FrenchSocialist said:

Economist is talking about insourcing.

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Economist said:To begin with, as noted in the article, foreign reserves currently hold government debt, not household or corporate debt. Which means that an end to deficit spending by the government would mean an end to this entire argument. The US economy is healthier than ever. The US government is not.

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In the late 1990s, the United States borrowed abroad to finance private investment. Today, however, the country does most of its foreign borrowing to finance the federal budget deficit, which is projected to be close to 3.5 percent of GDP in 2005. (In 2000, the United States had a surplus equal to 2.5 percent of GDP.) Recent economic growth has not reduced the budget deficit, but it has increased private demand for scarce savings; the net result has been even more borrowing from abroad. In 2004, foreigners bought an amazing $900 billion in U.S. long-term bonds; the United States exported a dollar of debt for every dollar of goods it sold abroad. Looking ahead, the U.S. debt position will only get worse. As external debt grows, interest payments on the debt will rise. The current account deficit will continue to grow on the back of higher and higher payments on U.S. foreign debt even if the trade deficit stabilizes. That is why sustained trade deficits will set off the kind of explosive debt dynamics that lead to financial crises.

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Levey and Brown are right that so far, the world's appetite for U.S. credit has bolstered the U.S. ability to be a global hegemon "on the cheap." The United States exports enough to pay for only two-thirds of its imports; after recent tax cuts, the U.S. government collects enough non-Social Security revenue to cover only two-thirds of its non-Social Security spending. Foreigners made up the difference last year, buying enough U.S. Treasuries to fund the entire budget deficit. But without access to this easy financing from foreign central banks, the U.S. government and the U.S. electorate will have to make the kinds of unpleasant choices they have thus far avoided: among guns, butter, pork, tax cuts, and low interest rates.

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Q. Productivity has increased on average 2.2 percent per year in the non-farm business sector over the last 20 years. This is a cumulative increase of 56 percent. What could be wrong with this?

A. Productivity figures like these are misleading and incomplete. In theory productivity increases should generate higher paying jobs and a lower cost of living as technology, capital, and process improvements are employed to make labor more efficient. But this applies only if the work is done in American factories by American workers. In reality, much of the recent productivity improvement reported by American corporations stems from shifting work abroad, often to low-wage nations. Intuitively, if a corporation fires most of its workers at home and outsources most of its manufacturing, it can dramatically increase its reported output per American worker. The downside is that it has done so at the expense of American jobs. Thus the American economy as a whole is not better off and probably on balance is considerably worse off. This applies in spades where corporations transfer vital American production secrets abroad, thus helping other nations boost their worker productivity on America's dime.

That official productivity figures greatly exaggerate the rate of true productivity improvement is surely obvious from the fact that over the past 20 years, both hourly and weekly average earnings have experienced essentially zero real growth after accounting for inflation.

Thanks to the loss of 3.7 million manufacturing jobs in the last 20 years, we now have fewer people employed in manufacturing than we did in 1955. This is truly remarkable when you realize that America's population has risen by 77 percent in the interim (from an estimated 167 million in 1955 to 296 million today). Manufacturing jobs pay above-average wages because they typically involve sophisticated machinery that leverages each worker's productivity. The average manufacturing employee earns almost 32 percent more than the average service-industry employee. Thus the fact that manufacturing jobs have fallen while service jobs have ballooned merely means we have been replacing high-paying jobs with low-paying ones.

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Economist said:Thus the UK is currently financing US government debt because it's profitable for them to do so. They wouldn't suddenly quit, because they want to make money. Furthermore, the huge drop in June of 2006 should also be instructive in how little a securities dump will actually effect the US Dollar.

