in the economy to gradually decline again thereafter. The share of China’s exports to emerging markets around the world rose further in 2009 as the share of exports to US, EU and Japan declined to 46 percent, with the share of the US at 18.4 percent.

So government policy seems to be steering growth towards domestic spending (investment and consumption) and reducing the reliance on net exports. In that context, it would be expected that they would allow the currency to strengthen over time anyway to increase the living standards of the population relative to the rest of the World.

What is also not spoken of much in the public debate is the fact that China’s trade is internationally diverse but it pegs only against the US dollar. So the World Bank note:

China’s effective exchange rate continues to fluctuate even as it stays unchanged against the US dollar. Since end-2008 the RMB has been re-pegged to the dollar. However, a large and increasing part of China’s trade is with countries other than the US. Thus, as a result of movements of the US dollar versus other currencies, movements in China’s trade-weighted exchange rate have differed significantly from movements against the US dollar. China’s nominal effective exchange rate … has appreciated 12.3 percent between July 2005 and early March 2010, after depreciating in 2000-05, and is now broadly at the same level as in 2000 …

But despite this they still argue for appreciation:

Strengthening the exchange rate can help reduce inflationary pressures and rebalance the economy. Over time, more exchange rate flexibility can enable China to have a monetary policy independent from US cyclical conditions, with is increasingly necessary.

The last point is interesting and relates to any pegged currency. It means that monetary policy (interest rate settings) in the pegged country is tied to that of the country they are pegging against. If interest rates get too far out of kilter between the two nations, financial flows via the capital account will make it hard to maintain the peg.

But the point is that the government in the pegged economy cannot use monetary policy in any counter-cyclical way if its domestic economic conditions are not similar to those existing in the other country. So at present, with the US stagnating with zero interest rates and China growing rapidly (some say heading into a real estate bubble) the claim is that monetary policy has to tighten.

The problem then is that with the peg operating, China’s central bank will be reluctant to push up rates despite the US monetary policy stance not being “appropriate for China”. Accordingly, the World Bank argues for “(m)ore exchange rate flexibility … [which] … would make monetary policy more independent” and allow it “to raise interest rates even though interest rates in high income countries remain low”.

From a MMT perspective there are competing ideas here. First, currency sovereignty requires flexible exchange rates. It is not only monetary policy that is tied under any sort of peg arrangement. Fiscal policy is also constrained.

A country that operates on a gold standard, or a currency board, or a fixed exchange rate is constrained in its ability to use the monetary system in the public interest, because it must accumulate reserves of the asset(s) to which it has pegged its exchange rate.

This leads to significant constraints on both monetary and fiscal policy because they must be geared to ensure a trade surplus that will allow accumulation of the reserve asset. This is because such reserves are required to maintain the exchange rate parity. If a country is running a fixed exchange rate and faces a current account deficit, the domestic economy has to bear the brunt of the required adjustment.

So the government has to depress domestic demand, wages and prices in an effort to reduce imports and increase exports. Accordingly, the nation loses policy independence to pursue a domestic agenda. Floating the exchange rate effectively frees policy to pursue other, domestic, goals like maintenance of full employment.

Please read my blog – Modern monetary theory in an open economy – for more discussion on this point.

The caveat is that these constraints are not binding where a nation experiences a strong trade position such as China at present. In those case, there is fiscal space courtesy of the Balance of Payments capital account (financial flows boosting foreign reserve buffers). The general problem of external surplus countries is also avoided in these cases – that being that export-oriented growth resulting in persistent external surpluses reduces the domestic standard of living – because China has the capacity to offset this impact via fiscal policy.

In the current downturn, it has led the World in its use of domestic policy initiatives to ensure that unemployment impacts were muted and growth continued. I don’t advocate the political system that China maintains via force but it sure puts a lid of the deficit-terrorists that have crippled the fiscal response in so-called Western democracies.

The second point about all of this from a MMT perspective is related to the first but worth noting separately. MMT places a primacy on fiscal policy and thus considers monetary policy to be the weaker of the two in terms of its capacity to pursue effective counter-cylical stabilisation (that is, boost aggregate demand when private spending falls and vice versa). As I have noted often, there are many uncertainties about the use of monetary policy. It is a blunt instrument (that is, impacts across all regions if at all) and thus cannot be targetted. It’s final impact is also depenendent on distributional nets which are not clear – creditors and fixed income receivers gain, debtors lose – what is the net effect on spending?

For these reasons, fiscal policy is preferred and so the conventional arguments about the flexibility of monetary policy being constrained by a pegged currency are less important to MMT. But as noted above, all aggregage policy (fiscal and monetary) is constrained under a peg in unproductive ways.

Third, MMT takes a different view on trade to that outlined in mainstream economics textbooks. Imports are benefits to a nation while exports are a cost. The mainstream position is that imports are somehow bad too many of them is worse and exports are virtuous. Exports involve a nation giving up its resources to another nation so the citizens in the latter can enjoy them. That is a cost. Imports are the opposite.

So in that context, it is unclear why US commentators and politicians would be so down on China at present. China’s exchange rate policy is holding the US dollar up against the renminbi. But the nation with the stronger currency has the upper hand which is contrary to the way the mainstream economists and public commentators think.

A strengthening currency tells you that the real terms of trade are improving. That is, more real goods and services can now coming into shore on boats than have to leave shore. That is a net benefit. You can buy more real goods and services from abroad for less sacrifice in costly exports.

The appropriate policy reaction to the “demand draining impacts” of this outcome is to use fiscal policy to maintain strong aggregate demand and employment. In that way, the nation can maximise its “enjoyment” of its superior currency position – it generates enough income (and saving) in the private domestic sector to purchase goods and services on offer as well as being able to buy on superior terms the goods and services that arrive on boats from abroad.

Now given all that, there was another angle pushed into the public debate this week in the form of an interesting Policy Brief from the The United Nations Conference of Trade and Development (UNCTAD) – entitled – Global monetary chaos: Systemic failures need bold multilateral responses (No. 12, March 2010)

UNCTAD begin their focus on the resumption of the global casino:

The international community has allowed global monetary incoherence to reign before and after the crisis. Indeed, “markets” were permitted to manipulate currencies in a way that made some sovereign governments and central banks look like penniless orphans. The need for a new approach to global macro-economic governance is more urgent than ever, because today’s currency chaos has become a threat to international trade and could be used as an alibi by major trading countries for resorting to protectionist measures …

Institutional “investors” are back in business in global currency markets. With their resurgence, countries are again facing huge inflows of hot money that cannot be put to any productive use, but which create severe price misalignments and trade distortions. The global “casino”, nearly empty a year ago, is crowded again, and many new bets are on the table.

UNCTAD see the faith in “market fundamentalism” as being “unswerving” and claims it “continues to sustain the naïve belief that a solution to misalignment may be found by leaving the determination of exchange rates to unregulated financial markets”.

At this point I disagree. Progressives have often criticised me for advocating flexible exchange rates. They read that Milton Friedman also advocated them so they immediately conclude they are monetarist free-market plots to oppress social equity (I avoid using the term right-wing or neo-liberal here!).

But as explained above, flexible exchange rates are a core part of MMT which is light years away from monetarism in its understandings of the way the fiat currency system operates.

Pegging currencies is never an answer to the casino-like behaviour that UNCTAD correctly identifies as being damaging to nations of all stages of development. The solution is to eliminate the casino – not peg the currency.

UNCTAD note that speculative flows have been exploiting differentials in interest rates that have arisen from the disparate growth performances in the recent years. So “Brazil, Hungary and Turkey” are experiencing real appreciations in their currencies which is allegedly damaging.

Once again, refer back to my earlier comments on this. The countries with appreciating currencies have all the sway. The point is that domestic policy has to play ball as well and UNCTAD fail to discuss the increased fiscal space that countries in these situations have available to them.

UNCTAD correctly note that:

In the brave new world of liberalized global trade and finance, the treasuries of sovereign governments of the largest developing economies – and even some developed countries – can be seriously challenged by the power of financial flows.

That is clear and is why you have to address the speculative behaviour head on and not assume it will persist and try to set up “market disincentives” to curb it. A rules-based regulative approach (declare it illegal) is the best way to proceed while keeping currencies flexible to maximise domestic policy sovereignty.

Then UNCTAD get to the China question:

Amidst continued financial crisis, the question of the global trade imbalances is back high on the international agenda. A procession of prominent economists, editorialists and politicians have taken it upon themselves to “remind” the surplus countries, and in particular the country with the biggest surplus, China, of their responsibility for a sound and balanced global recovery. The generally shared view is that this means permitting the value of the renminbi to be set freely by the “markets”, so that the country will export less and import and consume more, hence allowing the rest of the world to do the opposite. But is it ? This policy brief contends that the decision to leave currencies to the vagaries of the market will not help rebalance the global economy.

UNCTAD rejects the idea that it is “reasonable to put the burden of rebalancing the global economy on a single country and its currency”. They note that “China has done more than any other emerging economy to stimulate domestic demand, and as a result its import volume has expanded significantly” in recent years.

They also note that in the “preceding decade, real private consumption, at an average 8% growth rate, was an important driver of growth, backed by wage and salary increases in the two-digit range and strong productivity growth”.

They argue that China has been facing a “continuous loss in competitive power even with a fixed exchange rate” and:

Expecting that China will leave its exchange rate to the mercy of totally unreliable markets and risk a Japan-like appreciation shock ignores the importance of its domestic and external stability for the region and for the globe.

In this context they contend that “both absolutely fixed/pegged and fully flexible/floating exchange rate systems are suboptimal. These so-called “corner solutions” have added to volatility and uncertainty and aggravated the global imbalances”.

