Currency Wars, Redux

October 14, 2010 at 7:08 pm | Posted in Political Economy | 1 Comment
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I had hoped to move on from discussions of currency wars to other issues concerned with the transition from US hegemony, but an article by the influential Financial Times columnist, Martin Wolf, was provocative–and misleading enough–to revisit the issue especially since it resonated with some of the comments made by a colleague recently.

Wolf claimed “the US wants to reflate the rest of the world, while the latter is trying to deflate the US. The US must win, since it has infinite ammunition: there is no limit to the dollars the Federal Reserve can create. What needs to be discussed is the terms of the world’s surrender.”

Since the United States runs an enormous current account deficit and the ’emerging market economies’–most notably China–run large current account surpluses, Wolf contends that if the US Federal Reserve issues a flood of dollars, China and other states with current account surpluses would have two choices. They could try to keep the value of the US dollar high by buying dollars and thereby transfer their savings to the United States especially since a large part of their foreign exchange reserves are in dollar-denominated securities. The massive capital inflow that would ensue would enable the US to maintain low interest rates and thereby make housing more affordable. Alternatively, they could let their currencies appreciate in which case they would see their competitive cost advantages erode.

This is misleading because the largest, and fastest-growing, sector in East Asia is the trade in intermediate parts. Components of products are traded within the region and final assembly is done in China. Despite China producing some 75 percent of the world’s toys, only about 1/70th of the profits are retained in China. A New York Times report estimated that thougn a Barbie doll retails for $20, China retains only 35 cents. Hence, a revaluation of the renminbi will not substantially impact on the competitiveness of Chinese exports. On the contrary, since a revaluation of the renminbi will enable Chinese producers to buy intermediate parts and raw materials more cheaply, it might even increase the competitiveness of Chinese exports.

Low interest rates in the United States may make houses more affordable but that has little meaning when the unemployment rate continues to remain at high levels and the income gap between the rich and the poor is larger than at any time than the late 1920s. Michael Powell and Motoko Rich report in the New York Times that at the present rate of job creation, it would take nine years to make up the jobs lost during the last two years–and this does not even factor in the five to six million jobs needed to accommodate an expanding population.

In short neither the issue of unlimited dollars nor low interest rates will rescue the United States.


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  1. A couple of points.
    First, if China is making so little money on its exports how to you account for its huge trading surplus and rapidly rising investments abroad? Are China’s massive surpluses really the disguised surpluses of its FDI owners? If so, why would the only profitable sector of big outsourced US corporations such as GM be calling for an increase in the price of their products in China?
    Second, China shows no signs of bending making peace in this growing currency war. Doesnt that show that it is not dependent on FDI anymore and has its own independent imperialist interests to pursue?

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