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Starting January 2007
Date 1 mo 3 mo 6 mo 1 yr 2 yr 3 yr 5 yr 7 yr 10 yr 20 yr 30 yr
01/02/07 4.79 5.07 5.11 5.00 4.80 4.71 4.68 4.68 4.68 4.87 4.79
01/03/07 4.84 5.05 5.09 4.98 4.76 4.69 4.66 4.66 4.67 4.85 4.77
01/04/07 4.80 5.04 5.07 4.95 4.71 4.63 4.61 4.61 4.62 4.81 4.72
01/05/07 4.81 5.05 5.09 4.98 4.76 4.68 4.65 4.65 4.65 4.84 4.74
01/08/07 4.87 5.08 5.13 5.01 4.78 4.70 4.66 4.66 4.66 4.84 4.74
01/09/07 4.90 5.08 5.13 5.02 4.79 4.70 4.65 4.65 4.66 4.83 4.74
01/10/07 4.94 5.09 5.13 5.02 4.81 4.72 4.68 4.68 4.69 4.87 4.77
01/11/07 4.99 5.11 5.15 5.05 4.86 4.78 4.73 4.73 4.74 4.92 4.82
01/12/07 4.98 5.09 5.15 5.06 4.88 4.81 4.76 4.76 4.77 4.96 4.86
01/16/07 5.00 5.11 5.16 5.06 4.86 4.79 4.74 4.74 4.75 4.94 4.85
01/17/07 5.01 5.12 5.16 5.08 4.91 4.83 4.78 4.78 4.79 4.98 4.88
01/18/07 4.97 5.12 5.16 5.07 4.89 4.80 4.75 4.75 4.75 4.94 4.85
01/19/07 4.96 5.14 5.17 5.09 4.93 4.83 4.78 4.78 4.78 4.96 4.87
01/22/07 4.98 5.13 5.18 5.09 4.91 4.82 4.77 4.76 4.76 4.94 4.84
01/23/07 5.02 5.14 5.18 5.10 4.94 4.85 4.81 4.81 4.81 5.00 4.90
01/24/07 4.99 5.13 5.17 5.09 4.93 4.85 4.81 4.81 4.81 5.00 4.91
01/25/07 4.97 5.14 5.18 5.11 4.98 4.90 4.85 4.85 4.87 5.06 4.96
01/26/07 4.94 5.13 5.18 5.12 4.99 4.91 4.87 4.87 4.88 5.07 4.98
01/29/07 4.95 5.14 5.19 5.12 4.99 4.93 4.89 4.89 4.90 5.09 4.99
01/30/07 4.99 5.13 5.18 5.11 4.98 4.90 4.86 4.86 4.88 5.07 4.98
01/31/07 5.00 5.12 5.16 5.09 4.94 4.85 4.82 4.82 4.83 5.02 4.93
02/01/07 4.99 5.13 5.16 5.09 4.96 4.88 4.84 4.84 4.84 5.02 4.93
02/02/07 5.01 5.14 5.16 5.08 4.94 4.87 4.82 4.82 4.83 5.02 4.93
02/05/07 5.06 5.15 5.16 5.08 4.92 4.84 4.80 4.80 4.81 5.00 4.91
02/06/07 5.14 5.14 5.16 5.07 4.90 4.80 4.76 4.76 4.77 4.96 4.87
02/07/07 5.15 5.15 5.16 5.06 4.87 4.77 4.74 4.73 4.74 4.94 4.86
02/08/07 5.15 5.16 5.16 5.06 4.87 4.77 4.73 4.73 4.73 4.93 4.81
02/09/07 5.15 5.15 5.17 5.08 4.92 4.82 4.78 4.78 4.79 4.98 4.87
02/12/07 5.16 5.18 5.18 5.10 4.94 4.84 4.80 4.80 4.80 5.00 4.88
02/13/07 5.24 5.17 5.17 5.10 4.95 4.85 4.81 4.81 4.82 5.02 4.90
02/14/07 5.23 5.16 5.16 5.06 4.87 4.77 4.72 4.72 4.74 4.94 4.83
02/15/07 5.23 5.17 5.15 5.04 4.83 4.73 4.68 4.69 4.70 4.91 4.81
02/16/07 5.23 5.17 5.15 5.05 4.83 4.73 4.68 4.68 4.69 4.90 4.79
02/20/07 5.23 5.19 5.16 5.04 4.81 4.71 4.67 4.67 4.68 4.89 4.78
02/21/07 5.27 5.18 5.16 5.05 4.82 4.74 4.68 4.68 4.69 4.90 4.79
02/22/07 5.26 5.19 5.17 5.07 4.87 4.77 4.72 4.72 4.73 4.94 4.83
02/23/07 5.25 5.18 5.17 5.05 4.82 4.71 4.67 4.67 4.68 4.89 4.79
02/26/07 5.23 5.19 5.18 5.05 4.77 4.67 4.62 4.62 4.63 4.84 4.73
02/27/07 5.22 5.14 5.10 4.93 4.59 4.50 4.46 4.46 4.50 4.73 4.62
02/28/07 5.24 5.16 5.12 4.96 4.65 4.55 4.52 4.53 4.56 4.78 4.68