I disagree – it is the rise in the financial sector and its ability to garner a greater share of the real output in nations that has been the problem. That trend has been aided and abetted by policy makers bent on deregulation. Sound evidence exists to suggest that the policy makers have benefitted materially from allowing the financial sector to run loose – ultimately creating the havoc we are enduring at present.

I don’t implicate flexible exchange rates in this for reasons outlined above. I do, however, consider that nations running fixed exchange rate regimes (and that includes the EMU nations individually) have left themselves open to a greater real crisis than was necessary. The current crazy situation in the EMU where nations are being bullied into pro-cyclical fiscal settings at the height of a recession-cum-depression is illustrative of this point.

So while I agree with UNCTAD that the casino-economies are dangerous the solution is not to start fudging exchange rates.

But UNCTAD propose to regulate world exchange rates to limit “the degree of exchange rate deviations from the fundamentals” to reduce international imbalances. In this regard, they propose a “constant real exchange rate rule”.

What does that mean? Well the real exchange rate is just the inflation adjusted nominal rate (across both nations). So this rule would allow the nominal exchange rate to devalue when there in a rise in the inflation rate differentials between countries and vice versa.

Whenever you read that a policy rule is preferred always be suspicious. For all the reasons I have outlined it is never preferable to move back to any pegging arrangements (partial or otherwise). The preferred solution is to outlaw the casino-economy.


The appropriate policy response is not to start trying to modify trade or worry about what China is doing. The US government and other sovereign governments have all the capacity they need at present to stimulate domestic demand and create high levels of employment.

Ultimately China will realise that its citizens want more than bits of paper in foreign currencies and they will allow the exchange rate to float.

Don’t misinterpret me though. I also think the renminbi should float but for different reasons than those given by the pundits in the current assault on China. The point is that I think it is a side-show for the rest of us.

What we need to do on a multi-lateral basis is to curb the financial sector and force it to correspond only with the needs of the real sector. This would require large policy shifts which would outlaw most of the current trading behaviour and would require speculative behaviour to be advancing the stability of the real economy.

Editor’s note:

This is a blog not an academic journal article or book. If you read my academic writing you will find it dry and without much partisanship. But billy blog is my personal perspective on things where I combine my academic research insights (if there are any!) with personal opinion – more the former than the latter but still my values and ideology are there.

That is what a blog is about.

But I am careful to differentiate my ideological positions from the “science”.

One commentator today noted that monetarism was neither right- or left-wing. I disagree. The whole edifice of mainstream economics – indeed its roots – are ideologically disposed towards what we call right-wing thinking. Modern mainstream economics is an extension of the marginalist school which emerged in the second half of the C19th to combat the fears the industrialists had about the growing popularity of Marxism.

While this is a whole blog in itself you might like to research these origins and you will then never conclude that monetarism is neutral. Its basic presumption is loaded – Quantity Theory – which assumes that free markets will always create full employment. Then you delve a bit further and you realise that it basically denies any meaningful concept of unemployment.

It all comes down to voluntary decisions and unemployment is cast as an “optimal leisure state”. But even the most cursory examination of economic and political history will expose documentary evidence that points to capital badgering governments who promote full employment as a danger to the capacity of the system to generate profit.

That is not neutral.

Finally, one of the hallmarks of the neo-liberal era has been to try to convince us that “ideology is dead” and that the old class distinctions are irrelevant now – so yesterday!

This argument is extended to argue that right-wing and left-wing are meaningless constructions that just amount to name calling. I vehemently disagree with those claims and I think there is substantial content in the concepts as descriptors of ideological positions and “theoretical” constructs that are used to buttress positions.

Having said that – I think it is increasingly hard to define a left-wing position given how far the debate has shifted to the right.

Anyway, I mostly try to provide alternative economic insights based on my role as one of the academic developers of MMT. Occasionally I provide personal opinion laced with sarcasm. I hope you differentiate the two and enjoy both or either. But most important is the role I have as a macroeconomics teacher in this environment and so I wouldn’t want you to be put off by the latter and ignore the former.

That is enough for today!

This Post Has 50 Comments

  1. Hi Bill,

    I have a question concerning the statements “Imports are benefits to a nation while exports are a cost… Exports involve a nation giving up its resources to another nation so the citizens in the latter can enjoy them.”

    I can see how this statement is true at a broad level if you are simply defining ‘stuff’ as having positive value relative to ‘paper’. But this stance misses many other real effects of an imbalance of imports and exports due to a manipulated currency. For example, local stores producing high quality goods being forced out of business by the large hyperstore selling cheap and cheerful Chinese goods made by workers forced to live on a pittance. We are forced to ‘enjoy’ these inferior goods and we lose generations of skilled knowledge held by craftsmen who are forced to become checkout operators in the hyperstore. It doesn’t sound like much of a benefit to me, to either nation.

    And to make all these cheap exports (from plastic that comes from oil), China sucks in much of the world’s valuable natural resources from other countries to recycle them into useless junk that gets flogged to us. The quality of the goods is shoddy so we need to buy more of them than we would if they had been made properly in the first place thus wasting more resources, and the price of natural commodities is pushed up which hurts everyone.

    The only winners in this situation are the big banks and international corporations who are big enough to straddle international borders, putting money into politicians’ pockets to keep regulations favourable to them while regular folks in the East and West get shafted.

    Of course, everyone knows these kind of arguments. Is MMT able to address them?

  2. I am very sorry for the slightly off-topic question but recently there was an interesting discussion in comments about the thesis of “export is cost, import is benefit”. I am struggling to find this thread and would really appreciate if somebody has bookmark or better memory.

    Thank in advance

  3. I believe that the more the west lectures China to appreciate/float the Yuan, the less likely that they will do it – they do not want to lose face.

    The west would do better to say nothing.

  4. Professor:

    Good morning from U.S. One thing I believe is too often over looked when it comes to China is that it’s still, despite its flirtation with capitalism, is very much an totalitarian regime. Those who control the political apparatus enjoy their position and would like to stay there and one way to do that is to make sure people are not idle but are employed in some manner. An economy heavily dependent on exports helps with that but to ensure this happens certain manipulations have to happen.

    I agree the current crisis and any recovery should not be blamed on or depend on China changing its ‘behavior’. I do challenge this statement:

    Further, to pursue that desire, the surplus countries are willing to net ship resource benefits (goods and services) to the deficit country. What do they get in return? Bits of paper and electronic bank balances.

    and this one:

    Imports are benefits to a nation while exports are a cost.

    The export country does have something – jobs. The problem in the U.S. seems to be as imports have increased what has left (or exported) are jobs but not only to China. In the U.S., cheap imports have been used as a means to ameliorate the problems that working class families face from the lack of wage growth. It could be that this is an argument in favor of more socialization of investment. I know right now there are many families in Michigan, Ohio and Illinois and other ‘Rust belt’ states that would take jobs over ‘bits of paper and electronic bank balances’.

  5. Bill,

    I’m a bit confused by the idea that trade deficits are a benefit. Trade deficits contribute to capacity underutilisation and unemployment–right? Agg demand leakage and spending that does not contribute to total income–that does not sound like a benefit to me. Are you saying that the deficit adds net real goods and services and this outweighs the unemployment costs?


  6. Ok, I have had my cup of espresso and fog of sleep is gone. Could it be that

    Imports are benefits to a nation while exports are a cost.

    IF and only if full employment policies are pursued which clearly not the case in the U.S.?

  7. Houseman

    As Sergei said, there is a good discussion of this somewhere on billyblog. Sorry I can’t point you to it either. But I’ll take a shot myself :-). I think the contribution that MMT has made to this discussion is to look at all sides of the equation by asking who is actually profiting in what way from whom in a disequilibrium of trade. First, by pointing out that money in most countries no longer has a material backing, it diffuses the notion that having lots of it comprises a ‘real’ benefit other than the ability to buy ‘real’ things with it at a chosen time in the country of issue. For the private and foreign holder, this means the possibility of future consumption at the expense of current. For a government that issues its own currency it merely means somebody holds a stake on future produce, it is in no way restrained in consuming current output. So there is no trade-off between the present and the future. But being an open-ended system this raises the question of whether and if so, when and in what manner a trade imbalance will unwind?

    But there are also underlying questions you point to. Apart from monetary constraints or non-constraints, is consumption coming at the expense of other, less tangible assets such as skills, natural resources etc.? Is it really beneficial to have fast cycles of production and consumption or could one not produce less and service more? Consumption patterns show that humans prefer convenience over other things, especially if these things are external and thus not priced. The second driving force behind consumption is our dependence on growth to feed profits and employment of a growing population. We have a the constant situation that those on the losing end of material wealth also face redundancy and thus usually hardship as soon as they stop chasing it. So, while the former is a matter of preference and thus ultimately of education / enlightenment, the latter is imo not solvable for a society in which work and profits or lack thereof are not more evenly distributed. Again, it’s a question of equilibrium – we not only have to believe we can be ‘richer’ while ‘having’ less, but we can also only achieve this collective mindset if we make sure the shrinking material cake is distributed more evenly among us unless we want to cause even more hardship than we have already.

  8. Dear Bill,

    1. What about the other (material not monetary) aspects of the Chinese export? Western corporations invested there and transferred the modern technology. Paul Samuelson wanted the Chinese to make plastic toys – when he realised that they started making microprocessors he ditched his free trade theory and was one of the first to ring the alarm bell. A few more years of the trade imbalance and the Western countries (including Australia but excluding some European countries) will not have much manufacturing left. We will only have mining, agriculture, real estate and banking in Australia. Surely this may be good for the overall consumption level but I do not worship Adam Smith. Consumption is not the only parameter which needs to be maximised. If we fail to realise this in time then no matter how much money is created and spend by the government to create employment – it’s all over. Then we can be easily blackmailed as restoring the productive capacities may be impossible. There is a zero-sum game element in the Chinese mercantilist policy and in my opinion Paul Krugman is right – the Chinese need to be stopped in tracks in what they are doing. Someone may disagree but I prefer Pax Americana to the fate of Tibet and Eastern Turkmenistan. I was born in Europe and I know the real meaning of the word “communist party” so I may have a slightly more cynical (or realistic) perspective. (Do you remember the torch relay in Canberra ) I prefer a limited trade conflict in 2010 to a war for the global domination in 2020.

    2. The trouble in the US is that some sectors like the construction sector have been affected much more than the others because of the GFC. I have already mentioned this in one of the posts – the unemployment among construction workers is 27%. Will pouring money into the construction sector do any good? What if there are already too many houses and too large area has already been covered with concrete? The first difference which I spotted when I visited the US was that everything was oversized and covered with concrete. What if the collapse of the housing bubble was in fact good ? If we stimulate aggregate demand we may exhaust non-renewable resources in 10 years less. Is this what we really want? Do we need even more overconsumption? In that context reducing import will make sense as people will find employment manufacturing goods locally. In my opinion Paul Krugman is right, just increasing the aggregate demand doesn’t make sense as the demand may again spill into speculative assets rather than consumer goods. What makes sense is reducing poverty among certain social groups by allowing the system to restore the balance on its own – when it is not poisoned by cheap “cargo” arriving from overseas. People who are not highly educated need simple jobs. These jobs must come back from China. The government can and should help – but cannot replace the private sector – unless we want to repeat the same mistake which was made in Eastern Europe.

    3. In that context I want to disagree with the thesis that GFC was a result of running fiscal surpluses. In my opinion GFC was a result of horizontal flows of money manifesting themselves as the private debt bubble which was overlooked because asset prices inflation didn’t affect CPI (consumer product prices were anchored at a low level by the import from China). In fact running budget surpluses was an attempt to drain the economy from the excessive amount of money. It was the excessive creation of credit money what needed to be curbed rather than low aggregate demand “fixed”. The misallocation of resources occurred because money was invested into speculative bubbles not for example into the development of new technologies. Should only the financial sector be blamed? I believe that the whole system based on overconsumption financed by credit is unstable. Kalecki was right to some extent – capitalism is demand-constrained, if the demand is reduced, some social groups will suffer. That’s why nobody pulled the handbrake 7 years ago. But the alternative to capitalism was a far worse totalitarian utopia. Banning speculative transactions will simply not work. If such a simple and obvious thing as cooking the books by the Greek government could have been hidden for years – how the tighter regulations of the financial markets may work?

    I would be very careful in drawing overall political conclusions just based on accounting identities which define the boundary conditions of the equations describing the global economy. The fact that governments can create (“print”) and spend money is itself quite obvious but there are reasons why people may not want the state apparatus to assume the manual control over the economy. Do we just want to keep kicking the can down the road or do we want to finally build a more sustainable society and economy?

  9. I think what Professor Mitchell is saying is that sovereign governments with control over their own money supply have all the power they need to offset the leakage in aggregate demand resulting from a current account deficit with increased public sector spending. If governments would be willing to use fiscal expansion in sufficient quantities there is no reason why a trade deficit should contribute to capacity under-utilization and underemployment. Free trade can be a benefit, we just have to let the government do its job.

  10. RebelCapitalist:

    The import/export benefit/cost statement I think is best taken as an abstraction and is very useful in reinforcing the importance of remembering the real vs. financial distinction. The country with the trade deficit has received real goods in exchange for financial balances. That is a benefit to the importing country. Now, the question as to how this condition is shaped politically is interlinked with policy decisions and beyond the scope of the MMT fundamental statement.

    It is similar to the statement that government deficits are not harmful to the economy (as long as demand does not exceed available real resources). As many (including Bill) have pointed out, if the deficit spending is used for overseas military adventures and other non-real value producing activities, then the benefits of the deficit were misused. But this is a policy decision and not a refutation of the fundamental MMT principle.

    In other blogs, I have made comments in response to anti-Chinese manipulation posts that in a floating rate regime, it takes two to tango.

    The US – if it were really serious about “free trade” – would never had agreed to opening up its markets (via supporting China’s WTO entry in 2001) with a fixed exchange rate relationship. Tariffs are one response (blunt, hard to manage) to try to re-balance incoming trade with market FX rates. Of course, the US did not do that because it was to the US’ benefit to have the RMB support the USD. “Free trade” was the ideology used to sell the policy politically. This is a policy decision – it does not invalidate the MMT principle of imports being a benefit. Policy is outside the scope of these MMT definitions and fundamentals. A gun is a benefit to the holder of the weapon. But if he decides then made to shoot you, it’s hard to see the value in that statement.

    IMHO the US/China fixed FX policy was/is intimately tied to a strategy of exporting high value jobs out of the US. But, the movement of capital to low wage areas is nothing new historically, I am surprised that people are “shocked, just shocked” that this would occur. The strategy has always been in place, globalization has allowed new mechanisms to achieve these goals.

    Regarding the right-wing, left-wing comments. I think these are blunt categories with a great deal of slippery subjective definitional problems. When talking about Fox News or Glenn Beck, it is an obvious characterization.

    But I have a very hard time finding similar left-wing players at the same level of public knowledge. So – since to be “fair” we need to balance our sarcasm – we end up characterizing neo-liberal players (Obama, trade unions, government workers) as “left-wing”. This constrains the political debate to a choice between bad and worse. So I disagree with Bill – perhaps there is a more active left-wing in Australia – but here in the US it is very hard to find.

    Just as we need the more sophisticated economic thinking that MMT provides, we need to build better political theories, the old categories are tired and have lost much of their usefulness.

  11. Trade war shouldn’t that be about who is amassing most wealth from the other combatant? In the current situation USA is getting real tangible wealth from China and China is amassing what? Small pieces of paper (figuratively speaking) made in USA – Federal Reserve notes – that can be created by fiat.

    USA can of course take measures to prevent Americans buying cheap foreign stuff and maybe print a huge pile of Federal Reserve notes that they lock in to Fort Knox and declare them self as the winner, hurray WE got the largest pile of Federal Reserve notes.

    We trade little pieces of paper (our currency, in the form of a trade deficit) for Asia’s amazing array of products and services. We are smart enough to know this is a patently unfair deal unless we offer something of great value along with those little pieces of paper. That product is a strong US Pacific Fleet, which squares the transaction nicely.
    “Asia: the Military-Market Link,” and published by the U.S. Naval Institute in January 2002

    Is export to BillyBlog from NakedCapitalist forbidden? I tried to link this post in a comment on the subject of China vs USA but it bounced.

  12. Thanks for another insightful post.

    “For all the reasons I have outlined it is never preferable to move back to any pegging arrangements (partial or otherwise). The preferred solution is to outlaw the casino-economy.”

    I find it hard to distinguish between markets that convey floating currency signals, and casinos. Regulating one would seem to suppress the other. Is what you propose something like a large tax on capital transfers, to prevent sudden herd movements while keeping the basic market “free”. That is all I can envision.

  13. A real stinker of a post.

    America is not one person, and products are not atomic goods. The trade with China is at the level of intermediate inputs — outsourcing. If you do not believe that, then name 10 famous Chinese brands that are competing with U.S. brands, increasing the purchasing power of the middle class by increasing competition with american businesses. Trade with Japan is like that — but Japan is a high wage nation. And the response of the U.S. business community to competition with Japanese is very different than the response to “competition” with China. Why? Because there is no competition with China. The competition is at the level of labor and environment standards, and the businesses are the ones receiving this benefit.

    What is happening is that american workers are being laid off and pushed into lower paying jobs. The products that used to be made here are no longer made here, but in China. We are not consuming more products as a result, but the same products — those products are just made elsewhere.

    The actual product becomes a little cheaper, and the quality of the product becomes a little worse. Incomes of the middle class decline substantially — by much more than the lowered price of the product.

    Therefore the purchasing power of the middle class also declines substantially — they enjoy less consumption, not more. They are not benefitting, but top incomes are benefitting.

    And no one is benefitting from cheap imports per se, because there are no cheap imports. There are only cheap intermediate goods that increase profit margins, but the prices of the finished goods, adjusted by the lowered median wages, rise in real terms.

    These are all basic things that our generous host should be able to grasp. He does not, and still believes that well-being is measured by aggregated consumption of atomic goods that are either made in one place or another.

    The fact that there are stages to production and an income distribution seems to elude him, or he blocks it out when looking at trade patterns. That’s sad, because there is just a wealth of data that outsourcing lowers standard-of-living for median incomes, and increases standard of living for top incomes.

    Only a sick welfare function would conclude that this is a benefit to the nation as a whole

  14. A few years ago the Chinese government did have a go to legislate improved wages and workers conditions but they did get strong opposition from the organizations represent the multinationals that operate in China, if I’m not remember wrong U.S. Chamber of Commerce was one of them. How it did turn out I don’t remember. One could think that would have been something positive in the eyes of trade deficit countries then it could give the Chinese more room for consumption. I don’t know if politicians in the west did have any opinion but I’ll guess if they had any they probably sided with the multinationals.

    There is a lot of hypocrisy in the Chinese blame game.

    Ill guess there are a difference the effect of stimulating domestic demand in a less developed country and a advanced industrial economy. For example an mainly raw material exporting developing nation who have not so developed domestic productive resources most of the stimulus will leak out as import and have an even negative effect on domestic employment if these productive resources is crowded out. And will ultimately knock them down on the developing ladder.