03/01/07 5.25 5.15 5.11 4.95 4.63 4.54 4.50 4.51 4.56 4.78 4.68
03/02/07 5.23 5.12 5.07 4.90 4.56 4.48 4.46 4.47 4.52 4.75 4.65
03/05/07 5.22 5.10 5.08 4.89 4.53 4.47 4.45 4.46 4.51 4.74 4.64
03/06/07 5.24 5.14 5.10 4.92 4.58 4.52 4.48 4.49 4.53 4.76 4.66
03/07/07 5.24 5.12 5.09 4.90 4.54 4.48 4.45 4.46 4.50 4.73 4.64
03/08/07 5.24 5.10 5.08 4.91 4.56 4.49 4.45 4.46 4.51 4.74 4.65
03/09/07 5.22 5.10 5.13 4.98 4.66 4.58 4.55 4.55 4.59 4.81 4.72
03/12/07 5.22 5.09 5.13 4.96 4.62 4.55 4.50 4.51 4.56 4.78 4.69
03/13/07 5.23 5.09 5.10 4.90 4.52 4.45 4.41 4.43 4.50 4.75 4.66
03/14/07 5.24 5.06 5.10 4.91 4.54 4.47 4.44 4.46 4.53 4.78 4.69
03/15/07 5.21 5.05 5.12 4.93 4.57 4.50 4.46 4.47 4.54 4.78 4.69
03/16/07 5.18 5.04 5.13 4.95 4.58 4.51 4.47 4.49 4.55 4.79 4.70
03/19/07 5.17 5.06 5.13 4.96 4.61 4.54 4.50 4.51 4.58 4.81 4.72
03/20/07 5.22 5.06 5.12 4.94 4.60 4.51 4.47 4.49 4.56 4.79 4.71
03/21/07 5.24 5.05 5.08 4.89 4.51 4.44 4.43 4.45 4.53 4.78 4.70
03/22/07 5.23 5.06 5.08 4.91 4.58 4.51 4.49 4.52 4.60 4.86 4.78
03/23/07 5.24 5.08 5.10 4.93 4.60 4.54 4.52 4.54 4.62 4.88 4.80
03/26/07 5.22 5.06 5.09 4.91 4.56 4.50 4.48 4.51 4.60 4.86 4.79
03/27/07 5.20 5.08 5.09 4.91 4.58 4.51 4.50 4.53 4.62 4.89 4.81
03/28/07 5.18 5.06 5.08 4.90 4.53 4.49 4.50 4.53 4.62 4.90 4.83
03/29/07 5.05 5.05 5.06 4.90 4.58 4.52 4.53 4.55 4.64 4.90 4.83
03/30/07 5.07 5.04 5.06 4.90 4.58 4.54 4.54 4.58 4.65 4.92 4.84
04/02/07 5.12 5.04 5.09 4.92 4.60 4.53 4.54 4.57 4.65 4.92 4.84
04/03/07 5.15 5.05 5.09 4.93 4.63 4.57 4.56 4.59 4.67 4.93 4.85
04/04/07 5.16 5.07 5.08 4.92 4.61 4.55 4.55 4.58 4.66 4.92 4.85
04/05/07 5.10 5.04 5.07 4.93 4.63 4.57 4.57 4.60 4.68 4.95 4.87
04/06/07 5.10 5.05 5.10 4.98 4.75 4.68 4.67 4.69 4.76 5.00 4.92
04/09/07 5.08 5.02 5.11 4.98 4.73 4.67 4.66 4.68 4.75 5.00 4.92
04/10/07 5.00 5.03 5.10 4.97 4.71 4.64 4.63 4.65 4.73 4.99 4.91
04/11/07 5.01 5.04 5.10 4.97 4.73 4.66 4.66 4.67 4.74 5.00 4.92
04/12/07 5.00 5.03 5.10 4.97 4.73 4.66 4.66 4.67 4.74 4.99 4.91
04/13/07 4.98 5.02 5.09 4.98 4.76 4.71 4.68 4.70 4.76 5.01 4.93
04/16/07 4.97 5.01 5.09 4.97 4.74 4.68 4.67 4.69 4.74 4.98 4.89
04/17/07 4.94 5.01 5.07 4.93 4.68 4.61 4.61 4.62 4.69 4.93 4.85
04/18/07 4.94 5.00 5.04 4.91 4.64 4.57 4.56 4.58 4.66 4.90 4.81
04/19/07 4.93 4.99 5.04 4.91 4.64 4.58 4.57 4.60 4.68 4.92 4.84
04/20/07 4.93 4.99 5.05 4.91 4.64 4.58 4.57 4.60 4.68 4.93 4.85
04/23/07 4.93 4.98 5.04 4.90 4.62 4.55 4.55 4.57 4.66 4.91 4.83
04/24/07 4.92 4.98 5.03 4.88 4.58 4.52 4.51 4.54 4.63 4.88 4.80
04/25/07 4.94 4.97 5.03 4.90 4.63 4.55 4.55 4.57 4.66 4.91 4.83
04/26/07 4.91 4.96 5.04 4.92 4.67 4.60 4.59 4.61 4.69 4.95 4.87
04/27/07 4.85 4.95 5.03 4.91 4.67 4.61 4.59 4.62 4.71 4.96 4.89
04/30/07 4.80 4.91 5.03 4.89 4.60 4.54 4.51 4.55 4.63 4.88 4.81