    A mature industrial country have generally a higher developed organization of levy taxes and so on and can use for example consumption, employee taxes to regulate demand, many developing nations have a poorly developed infrastructure for such things, for example trade tariffs often is a reliable way to get any secure flow of tax revenues.

  15. Hi Bill,

    There are a few things I have a different perspective on.

    While imports are beneficial and the United States can keep importing by just handing Treasuries to the Chinese, it affects the local industry. Of course, the Chinese policy of keeping its currency undervalued for shipping products to the US is silly in some sense, the US, on the other hand, stands to lose as well at present.

    The US fiscal policy should of course play a much bigger role than what it is doing at present. The government can increase spending and/or decrease tax rates, but it may not guarantee the reversal of imbalances in the different sectors. There is still a risk of increase of imbalances. An increase in government spending and/or disposable income increase due to tax cuts, will increase demand and this is very likely to increase imports. Of course, one can argue that the government can further increase spending and cut tax rates, but the speed at which unemployment would come down will be affected, if the current account “detiorates”.

    This brings me to devaluation. I tend to somewhat agree with Tom Palley when he says that there should be an effort to devalue the dollar. The Federal Reserve could start purchasing FX, and move the exchange rates, but it will spoil the US relationship with the rest of the world. A better strategy would be to have diplomatic talks and deals.

  16. For those of you not old enough to remember, a lot of the complaints about China today are similar to those about Japan after WWII when it was coming back online. Eventually, they rebuild their domestic economy and became a leading producer of quality goods, taking many markets away from the US and carving out a big piece in many others.

    China is on a similar course. According to andy Xie, consumer demand is increasing in China and wages are also up by about 20%. China is growing at almost 10% this year. It won’t be that long before the complaint will be that the Chinese economy is eclipsing the US economy, and many will, of course, view this as a threat to US national security. China’s unpegging its currency will be a signal that this is happening, and the US has something new to fret about.

    The US has greatly profited from China’s coming online in the trade exchange since imports are a real benefit. The US seems to want to have its cake and eat it too, and that’s impossible. American workers gobbled up the cheap merchandise at Wal-Mart and The Dollar Store, and now they are complaining that their jobs have been offshored. Gimme a break.

  17. How many of these American workers are employed producing the pieces of paper that China trades its good and services for?

  18. These are all basic things that our generous host should be able to grasp. He does not, and still believes that well-being is measured by aggregated consumption of atomic goods that are either made in one place or another.

    I take the liberty to defend the Host.
    After reading on this blog a short time I’m more than convinced that the host grasps those issues. He even address it in this post i belive.

    The reason the Western nations are mired in gloom has little to do with the Chinese exchange rate manipulation, which really only damages the Chinese.

    … it is the rise in the financial sector and its ability to garner a greater share of the real output in nations that has been the problem. That trend has been aided and abetted by policy makers bent on deregulation. Sound evidence exists to suggest that the policy makers have benefitted materially from allowing the financial sector to run loose – ultimately creating the havoc we are enduring at present.

    It’s the 4 decades of shifting real wealth from the many to the few that is the core problem of todays problems not Chinese currency operations i believe.

    But I’m a little unclear on the issue in what degree the speculative financial markets can hamper the currency free floating sovereign country that is in the position to control it’s money and fiscal operations. And if what tools and maneuvering it have to fend off such things without fall out with the so called global community. Here in Sweden across the political spectrum the “economic wisdom” is that we no longer can achieve full employment due to globalization, the market will not allow it. It would be nice to have good answer to fend of that position.

  19. Bill, let me clarify on terminology. In the US, “right-wing” (as in “wingnut”) and “left-wing” (i.e., “socialist”) are very often used pejoratively. People on those wings do not self-designate using those terms. The terms are used by those opposing them to characterize them pejoratively.

    The standard political designations are conservative and liberal (progressive). It used to be that there were conservative, moderate, and liberal factions in each party. The GOP was purged of its liberal faction some time ago, and now it is being purged of its moderate faction, and in some places the conservative faction is bifurcating into conservative and ultra-conservative.

    The Democratic party still has conservative, moderate, and liberal (progressive) factions, but no radical one with any voice. President Obama blurred his stance enough to convince the progressive faction that we was running as a progressive. However, he is now governing as a moderate to conservative Democrat, much to the chagrin of progressives who supported him the primary elections that won him the nomination.

    Conservatives don’t mind being called conservatives and liberals (progressives) don’t mind being called that either. But both resent being labeled right or left wing, since right wing carries the extreme ideological connotation of reactionary and and left-wing of socialist, both of which are regarded as pejorative in the US. For example, there was a fire-storm recently when the Republican National Committee called the Tea Party reactionary in a recently revealed internal memo.

    US politics is devolving into this kind of name calling and it is divisive and disruptive.

  20. In the 80s the debate was flooded with the Japanese miracle and the pundits was stunned with amounts of fiat currency that was piling up in the Japanese banks. It was not a matter of if but when Japan would be No1 and rule the world. Now we know it didn’t turn out that way.

    Basically it can’t be anything wrong that people around the globe get it better. It’s a good thing if the Japanese and the Chinese people, what ever get it better.

    Both in the case of Japan in the 80s and present China bashing there is several messages and one is to the working people, be aware and be obedient otherwise the evil Chinese will come and get you. And the major power shift that will occur from the few to the many if there where full employment is just not on the table, we have to fend off the evil Chinese.

  21. I can agree with the following:

    Lesson #11: Without a full employment policy, a country must suffer over its trade balance. With a
    full employment policy, there is no need to worry about importing “too much” relative to exports.

    This is from Functional Finance and Full Employment: Lessons from Lerner for Today? [pdf file]

    Or the following:

    Hence, in the world we actually inhabit, free trade is not the panacea its proponents propagate. If we are to advance the economic interests of the bulk of the citizenry in a decent and humane fashion, we must promote a full employment policy domestically, and couple this with a flexible exchange rate regime internationally. With these institutions in place (on a global scale), exports become a cost and imports a benefit, and the conditions under which free trade is beneficial will have been established.


    But as I stated above, U.S. is far from establishing full employment policies and China doesn’t have a flexible exchange rate.

  22. Good link, Rebel Capitalist!

    What about the Levy Institutes’s 2008 Strategic Analysis? Godley, Papadimitriou and Zezza seem to take the opposite line to the MMT one being advanced here…

  23. Ramanan: I tend to somewhat agree with Tom Palley when he says that there should be an effort to devalue the dollar. The Federal Reserve could start purchasing FX, and move the exchange rates, but it will spoil the US relationship with the rest of the world.

    You bet. Unilateral moves like this tend to be viewed in terms of beggar thy neighbor. As the supposed leader of the free world, the US would be admitting the defeat of its free trade policy by doing this. Might as well go back to Smoot-Hawley.

    Moreover, as issuer of the global reserve currency, the US has to make this currency available. Trying to manipulate exchange rates in order to decrease imports and increase exports goes against this responsibility.

    Of course, the US has a history of doing this kind of thing, as when Nixon unilaterally shut the gold window, ending dollar convertibility and telling the rest of the world to stuff it.

    But with the global financial system still on the brink of deflation, the world needs all the cooperation that nations can muster. The US taking unilateral action now would be to send a signal that it’s every man for himself.

  24. For those of you not old enough to remember, a lot of the complaints about China today are similar to those about Japan after WWII when it was coming back online.

    Let’s use arguments of a higher caliber than “I once heard someone complaining about Japan and that turned out fine, so anything else with imports must turn out the same”.

    That is not an intelligent analysis of what is happening within each country, or what is driving these different development paths.

    Japan and Germany both developed long a Fordist model. They developed their own domestic consumption markets, and the purpose of exports was first technology transfer, and next it was to open up new markets for their own firms. That is why there are so many large international Japanese and German firms selling final output to the global consumer. Their own domestic economies served as incubators for firms that were able to efficiently deliver sought after consumption goods to their own people, and using the domestic market as a base, they then began to fight for the purchasing power of consumers worldwide.

    We got Toyota, Honda, Sony, Nissan, Panasonic, BMW, Volkswagen, Porsche, Seimens, SAP, etc. as a result. The global consumer benefit from these additional choices.

    Labor relations in both Japan and Germany were similar in many respects:

    There was a close relationship between unions and management — union representatives sat on board seats, etc. This led to price fixing of wages to achieve regular salary increases in line with corporate profits. These are both high wage nations with relatively low labor turn-over and low levels of income inequality.

    The reason for having such a labor policy is that if you want to cultivate a domestic consumption market, then you cannot have declining median wages. If your development path consists of cultivating companies that can deliver high quality goods to your own population, then you need them to have steady aggregate demand.

    Now, what is the Chinese development model — that you are identifying with the German/Japanese model?

    Who are their customers?

    Foreign businesses are their customers. The labor policies are meant to use the state security apparatus to prevent wages from rising as fast as incomes. Their development path is not to cultivate a domestic market, but to suppress the purchasing power of the domestic market. This was not the development path of Germany or Japan.

    And how many Chinese branded products do you consume? Very few, because the Chinese firms are at a disadvantage when it comes to competing for the global consumer. The playing field is tilted away from rewarding companies whose customers are people, and towards companies whose customers are businesses.

    Therefore *unlike* the situation with Germany/Japan, the beneficiaries of trade with China are not consumers, but businesses.

    This is not about “China” as some monolithic entity versus the “US”. This is about chinese and american workers on one side, competing against chinese and american businesess on the other. If you want to distill this to households, then the battle is high income households fighting against median income households — in both nations. This has nothing to do with nationalism — the political framing of the obscurantists is about nationalism — but the economic battle is about real wages.

    That is why the U.S. business community’s “reaction” to Japan was the exact opposite of the reaction to China. It lobbied and fought for increasing trade with China, but fought for decreasing trade with Japan. The exact opposite.

    And you must be able to distinguish between these two development paths, and to disaggregate “trade” from trade whose customer is the business as opposed to trade whose customer is the final consumer. They are not “similar development paths”. And moreover, you need to dissagregate between “competition” for cheap wages versus “competition” for high value skill sets.

    Chinese firms are hamstrung in competing for final consumption because of this — i.e. China is regressing, not progressing, in the ability of Chinese brands to compete with European, Japanese, and American brands — simply because the playing field does not reward Chinese businesses that are able to respond efficiently to changing consumer tastes. Their economic policies discourage producing goods that their own people want, which is the opposite development path of Germany and Japan. Instead their economic policies encourage wage arbitrage, which was never the comparative advantage of either Japan or Germany — post WW2, these were always high wage nations, in terms of domestic wage shares.


    What we find is that a one percentage point increase in occupation-specific import competition is associated with a 0.25 percentage point decline in real wages.

    While some occupations have experienced no increase in import competition (such as teachers), import competition in some occupations (such as shoe manufacturing) have increased by as much as 40 percentage points. The contrasting experiences of workers in textiles and apparel-related sectors compared to many service sector employees such as teachers helps to explain why some parts of the US economy have been deeply affected by globalisation while others have not.

    We also examine the impact of increased offshoring by US multinational firms on wages of workers in the US. We find that when US companies increase their offshoring activities to low-income countries, this hurts US wages, but that more offshoring to high-income countries is associated with an increase in US wages.

    And I don’t have a lot of patience when people in occupations whose salaries have not been falling — e.g. teachers — pontificate about imports being a net benefit. The data does not support this view, theory does not support it either.

    At this point, its irresponsible to keep repeating these mantras, and its insulting to argue that if we had enough $8/hr JG jobs, that this would somehow compensate for the decline in real wages that arises from wage-arbitrage. Moreover it is intellectually dishonest to try to misrepresent these dynamics as a one “nation” versus another. It is always about wage shares and living standards in both nations — both suffer from wage arbitrage, and the elites in both nations favor the status quo.

  25. Dear RebelCapitalist, Vimothy, RSJ and All

    There is no doubt that jobs are migrating to China from all our nations given the way we have constructed trade and capital flows and the penchant of our citizens to purchase (and benefit) from cheap goods as consumers but not realise that these consumption decisions have labour market implications – including perhaps our own jobs.

    I would make three points:

    First, China was very poor and the US very rich. The latter got that way via industrialisation at it is only sensible to assume that China will follow that path. The problem is that the US and other nations have not moved onto the next phase of development – high level services etc. Instead, we have allowed the tertiary development process to be dominated by unproductive financialisation (and the accompanying hijacking of real income by that sector) and increased casualisation for the rest of us – that has been the hallmark of the neo-liberal, deregulation at all costs era.

    Second, our fiat currency issuing governments can always replace the jobs that are lost to China if it wants. It has the capacity to create creative, well-paid and secure employment should it be politically motivated to do so. Industrial composition changes have always been the norm for a capitalist system that is motivated by reducing workers’ wages and increasing profits. Norway, for example, has had huge swings in its industrial make-up away from manufacturing just like the rest of our nations. But their government replaced the jobs loss with high skilled, secure service sector jobs in the public sector because they were not as hung up as many of the other nations on concepts that increasing public activity must mean socialism. It doesn’t mean that at all. It means that citizens can still enjoy job security and not face income loss as the capitalists pursue their own interests. It means a government that pursues public purpose. Many will reply that these jobs are “make work” schemes. Go to a hospital or school in Norway and see how productive they are to disabuse yourself of that notion.

    While Norway followed the sensible path in its reaction to these compositional changes in industrial employment most of the rest of us allowed a casualised, low-paid private service sector to replace (partially) the jobs that have been lost in manufacturing. That is our fault not China’s. If we reconstruct our view of what the fiat currency issuing public authority can achieve for us then this path is not inevitable. The stronger is employment in the public sector the more the private sector has to work to attract labour – that is how you get better jobs. The neo-liberal era has been marked by a constant excess supply of labour (as governments pursued fiscal austerity plans as a tendency if not actuality) and the capitalists have had a ball – picking and choosing and dividing and ruling as they pleased. One of the advantages of a strong public sector is that it makes the private firms work harder for their profits.

    Third, until we start seeing our governments as vehicles for public purpose we will bemoan the jobs loss to China while turning the dials on our latest electronic gadget made there as our lives … steadily continue to get harder in our “rich” (but declining nations).

    best wishes

  26. RSJ, I was a child at the time and I clearly remembering hearing the same sort of stuff about Japan that we are hearing today about China. You know, like “Japan is flooding the market with cheap goods.” As if Americans had to buy the stuff if they didn’t want it.

    More significantly , the trend in the 21st century is globalization. This is going to mean that the developed countries are going find that they are competing more and more with emerging nations, especially as capital flows toward where the growth is. The US is not in the position it was it after WWII. It’s a very different game now, and China is going to be a much more serious competitor, not only economically but on the world scene generally. We really don’t want to turn China into an adversary.

    US workers are not the only ones under pressure. Chinese and Indian workers are already finding that they are competing with Indonesians. Latin America is coming online and Africa will be, too. This is good for the world and the developed nations are going to have to adjust their attitudes, and also living standards if they don’t innovate, and adopt more efficient and effective policy as well. The cost to output ratio in the US is way to high, and the US is also incentivizing and subsidizing the wrong things relative to public purpose. Like most children (the Germans call Americans die Kinder), the US pats itself on the back when things are going well and casts blame on others when not.

    Of course, none of these developments will follow the same path as previous ones. The environment is entirely different. What I am saying is that, like Japan when it was first recovering, China is now in the early stages of development and some see China as getting ready to take the next step toward the development of a domestic economy. There is a long way to go before China becomes a predominantly service economy like the US, so this competition has a long way to ramp. The US had better get used to it, and get busy instead of whining.

  27. Professor –

    I agree with your three points but the statement that “imports are benefit and exports are cost” is conditioned upon having the full employment policies in place to serve as safety net otherwise as the current situation shows job losses and wage stagnation are cost of imports.

  28. Dear RebelCapitalist

    So that should focus our attention on what the debate really is – ensuring a full employment (domestic) policy – rather than building China up to be some sort of cause of all of this. Our nations chose and support capitalism – and the consequences of that follow logically as we are seeing over time. But we also have the capacity within our borders to force our governments to pursue public purpose above these private sector trends.

    best wishes
    ps I hope my position on China is clear. I do not support its repressive political regime.

  29. Well, Tom, I am not young chicken either, but you are conflating some things:

    1. Was there fear over Japanese imports?
    2. Is China following the same development path?
    3. Is wage arbitrage inevitable?
    4. Is the development path of China and Japan somehow a function of U.S. “strength”?

    The answers are yes, no, no, and no.

    Yet you are arguing purely by folksy social analogy — this happened with an asia country, therefore any other imports from an asian country will have the same effect. It’s a silly analysis.

    1. Japan was sending us goods — real goods sold by Japanese firms to U.S. consumers.
    2. China is not selling us goods — they are selling intermediate goods to U.S. firms
    3. Japanese development was always primarily focused on delivering finished goods to their domestic market. They were always a closed economy, and exports never exceeded 5% of GDP in the post war era, moreover export-dependent industries were always subordinate to domestic finished goods industries. As much as some americans may view Japan as an export-based nation, it is not, and neither is Germany. Both are nations that primarily serve their domestic markets. But 40% of Chinese GDP is based on export-dependent firms.

    4. The labor policies in both countries are radically different.

    5. The EU and Japan have not seen declining wage shares to the degree that we have in the U.S. This has nothing to do with globalization — it is pure class-based power politics.

    6. The effect on the U.S. economy from Japanese imports was radically different than the effect on the U.S. economy from Chinese exports. The latter was a wage arbitrage play, increasing U.S. business profits, whereas the former is “we will sell better goods than the U.S. firms” play, decreasing U.S. corporate profits and forcing U.S. firms to re-invest more and become more competitive.

    7. U.S. Businesses fought against Japanese imports, but fought for Chinese imports.

    So you are arguing by analogy — racial analogy — rather than looking at what is happening here.

  30. …And I would add that the heart of the fallacy here is the belief that because something is a cost to one nation, it must be a benefit to another — e.g. a zero sum view.

    The thinking here is:

    China exports X units of stuff —> the U.S. must be X units richer.

    But what can also happen is:

    China exports X units of stuff —> these exports displace X domestically produced units –> U.S. is not richer but has X more under-employed.

    And it could happen that:

    China exports X units of stuff —> these exports displace 2X domestically produced units (due to network effects) –> U.S. is X units poorer.

    The difference is whether the receiving nation receives an offsetting benefit is determined by the effect on real incomes. So when determining the dead-weight loss due to a current account imbalance, you need to compute your social welfare function over the effect on real incomes. As long as your social welfare function weighs people and not aggregate incomes (e.g is biased towards median incomes), then any rational assessment of the trade relationship with China is that it has been a harm, not a benefit. If that throws a wrench into the simple “Chinese costs = U.S. benefits” model, then so be it.

    And this harm cannot be offset by JG or government services. The issue is not employment per se, but a loss of quality of life. Unless the government can give a benefit payment equal to the loss of the high paying job, no government action is going to offset the social costs of wage arbitrage. But government cannot do this, independent of technical MMT “opportunities”, due to the distortive effects.

    But all this requires digging a bit deeper than just looking at the quantity of “stuff” flowing from one party to another.

    Generally speaking, both net imports and net exports are a net harm to both parties. They give rise to a dead-weight loss. The optimal situation is balanced trade.