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Foreign central banks have financed the United States to keep their export sectors -- heavily dependent on U.S. consumer spending -- humming. But they now must weigh the benefits of providing the United States with such "vendor financing" against the rising costs of keeping the current system going.

Now, foreign central banks with large dollar holdings are facing the prospect of huge losses as a result of the dollar's decline. A 20 percent increase in the value of the yuan against the dollar would reduce the value of China's roughly $450 billion in dollar reserves by about $100 billion -- 6 percent of China's GDP. In four years, if nothing changes, Chinese dollar reserves could reach $1.4 trillion, raising the costs of a falling dollar to $300 billion -- some 12 percent of China's GDP. In short, the longer China continues to finance U.S. deficits, the larger its ultimate losses.

More important, the current arrangement increasingly risks creating domestic financial trouble. Growing reserves naturally lead to growth in the money supply, raising the risk of inflation. In order to avert this risk, central banks must resort to a process called "sterilization": selling local-currency bonds to reduce the amount of cash in circulation. But this process is expensive, especially if local interest rates are higher than dollar interest rates. Chinese domestic interest rates are low, so China does not face this problem. But it does face another: rapid monetary growth has contributed to a boom in bank credit, excessive investment growth, and a real estate bubble. Thus far, China has used price controls to keep prices from rising, but such controls, which cause deep distortions in the economy, cannot keep the lid on inflation forever. Eventually, rising domestic prices will erode China's competitiveness even if it keeps its currency pegged at its current level. China is likely to let its currency appreciate rather than accept socially and politically destabilizing inflation.

Let's face it: most Asian central banks view financing the U.S. deficit as a burden, one that they would rather not shoulder. A recent survey of central banks (which did not include the People's Bank of China or the Bank of Japan) indicated that most want to scale back their dollar purchases, and some smaller central banks are already adding more euros and yen to their portfolios. In March, a former manager of China's currency reserves questioned China's current development strategy, asking why it should seek out foreign investors looking for a 15 percent return on their investment only to have the central bank lend these funds back to the United States at 4 percent. China will conclude that rapid accumulation of dollar reserves no longer serves its interests sooner than optimists think.

Many claim that Asian central banks have to hold on to their dollars -- and the U.S. bonds that they have bought with their dollars -- because a selloff would drive the market for dollars lower and thus be self-defeating. This argument, however, misses a key point: foreign central banks do not need to dump their existing stocks of U.S. dollars to cause financial distress in the United States; they only need to slow their new purchases of dollar debt. If central banks decide that $2.5 trillion in dollar reserves is enough, the result will be a sharp fall in the dollar and a sharp rise in U.S. interest rates.

Levey and Brown further argue that even if foreign central banks scale back their financing, there is little to worry about, since the United States is on the verge of a new information technology (IT) revolution that will attract a new wave of investment from abroad. Alas, there is little evidence to suggest this pleasant scenario will come to pass. In both 2003 and 2004, equity investors took more than $150 billion out of the United States: U.S. direct investment abroad exceeded foreign direct investment in the United States, and U.S. purchases of foreign stocks exceeded foreign purchases of U.S. stocks. High equity inflows are more likely to come because a further fall in the dollar makes U.S. assets fire-sale cheap than because of a scramble to get in on another IT boom.

Other countries do of course depend on U.S. spending to make up for a lack of demand inside their own economies. But the United States cannot take comfort in the fact that the necessary "adjustment" will be painful abroad. If a falling dollar slows German, Japanese, or even Chinese growth, it will become even harder for the United States to reduce its trade deficit by exporting more -- a key part of any "soft landing" scenario.