  31. RSJ

    I agree that Japan and China are very different. The difference lies with the importance of multinational corporations (MNC) mostly based in U.S. who are probably the biggest allies of China’s regime. But the thing that I am struggling with is that let’s say U.S. does something such as tariffs on products from China. What is stopping those MNC to just move production to another country? Nothing.

    Wage arbitrage is happening and China is fulfilling the demand but that doesn’t mean that tomorrow MNC moves it to Thailand or South Africa.

  32. RC,

    Wage arbitrage is only a problem because we have incentives in place that allow it to happen. If we remove those incentives, then it will stop.

    There are two distortions:

    Currency manipulation —> otherwise, if a business did move its plant to thailand, then the thai currency would appreciate, causing the benefit of the move to decline for the business. And you can stop this simply by imposing punitive tariffs on nations that peg, that are removed the moment the nation abandons the peg. Note that the tarrifs are not in response to trade imbalances per se, but only in response to pegging.

    Insufficient Income Stabilizers –> if we had punitive tax rates for the upper brackets, then there would be substantially less benefit for wage arbitrage. The aggregate wage share of income is relatively stable, so what is really happening is that the money saved from the wage arbitrage goes to high CEO salaries and top management. It is a transfer from workers to top earners, and the fact that this occurs via a song-and-dance through another country is secondary. You can directly attack this with punitive top rates. I would favor simplifying the tax code so that all income is treated the same way. No deductions at all. Capital Income, short term, long term, wage income — treat it all at the same rate, and have that rate be high — e.g. 70%, 80% for the highest brackets. If that happens, then management has no incentives to try to shift wages in this way.

    The combination of Income Stabilizers and cracking down on nations that peg will take care of this. Within this framework, MNC can do whatever they want, but the incentives of the system will be such to avoid declining wage shares.

    This is what the U.S. did — and what the whole world did — prior to about 1980. And the MNCs that we had in the 1950s-1970s were not kinder or nicer than our current stock of MNCs. But they operated under a different system of incentives and responded accordingly. Change the incentives and the MNC behavior will also change.

    In this sense, most of the concerns that people have are backwards. It is not that the world become more “flat”, causing globalization to reduce wages, but the tax policies changed, allowing globalization to transmogrify into wage arbitrage.

    As a result, third world development has been set back — the third world was developing at a much faster pace from 1950-1980 than from 1980-2010. There is no tension between trade and wages, neither does development in the third world require de-industrialization or declining wages in the first world. The tension is only there if our tax policies allow it to occur. When that happens, both developing and developed nations suffer, and the standard of living in both nations declines more than it otherwise would.

  33. RSJ, Bill,

    The benefit of the trade from the US perspective would be to free workforce in the US from manual labour so that they can do something else – more productive. At least this is the illusion which we can find on The workers have been indeed freed. They are unemployed.

    I am very pessimistic whether we can “start seeing our governments as vehicles for public purpose”. Let’s talk about something simpler. Dear Bill how many left-wing and right-wing Labor party governments in NSW promised fixing up the transport infrastructure?

    But NSW is not too bad compared with other cases. I don’t want to comment on Central European politics.

    But there is something even worse, much worse than that… The political system in the US is completely defunct and it resembles the dying Polish-Lithuanian Commonwealth from the 18th century with the Liberum Veto (filibustering) and magnates (corporations and banks) acting in the interests of the foreign powers. Please keep in mind one thing. If they really start printing money in the US, sorry, spending without borrowing from the financial markets – the last people who will see anything will be unemployed. They will print money and give it away to the rich AS USUAL.

    Do you think that you can drown financial markets in the liquidity when the governments provide full employment? They will drown middle class and they will destroy savings of the retires. The overlords of the financial markets think two steps ahead – they know how to counteract.

    Anyway I believe that what Bill writes is an invaluable voice in the discussion. You have to keep rocking the boat. Someone maybe in Greece, Portugal or Iceland may finally realise that “free” free financial markets are just wealth redistribution vehicles and the rules of the game need to be changed. Then people in the US may finally realise that they are screwed up as well…

  34. Shame on you, Bill Mitchell. Any loyal resident of Airstrip 2 should realize that Oceania has always been a trade war with Eastasia.

  35. Dear Bruce

    Problem is I am not loyal!

    And to those readers who cannot tell when I am joking – that was a joke.

    best wishes
    ps Hope your doing well!

  36. RSJ, the points you make are well taken. However, I am offering a simple analogy for consideration regarding the long view. Just as Japan began by exporting low-end goods, competing with comparable US goods, that’s where China is now. But Japan did not stop there, as we all know, and the US has changed markedly as a result. In some ways this has been a plus, and in other ways a minus.

    For example, I can well remember being into toy soldiers as a kid. When I first began my collection, the pieces were cast in soft metal in the US and UK and colorfully painted. They were expensive for my folks, and I had only a few of them. Petty hard to collect enough for two armies to do battle. Then came the cheap molded plastic ones from Japan. Not so pretty, but I didn’t care since my interest was in building two armies. Not only that, their heads didn’t fall off with rough use. Recently, I experienced something similar with tools. It used to be that tools were fairly pricey, and one only bought a tool for immediate use. Now, I can have a whole workshop with all kinds of speciality tools that I never would have owned, and for a very affordable amount.

    But I am also looking for a car. I am unlikely to consider an American make even at a deep discount because I have had good experiences with imports and bad experiences with domestics in the past. The next thing that happened after the wave of cheap exports to the US was that Japan began rebuilding its destroyed manufacturing base and started to build a reputation for quality. Since its equipment was newer and more efficient it wiped out whole US industries, like steel production. This happened in the UK and Europe, too. Then came autos and consumer electronics. It wasn’t long before comparable US goods were considered inferior. Then South Korea started coming online to compete with Japan in the US market.

    This scenario is going to be repeated in the case of China and India, followed by Brazil, and then Indonesia, and later many other countries as the 21st century progresses. The US lock on aircraft and other high technology industries is soon to be challenged, as others acquire this technology and their newly built factories are likely to outperform our older ones.

    Labor arbitrage is also here to stay, not only in low wage blue collar jobs. The global pool of labor is huge, and it will be drawn upon. As countries become wealthier and their populace more educated and trained, competition is only going to increase across the board. Neither the US nor any of the other developed countries can avoid this for long and they had better wake up and face the inevitable head on. The world is either going to cooperate on solutions, or wars are inevitable.

    The problems of the US are two-fold, real and manufactured. The coming developments that I have been describing are real challenges. The artificial ones are problems of our own making, principally through a failure of the American people to demand more at the voting booth. The principal challenge the US faces now is rampant corruption. The system is not working because it has been hijacked. As long as the American people stand for this, it will not only go on, it will expand. That’s the nature of things. Not only is rent-seeking replacing production, but also extraction is replacing actual contribution.

    The real challenge facing the world today to create a global economy capable of meeting the needs of the world’s people. “One planet, one people.” The knowledge provided by MMT shows that this is possible through real financial and economic innovation, not the phony financial innovation of Wall Street that conceals risk and peddles dreck to the unsophisticated because it can get away with it through state capture.

    There are a host of serious challenges facing us that require intelligent coordinated response. But climate change is the most pressing. Humanity is now approaching a test case in survival. We either come together as a species, or not. If not, it ain’t gonna be pretty. If we do, maybe we have a chance, although some scientists like James Lovelock think that we have already passed the tipping point of what the environment will bear. Meanwhile, the US, the supposed superpower and “leader of the free world,” lies paralyzed. This is not being lost on competitors.

    We can get lost in trying to fix the internal problems of the US, but unless we take a holistic approach to policy-making in light of global challenges the responses will be ad hoc attempts to patch a system that is both badly broken and obsolete. So far, what I am seeing is a desperate but doomed attempt to turn back the clock to a status quo that wasn’t sustainable then. Why would it be now?

  37. Tom, do you know what PPP is? What role do you think it plays in the global economy?

  38. Geoff, I’ll give you are layperson’s view and leave it to the economists here. I don’t think that purchasing power parity plays a really significant role in the global economy yet because of the still great disparity between undeveloped, emerging, and developed nations. It’s difficult to establish an identical good like a Big Mac or an index like a typical basket of goods, given this disparity among living standards, lifestyles, and cultural differences. The difficulty is compounded when trying to compare relative prices between predominantly middle-class countries and those that are just emerging from tribalism or feudalism, where the disparity is still huge. As a traveler, I notice more disparity than parity, indicating that the global economic system is highly inefficient. But the goods are seldom identical. Interestingly, it is often possible to get better goods much more inexpensively is some places, too. So I am skeptical of indexing when quality is not figured into the equation. Plus, in many parts of the world there are no standards or protections, which make similar items more costly were there are controls.

    But there is even significant disparity among different regions in the US and even different parts of town, where incomes and therefore demand is different, and rents differ, too. Savvy shoppers can often save on the order of 50%, so indexing price is iffy in my book. I read on blogs that people in some parts of the US are complaining about increasing food prices, while prices are dropping here. How does this get averaged out realistically? I’d say it is a crap shoot.

  39. “I am offering a simple analogy for consideration regarding the long view. Just as Japan began by exporting low-end goods, competing with comparable US goods, that’s where China is now”

    No, it is not there.

    Seriously, apart from China being Asian what does it have in common with Japan? Can you name 10 Chinese businesses that sell their own products to foreign consumers? In 1930, Nissan, Honda, and Toyota were already powerful companies making their own industrial goods for a global market. It was just never the case that Japan — which industrialized as a closed economy — relied on exports as a substitute for developing a domestic market. Neither did Korea or Germany, or any other high wage nation, with which trade is benefit.