And even if the United States has relatively little to fear from a falling dollar, it has much to fear from an increase in interest rates. If central banks ever cut back on their dollar purchases, private investors abroad would likely demand much higher interest rates. They would have to be compensated for the risk of buying a dollar that may fall even more. Given how leveraged the U.S. economy has become, with large domestic and external debts, any large rise in interest rates would do significant damage.

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Economist said:Value of US company shares held by foreigners (millions of $): 2,275,197

Value of foreign company shares held by US investors (millions of $): 3,086,454

Source: http://www.bea.gov/international/xls/intinv05_t2.xls

The US owns more of the global economy than the global economy owns of the US by a factor of almost 50%.

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Q. It doesn't matter who owns the factories or the corporations. If foreign companies buy our factories or build new ones here (and thus generate U.S.-based foreign-controlled production known as "insourcing"), surely this creates plenty of jobs for Americans. What's wrong with that?

A. The benefits of insourcing have been greatly exaggerated and the costs almost completely overlooked. Here are some problems with insourcing:

1) Foreign corporations operating in America typically pay far less tax than their American counterparts. Operating from nations where corporate accounting standards are much lower than in the United States, they rig their bookkeeping to pretend that they make no profits in the United States. As reported by the General Accounting Office, one typical gambit is "transfer pricing." This typically involves a foreign parent company charging its American subsidiary exorbitant prices for key inputs. A variant on this technique is for the foreign parent to pay artificially low prices for the American subsidiary's output. Either way the impression created is that the American subsidiary is unprofitable and thus no tax is payable in the United States. Among other paper games that can be played are the rigging of interest rates on loans or the creation of artificial deductions.

2) Insourcing creates few jobs. Typically foreign manufacturers' US subsidiaries are engaged merely in final assembly. They rely on the foreign parent and its home-country affiliates and partners for supplies of most of the key components. Take, for instance, Toyota's new San Antonio plant, which will produce 150,000 trucks per year with just 2,000 people. The reason the staffing is so low is because most of the serious manufacturing will be done elsewhere, typically overseas.

3) In most cases, foreign corporations are careful to reserve the most advanced manufacturing activities for their workers at home. Their assembly plants in the United States are "snap-together" operations which provide the United States with little in the way of valuable new technologies or production know-how.

4) Many insourcing operations use unfair tactics to drive US competitors out of business and thereby inflict untold damage on the overall American economy. The opportunity for such tactics arises in many cases because the home markets in which foreign corporations are based are heavily protected. Such corporations use their huge profits in their sheltered home markets to fund their expansion in the United States. They can afford to sell to US consumers at cost or even below it. In the long run they win a huge share of the American market and, in the fullness of time, after their American competitors have been driven to the wall, they can hope to recoup their losses by dramatically raising their American prices. The unbalanced nature of insourcing is particularly apparent in the car industry. For example, although the Japanese auto market is second only to the US in overall size, imported goods account for only 10 percent of the country's auto consumption (measuring both complete cars and the key inputs used in making them) compared to probably more than 70 percent for the United States. US auto exports to Japan account for less than 1 percent of total Japanese auto consumption.

5) Many insourcing operations benefit from huge subsidies offered by state and local governments. Benefits include not only big tax breaks but funding for training. The net effect of these subsidies is to drive existing domestic producers out of business.

6) We are beholden to the whims of other nations for key products. Thanks to the insourcing trend, many key industrial subsectors, such as the manufacture of advanced materials and high-tech components for the United States defense industry, are now between 50 and 90 percent owned by foreign corporations.

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Q. Outsourcing is inevitable. It is just commonsense that countries that have inherent advantages should produce according to those advantages (such as cheaper labor) and those that don't should not. Outsourcing by corporate America means that we will be able to take advantage of cheap labor, while reserving high quality jobs for our own people. This is a net benefit, right? Won't our services industries more than compensate for the closing of our factories?

A. This is not about cheap labor. Cheap-labor nations have always existed and the United States has never in the past had had any trouble competing with them. When American corporations decide to outsource they are often admitting that they are no longer competitive. In the past our corporations were so productive (thanks to much better machines and more advanced production know-how) that they did not have to worry about foreign competition. They did their serious manufacturing at home because cheap wages alone were not much of a benefit in the sort of highly-capital intensive production they were mainly engaged in.