    And since we are doomed to repeat the experiences of your childhood, why is wage arbitrage “here to stay”? I’m not sure whether to be horrified at this fatalism or just confused by the illogic of it. No unsustainable thing can be “here to stay”.

    Now maybe at some point in the future, things will change, at which point it may become the case that China is creating its own value-add products that are competitive with foreign products, and these products squeeze the profit margins of U.S. businesses, boosting real median wages of american consumers.

    In this reality alternate-reality, trade with China would be a net benefit and should be encouraged. After all, we can make distinctions and choices based on the current reality, rather than fatalism. You will know if we arrive in this reality because U.S. businesses will start lobbying to restrict trade with China, just as they lobbied to restrict trade with Japan. Should that happen, we can adjust trade policy appropriately.

  40. RSJ said: “It is always about wage shares and living standards in both nations – both suffer from wage arbitrage, and the elites in both nations favor the status quo.”

    How about are the spoiled and rich trying to “steal” the real earnings growth and retirement of the lower and middle class by exploiting an oversupplied labor market and a fungible money supply skewed towards too much debt?

    Is this similar to what Michael Hudson calls neofeudalism?

  41. Adam (ak) says: “If they really start printing money in the US, sorry, spending without borrowing from the financial markets – the last people who will see anything will be unemployed. They will print money and give it away to the rich AS USUAL.”


    IMO, it will be currency printing given away to the rich treasury holders once the rich (whether foreign or domestic) eliminate Social Security, Medicare, and Medicaid and if that is not enough to make the interest payments on the debt. The lower and middle class will be forced to suffer negative real earnings growth (a lower standard of living) to keep interest rates low and in real terms, interest rates positive.

    And, “Anyway I believe that what Bill writes is an invaluable voice in the discussion. You have to keep rocking the boat. Someone maybe in Greece, Portugal or Iceland may finally realise that “free” free financial markets are just wealth redistribution vehicles and the rules of the game need to be changed. Then people in the US may finally realise that they are screwed up as well…”

    I’ve concluded that “free markets” are really about the rich exploiting the lower and middle class by getting the labor market oversupplied by whatever means is necessary and then suckering them into too much debt thru the “banking” system.

  42. Can you name 10 Chinese businesses that sell their own products to foreign consumers?

    Are you kidding? Have you looked on eBay lately, or Ali Baba? Several of my friends are importers. They buy stuff in China, India, Nepal, Indonesia, and Thailand, for example. There are thousands of Asian businesses exporting to the US. Much of the stuff you can get in Asia, you can get from Asian companies in SF and LA that bring the stuff in by the container about as inexpensively as in Asia and shipping it yourself unless you deal in containers. This is a huge market. This isn’t just trinkets. You can bring in a whole house from Indonesia, for instance. They are disassembling the beautiful hand crafted ones to replace them with “modern” ones. I have a friend that has warehouses full of this stuff that he sells to designers and architects around the country. Or did, demand being in the tank now.

    Americans would faint if they knew the actual prices. The mark up here is regularly 20 or 30 times, and even more.

    This isn’t just dreck either. Take pharmaceuticals. Cipla of India is a state of the art producer. For example, a month supply asthma inhaler that sells for $150 in a US pharmacy and about $120 at Costco, and $90 imported from a Canadian pharmacy, is about $8 in India and $5 in Kathmandu.

    Once you know the real price, you just shake your head at what most people think is a good deal, even on “sale.” Do you know what Ikea does with returns? They just crush them. They aren’t worth processing.

  43. China Drawing High-Tech Research From U.S.

    But none of that changes the sense that tectonic shifts are under way.

    When Xie Lina, a 26-year-old Applied Materials engineer here, was asked recently whether China would play a big role in clean energy in the future, she was surprised by the question.

    “Most of the graduate students in China are chasing this area,” she said. “Of course, China will lead everything.”

  44. Tom,

    I’m trying to tease out an awareness that whether something is a net benefit or net harm is dependent on what happens to nation incurring the current account imbalance.

    Whether the trading partner is populated by bright attractive people with high hopes for the future is irrelevent — at best, it’s a racist distraction. At worst, you are replacing your economic analysis with folsky historicism.

    Whatever social welfare function you choose, it will be biased towards median incomes, so if the current account imbalance causes these incomes to fall in real terms, then the goods that average citizen can purchase in real terms also declines, and they suffer a loss in living standards. The trading partner also suffers a loss in living standards. There is a dead-weight loss for both sides.

    Only in the case where imports cause real median incomes to rise is there a net benefit. And the data shows that this occurs when the trading partner is a high-wage nation, rather than a low wage nation.

    Therefore we can have large trade with all nations, but we should tolerate a net import position only with high wage nations. We should not have a net export position with any nation.

    And this is clear from the accounting — the exact same logic that argues that government deficit spending can stimulate the economy says that imports can have a negative effect. If you believe one, but not the other, then there is “tension” in holding these two beliefs simultaneously.

    Now you could try to argue that sufficient government deficit spending will offset the social welfare loss of declining real incomes.

    You would be wrong. An $8 jobs program will not compensate the laid off worker that has dropped out of the middle class. Only maintaining his income fully would compensate him for the social welfare loss.

    Now you can argue that the loss of median incomes can be counteracted by deficit spending. Deficit spending can ensure that enough assets flow to the domestic private sector as a whole to counteract the decline in aggregate incomes, but it cannot counteract the increase in inequality, as deficit spending itself promotes inequality. Those assets will not flow to the people you are trying to help — not unless they save 100% of the proceeds, which obviates the stimulative effects of the policy. The deficit spending itself will increase inequality further.

    So there is no lever to counteract the social welfare loss just by looking at aggregate income flows. You need to disaggregate and be aware that there are winners and losers across the income distribution, based on whether the current account imbalance is due to increased product competition, or increased labor competition.

    In the case of the latter, the only way to counteract the loss is to change the incentive structures that allow the wage arbitrage in the first place. If you do this successfully, the current account imbalance will disappear.

    And making racial or ethnic appeals doesn’t counteract the above argument. What matters is the effect on domestic social welfare from the policy, not your own views about the desirability or lack thereof of the trading partner.

  45. Dear RSJ, Tom and All

    I’m trying to tease out an awareness that whether something is a net benefit or net harm is dependent on what happens to nation incurring the current account imbalance.

    This point is clear and important. When I outline the basic MMT model with just government and non-government sectors to highlight the important and uniqueness of vertical financial transactions motivated by fiscal and monetary policy I make the point that while aggregating the private domestic sector and foreign sector into the non-government sector is useful for making that point there are distributional issues that arise when transactions between sub-sectors in the non-government sector arise.

    Distributional issues are very important. I am the Director of a research centre called the Centre of Full Employment and Equity and we chose that name for a reason (although the of rather than for was to get the convenient acronym – CofFEE).

    I often say when I am giving public lectures/presentations that the way we should judge public policy is in terms of how rich it makes the poor not how rich it makes the nation as a whole.

    So while I am a macroeconomist and seek to bring clarity to the aggregate relationships I am very aware of the distributional consequences of economic outcomes.

    I therefore have a lot of sympathy with the points RSJ makes about distribution in this respect. But having said that I also think the discussion is too narrow.

    RSJ said (to Tom):

    Now you could try to argue that sufficient government deficit spending will offset the social welfare loss of declining real incomes.

    You would be wrong. An $8 jobs program will not compensate the laid off worker that has dropped out of the middle class. Only maintaining his income fully would compensate him for the social welfare loss.

    The Job Guarantee (and as an aside I would pay much more than $US8 an hour in the US as a minimum wage) is not a panacea for everything and I have never held it out to be. Nor do I believe my US counterparts see it in that way. It is a buffer stock of jobs that provides a safety net when there is a downturn in private employment. It also happens that persistent unemployment overwhelmingly becomes the burden of the least-skilled workers in any nation. So the skills-related underemployment (and income loss) of a properly paid JG job would not be that significant for most of the people who took advantage of the guarantee to achieve income security over the business cycle.

    Clearly skilled workers also lose jobs in a downturn but their unemployment is usually short-term. The sort of problems you are thinking about RSJ – those relating to so-called “off-shoring” of jobs to cheaper climes etc are not cyclical events but are rather structural changes which happen relatively slowly (that is, not overnight).

    In that sense, a nation can anticipate these job losses to some extent. It was clear that as China developed low-cost processes would migrate there because that is the logic of capitalism and which is one of the reasons I don’t like it as a primary system of organising production and distribution. But equally the US developed by importing jobs from Europe and a nation can only become rich through this sort of process. We haven’t even started to see Africa develop yet!

    So I prefer to think of the distributional problem in this way. I am happy that poor workers in China and elsewhere have a chance to enjoy better material standards of living that in the past by doing things that we used to do in an earlier stage of development. This is subject to the caveat in the last paragraph below.

    The challenge for governments in rich nations is to anticipate this and ensure that the distributional consequences turn in our favour while promoting development in poorer nations. How might that work out? I used the example of Norway which you have conveniently ignored. They have had huge industry compositional shifts – loss of manufacturing etc but have not suffered the deterioration of their employment structure. Why? They shifted workers into high skilled public service jobs delivering education, health care, cultural services and more.

    You might say they run an external surplus and so this is the reason such a policy stance is possible. That would be an incorrect argument. Any sovereign nation can do that. For Norway, it just means they can do it with a small budget surplus given the current strength of their energy exports.

    There are always opportunities that arise from the structural changes you are worried about. One of the great challenges in the next 50 years or more is addressing climate change and ageing populations. Hundreds of thousands (I am talking Australian scale here – let me say for the US readers – millions) of skilled jobs will be needed in these areas alone.

    A high proportion of these jobs will be service-oriented (as Norway is showing). But there are major opportunities in renewable energy and new transport systems etc which provide significant scope for a forward-looking government to create new manufacturing capacities which can absorb high-skilled workers (via some retraining) and provide industrial bases for cities that have lost out to Asia.

    The only thing stopping these policy developments is the ideological distaste promoted by the conservatives for government intervention. I support a strong public sector involvement in these new areas. If the private sector wants to go off-shore – fine let them. This just provides more scope and a greater necessity for expanded public sector activity. And I am not thinking of a top-down heavy bureaucratic process here (all you gold bugs – save your fingers and don’t type in accusing me of suggesting socialism – I might or might not support socialism but what I am not talking about here is not part of that discussion).

    I favour strong local and regional work councils to address local need. I support strong forward-planning mechanisms that would link bodies public enterprise with national funding to pursue concentrations of renewable manufacturing etc. I see major employment in research, education, software development etc associated with a burgeoning renewable energy industry.

    These sorts of considerations are behind my position that China is not the problem (in the way we are thinking it is a problem). Any sovereign government can redress the loss of income through trade deficits via public net spending. But to address the distributional issues, the same government can also initiate forward-looking and imaginative ventures designed to engage its citizenry in skilled activities which provide high pay, high productivity and enduring benefits.

    Finally, I also temper my comments above by saying that I would only allow trade that is fair rather than free and that should be a major policy focus. I have argued in Australia that we should be much more circumspect in dealing with China because they deny basic worker freedoms etc. At present they are staging a “secret” trial of an Australian businessman who is charged with industrial espionage and this is seen as retaliation by the Chinese government of a decision by the Australian government to block a major resource purchase by the Chinese government in Australia. I only support trade with nations that pay acceptable wages, offer acceptable working conditions, allow free association (that is, formation of unions) and do not damage our natural environment in an unsustainable way. For me this is the public policy issue relating to trade – not worrying about the size of the CAD or whether China is building up AU dollar or US dollar reserves.

    best wishes

  46. Dear Bill,

    I make the point that while aggregating the private domestic sector and foreign sector into the non-government sector is useful for making that point there are distributional issues that arise when transactions between sub-sectors in the non-government sector arise.

    But these issues always arise. You cannot separate out the distributional issues from the aggregate balance flows, as the distribution of assets — or claims on balance flows — is not equal.

    Increasing the quantity of money flowing to the domestic private sector will decrease wage shares, defined as median wage/(per-capita output).

    Imagine that you are spending $1 per period on JG workers. Suppose the consol rate is 5%. That means you have just given $20 worth of financial assets to the private sector — regardless of whether bonds are sold or not. If the workers save 5% of that, then their annuity is valued at $1, and the remaining $19 is split by everyone else (including the foreign sector), in proportion to their current ownership shares.

    Therefore the wealthy will capture a greater proportion than the poor, even if the program only gives money to the poor.

    Only if your tax policy is such that 100% of the additional spending is drained back will your JG program not push down wage shares.

    If you follow these financial flows, then if x = wage share, and r = recapture rate (i.e for every $1 of asset flows into the private sector, $r is recaptured as taxes), we have

    (1) dx = kxdr

    Where k depends on the differing propensities to consume and how progressive the tax is. “k” may be low, but it will not have a negative sign. Only in the special case of perfect asset equality will k be zero. In that special case, you can indeed treat aggregate balance flows independently of distributional concerns.

    And note that (1) holds for any infusion of wealth into the private sector — whether from government deficit spending or from the current account, which is why mercantilism leads to inequality rather than wealth.

    To try to estimate k, we want to see how ln(x) changes with r. In the major OECD nations from 1990-2006, k was about 0.2, meaning that, holding the trade surplus fixed, a 1% increase between the “recapture rate” increased wage shares by 0.2%, as can be seen from the data. Obviously some nations (e.g. New Zealand) were particularly bad, most likely due to a regressive tax position relative to their peers.

    Btw, median wage share data is hard to find — you can download it here:,3343,en_2649_33729_38939455_1_1_1_1,00.html

    If others know of better sources, I would be interested, since I’ve been doing elasticity tests on these.

    If wage shares are too high — e.g. due to deflation — then deficit spending will lower them. And if they are too low, then deficit spending will lower them further. This is why even though you can deficit spend your way out of an output decline, you cannot deficit spend your way out of a wage share decline. Only tax policy and other structural reforms can do that.

    At best, deficit spending is the anaesthesia that you administer to the private sector as you go about zeroing out excess assets and lowering inequality. If you try to treat the disease only by supplying anaesthesia for the pain, then you are responsible for promoting inequality and decreasing welfare.

    In particular, you cannot argue that a sufficient quantity of deficit spending will counteract the downward pressures on wage shares due to outsourcing.

    But equally the US developed by importing jobs from Europe and a nation can only become rich through this sort of process. We haven’t even started to see Africa develop yet!

    No, not only have nations not become wealthy by running trade surpluses, but it is impossible to become wealthy this way. Mercantilism only lowers living standards relative to balanced trade.

    You never need to import jobs to develop — there is always a domestic market that you can sell to. You never need more money, only better institutions and a more equal distribution of money. The only time more money is required is if your own distributional problems are so entrenched that it is easier for you to import demand than to clean up your own economy.

    But if you follow this path, then by the above logic, you are worsening your own distributional problems further, and are sabotaging your own future growth.

    Mercantilism played an important historical role in Europe’s development — all of the wars caused by it led to strong central governments and advances in naval technology. It spurred the creation of capital markets, etc.

    But one thing that mercantilism failed to do was to deliver a sustained increase in output per person. The best example of this was the Dutch Republic — the apex of mercantilism — that nevertheless received no output benefit from increasing the quantity of money — all that happened from the enormous influx of wealth was that inequality reached staggering proportions, and the Republic doomed itself to over 100 years of stagnation.

    I am not arguing that the influx of money has no effect — such an influx can arrest re-enforcing cycles of liquidation during the business cycle — but across the business cycle, adding more money does not make you richer, it makes you poorer due to the distributional effects.

    The european economies became rich not by running current account surpluses, but by industrialization, and this only occurred in the 19th century. Output per person was relatively constant up until that point.

    And in the course of that industrialization, the larger economies generally did not run large trade surpluses, and often ran deficits. The U.S. generally kept its trade surplus around 1.5% of GDP. Industrialization (due to increasing returns) naturally leads to increased trade, but not an increased trade surplus.

    What China is doing now has no historical counterpart — the magnitude of the imbalances are unprecedented. If you look at the history of European industrialization, only very small nations, such as Holland (in the 19th Century) — managed to sustain surpluses of 10% of GDP. Britain generally ran deficits. But even in that case, private consumption was rising over time.

    What is happening in China is different. They are following the path of Dutch Republic, with rapidly rising inequality.

    But unlike the Dutch Republic, they are able to keep this system going on a much larger scale due to the “opportunities” of a fiat monetary regime and a powerful domestic security apparatus.

    The result is an unprecedented two decade decline in private consumption — something that no european nation has ever suffered. In a more normal (e.g. free) economy, this decline in consumption would lead to deflation and a fall in the trade surplus until the economy had restored itself to more sustainable patterns of production and consumption.

    But the Chinese government is able to prevent this adjustment from occurring. Japan, in the same way, has managed to keep itself suffering in stagnation via the “opportunities” of MMT that allowed the wealthy to keep their assets at face value while the rest of the economy stagnated.

    What would be a “good” use of fiat money? The good use would be confidence that you can zero out bad assets and close businesses with impunity, because you always have enough anesthetic in the form of social spending to get the patient through the operation. The “bad” use of fiat money is to keep increasing deficit spending whenever underpaid employees go on a shopping strike, but without forcing wage increases or zeroing out assets.

    I used the example of Norway which you have conveniently ignored. They have had huge industry compositional shifts – loss of manufacturing etc but have not suffered the deterioration of their employment structure.

    I am ignoring Norway because they are irrelevant to these issues. They are a small nation sitting on a large pool of oil, running a current account and (budget) surplus. In that case, it easy for them to adjust their labor force to social services and the like.

    We should separate out the issue of micro vs. macro. At the micro level, you can help a worker get a job in the service industry or doing community work, which is helpful and important, but also completely irrelevant to solving the macro problem.

    The macro problem is that China’s surplus is not sustainable, and at some point they will explode and/or swing to a more balanced position.

    Already the profit margin on the majority of Chinese exporters is less than 2%. 1/2 the toy manufacturers in South China quickly went bankrupt when the crisis hit due to the initial demand drop off.

    If they drop the peg, the increase in currency will bankrupt large swathes of their export base, but if they do not drop the peg, then domestic inflation will do the same. All unsustainable things, at some point, stop. So the macro problem is how to prepare for this adjustment and use fiat powers in such a way as to prevent an overall output drop:

    will the world as a whole suffer a loss in trade, or will the current deficit nations be able to send China more output, or will they able to replace the imports that they are currently receiving?

    If you want to avoid a global decline in output, then you need to somehow replace the current share of manufactures supplied by China, and allocating resources for us to perform social services and community organizing is not going to do this. With Norway, the answer is oil — they have no macroeconomic problem — as the already have plenty of goods to sell to China, and can focus on making internal adjustments. But the U.S. and EU do have a macro problem, and providing more services to ourselves does nothing to address it.

  47. Bill,

    I haven’t got through all of the comments yet, so I’m not sure if someone else has mentioned it, but Michael Pettis in China Financial Markets, while coming from a somewhat different perspective from MMT, arrives at broadly similar conclusions. As I am sure you would agree, understanding of “economics” here is less important that a proper understanding of the real underlying mechanics of money and trade.


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