As so-called "globalization" began, these capital-intensive processes were the first to go (because corporations preferred to source their most advanced components and materials from their Japanese or German competitors rather than make the large investment needed to go to the next stage of their industry's production technology). The confluence of American policies encouraging outsourcing, importing, and deincentivizing American capital investment and research (e.g. through long depreciation schedules) has provided the catalyst for transfer of entire industries overseas.

As American corporations became increasingly hollowed out, all that remained in the United States was final assembly. It is typically final-assembly work that is now being outsourced to low-wage nations like Mexico and China. These days we export only our money and import finished products.

Every economy needs services like finance, education, healthcare, and consulting, but these are no substitute for the advanced manufacturing we used to rely on for our economic leadership. The problem is that service businesses generally do not export. Countries with huge trade surpluses like Japan have been generating their advantage in capital- and knowledge-intensive industries.

Even in the minority of service industries where serious exporting is theoretically possible - computer software, for instance - the result in practice is disappointing. This is because, like other service industries, software is labor-intensive, rather than capital-intensive, and thus it provides no big opportunities for a rich nation like the United States to leverage expensive production processes to achieve an enduring productivity edge. Moreover like other sophisticated service industries, the software industry generally recruits mainly from the most educated sector of our labor force. It therefore provides few jobs for the majority of workers who do not have a doctorate or other top qualification. The futility of relying on services for our future prosperity is clearly apparent in America's international trade figures. Our services surplus with the rest of the world is equal to a mere 10 percent of our goods deficit.

In any case we are not better trained, harder working, or more innovative than our foreign competitors. We have no "comparative advantage" in services, let alone a monopoly on the ability to create innovative new services or goods. Assuming we are inherently more creative than our foreign competitors is both arrogant and naive.

Indeed far from boosting our exports of service work, we are now increasingly importing such work. Many high-paying jobs in services are now being outsourced to nations like India. The jobs involved include those for doctors, mathematicians, accountants, financial analysts, engineers, programmers, architects, physicists, chemists, and biologists.

The result is increasing unemployment in many service fields in the United States (in, for instance, the computer software industry). Loss of jobs reduces the tax base, creates high unemployment benefit costs, and raises the cost of government retraining programs. The true cost of outsourcing is borne most directly by displaced, unemployed workers now experiencing higher rates of child and spousal abuse, alcoholism, bankruptcy, divorce, etc.

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Economist said:Looking at the current account, we can see that Japan has actually begun to dump its US bond holdings, and has been doing so for a whole year (source: http://www.ustreas.gov/tic/mfh.txt ). Unless there's a currency crisis I'm not aware of in the United States, clearly the Japanese holdings are ultimately a non-issue.

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FrenchSocialist said:

That is not a correct assessment. The fact is the US government is facing a debt because it is having to borrow money to stabilize the dollar due to our trade deficit. In fact, without the government in place the US economy would be facing disaster. Not only that much of the "US economy" actually consists of foreign goods.

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FrenchSocialist said:

Basically America doesn't produce enough to pay for the amount it consumes. This difference is made up for by credit, with the debt going to the federal government. The federal government finances this debt by inflating the value of the dollar.

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FrenchSocialist said:

That is why the deflation of the dollar is considered a good thing--the current high value of it is based on political power, not real economic strength. The deflation of the dollar will lead to a more objective indicator of economic realities.

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FrenchSocialist said:

Basically what this means is that the private industries debt is being projected onto the federal government. Arguing then that our economy is fine because it is the federal government that is in debt is thus very confusing.

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FrenchSocialist said:

How can our economy be fine when our productivity is so low? When we can, without government credit, only pay for 2/3 of our imports? When the situation is that, if other nations stopped funding our government debt our economic productivity as a whole would slow?

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FrenchSocialist said:

How did you go from the above numbers to the motives of the UK? How do you know they increased lending is due to their confidence in our economy, as opposed to, worries that our economic collapse may effect them negatively? How do you know they will not suddenly quit, just like Japan did? Do you really know any of these things?

Did you even show that the UK was profiting from this lending?

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Country Attribution. Users should be aware that the country attribution of foreign holdings of U.S. securities, including U.S. Treasury securities, is imperfect for two main reasons. The first reason is that some foreign owners entrust the safekeeping of their securities to institutions that are neither in the United States nor in the owner’s country of residence. For example, a German investor may buy a U.S. security and place it in the custody of a Swiss bank. In the periodic surveys of holdings of long-term securities, such a holding typically is recorded vis-à-vis Switzerland rather than Germany. This “custodial bias” contributes to the large recorded holdings in major financial centers including Belgium, the Caribbean banking centers, Luxembourg, Switzerland, and the United Kingdom.

In addition, the procedure of adding net transactions to the original survey positions for long-term marketable securities can generate further significant geographic distortions over time. This is because cross-border transactions take place disproportionately in major international financial centers, and net purchases in those areas do not necessarily reflect acquisitions by investors in those areas. To illustrate how significant those distortions may be, the Major Foreign Holders tables provide two sets of estimates for each survey date: one set reflects holdings as of the most recent survey, and the other set is derived from the previous survey with positions estimated forward using transactions data. For example, the June 2005 survey estimate of Treasury securities held by residents of the United Kingdom is $58.8 billion. The estimate derived from the June 2004 survey by adding the foreign net purchases over the 12-month period until June 2005 is $140.9 billion.

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FrenchSocialist said:

Simply put the numbers you presented above are without context, and so they fail to prove your point either way.

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FrenchSocialist said:

The fact is while US companies may have placed 50% of their wealth into foreign purchases, that is no indicator of relative US strength.

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Economist said:

The Federal Reserve is "quasi government" in that it's chairman is appointed by the President, but aside from that they operate pretty much autonomously.

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The Federal Reserve System is a quasi-governmental/quasi-private banking system composed of (1) the presidentially-appointed Board of Governors of the Federal Reserve System in Washington, D.C.; (2) the Federal Open Market Committee; (3) 12 regional Federal Reserve Banks located in major cities throughout the nation acting as fiscal agents for the U.S. Treasury, each with their own nine-member board of directors; (4) numerous private U.S. member banks, which subscribe to required amounts of non-transferable stock in their regional Federal Reserve Bank; and (5) various advisory councils. Currently, Ben Bernanke serves as the Chairman of the Board of Governors of the Federal Reserve System.

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Economist said:The US economy is healthier than ever. The US government is not.

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THE KINDNESS OF STRANGERS

The falling dollar also reduces the value of foreign investments in the United States. Eventually, foreign creditors are likely to demand higher interest rates to offset the risk of further decreases. Over the past few years, the United States has found a novel way out of this dilemma: rather than selling its debt to private investors who care about the risk of financial losses, it has sold dollar debt at low rates to foreign central banks. The extent of U.S. dependence on only ten or so central banks, most of them in Asia, is stunning: in 2004, foreign central banks probably increased their dollar reserves by almost $500 billion, providing much of the financing the United States needed to run a $665 billion current account deficit. These banks are not buying dollar-denominated bonds because they are attracted to U.S. economic strength, the high returns offered in the United States, or the liquidity of U.S. markets; they are buying them because they fear U.S. weakness. If foreign central banks stopped buying dollar-denominated bonds, the dollar would fall dramatically against their currencies, U.S. interest rates would rapidly rise, and the U.S. economy would slow.

Foreign central banks have financed the United States to keep their export sectors -- heavily dependent on U.S. consumer spending -- humming. But they now must weigh the benefits of providing the United States with such "vendor financing" against the rising costs of keeping the current system going.

Now, foreign central banks with large dollar holdings are facing the prospect of huge losses as a result of the dollar's decline. A 20 percent increase in the value of the yuan against the dollar would reduce the value of China's roughly $450 billion in dollar reserves by about $100 billion -- 6 percent of China's GDP. In four years, if nothing changes, Chinese dollar reserves could reach $1.4 trillion, raising the costs of a falling dollar to $300 billion -- some 12 percent of China's GDP. In short, the longer China continues to finance U.S. deficits, the larger its ultimate losses.

More important, the current arrangement increasingly risks creating domestic financial trouble. Growing reserves naturally lead to growth in the money supply, raising the risk of inflation. In order to avert this risk, central banks must resort to a process called "sterilization": selling local-currency bonds to reduce the amount of cash in circulation. But this process is expensive, especially if local interest rates are higher than dollar interest rates. Chinese domestic interest rates are low, so China does not face this problem. But it does face another: rapid monetary growth has contributed to a boom in bank credit, excessive investment growth, and a real estate bubble. Thus far, China has used price controls to keep prices from rising, but such controls, which cause deep distortions in the economy, cannot keep the lid on inflation forever. Eventually, rising domestic prices will erode China's competitiveness even if it keeps its currency pegged at its current level. China is likely to let its currency appreciate rather than accept socially and politically destabilizing inflation.

Let's face it: most Asian central banks view financing the U.S. deficit as a burden, one that they would rather not shoulder. A recent survey of central banks (which did not include the People's Bank of China or the Bank of Japan) indicated that most want to scale back their dollar purchases, and some smaller central banks are already adding more euros and yen to their portfolios. In March, a former manager of China's currency reserves questioned China's current development strategy, asking why it should seek out foreign investors looking for a 15 percent return on their investment only to have the central bank lend these funds back to the United States at 4 percent. China will conclude that rapid accumulation of dollar reserves no longer serves its interests sooner than optimists think.

Many claim that Asian central banks have to hold on to their dollars -- and the U.S. bonds that they have bought with their dollars -- because a selloff would drive the market for dollars lower and thus be self-defeating. This argument, however, misses a key point: foreign central banks do not need to dump their existing stocks of U.S. dollars to cause financial distress in the United States; they only need to slow their new purchases of dollar debt. If central banks decide that $2.5 trillion in dollar reserves is enough, the result will be a sharp fall in the dollar and a sharp rise in U.S. interest rates.

Levey and Brown further argue that even if foreign central banks scale back their financing, there is little to worry about, since the United States is on the verge of a new information technology (IT) revolution that will attract a new wave of investment from abroad. Alas, there is little evidence to suggest this pleasant scenario will come to pass. In both 2003 and 2004, equity investors took more than $150 billion out of the United States: U.S. direct investment abroad exceeded foreign direct investment in the United States, and U.S. purchases of foreign stocks exceeded foreign purchases of U.S. stocks. High equity inflows are more likely to come because a further fall in the dollar makes U.S. assets fire-sale cheap than because of a scramble to get in on another IT boom.

Other countries do of course depend on U.S. spending to make up for a lack of demand inside their own economies. But the United States cannot take comfort in the fact that the necessary "adjustment" will be painful abroad. If a falling dollar slows German, Japanese, or even Chinese growth, it will become even harder for the United States to reduce its trade deficit by exporting more -- a key part of any "soft landing" scenario.

And even if the United States has relatively little to fear from a falling dollar, it has much to fear from an increase in interest rates. If central banks ever cut back on their dollar purchases, private investors abroad would likely demand much higher interest rates. They would have to be compensated for the risk of buying a dollar that may fall even more. Given how leveraged the U.S. economy has become, with large domestic and external debts, any large rise in interest rates would do significant damage.

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Second, China, Japan, and the UK all have very strong incentives NOT to ever "pull the rug out" because they would be committing economic suicide. China holds our currency reserves in order to artificially inflate the value of their own currency and maintain a positive balance of trade in goods with us. If they were to dump the securities, then the currencies would re-adjust such that American goods would become cheaper to Americans than Chinese goods, and the export-driven Chinese economy would collapse.

The US actually wants this to happen, hence repeated calls for China to "float" the yuan.

Looking at the current account, we can see that Japan has actually begun to dump its US bond holdings, and has been doing so for a whole year (source: http://www.ustreas.gov/tic/mfh.txt ).

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MISUNDERESTIMATIONS

Assessing China's growing power incorrectly has always proved to be hazardous. U.S. policymakers have underestimated China's power at least twice since the founding of the People's Republic of China in 1949, once catastrophically and another time with serious consequences for U.S. credibility. In the fall of 1950, one U.S. official dismissed the possibility that the war-weary government in Beijing would intervene to stop the United States' drive to unify Korea. "I don't think China wants to be chopped up," he said. But he was wrong, and this and other misjudgments led to Beijing's intervention in the Korean War, at enormous human cost to China, the United States, and the Korean people on both sides of the 38th Parallel. President Bill Clinton also underestimated China. In 1993, his administration threatened to suspend normal tariff treatment if Beijing did not improve its human rights record within a year. China proved tougher than expected, and the Clinton administration made an embarrassing U-turn as the ultimatum was about to expire. The episode convinced the Chinese that Washington's tough talk on human rights was little more than campaign rhetoric and that for the United States human rights were an interest secondary to strategic and business concerns.

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FrenchSocialist said:

You have not proven that they operate autonomously, what you have shown is that they can operate with some autonomy.

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FrenchSocialist said:

In any event, you note that the Federal Reserve is having to increase borrowing power, so that we can pay for our imports.

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FrenchSocialist said:

Now doesn't this borrowing devalue our currency?

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FrenchSocialist said:

Can't the combined devaluing of our currency, combined with a series of tax cuts for the wealthy, make it so that we are in debt? Isn't cutting taxes for the wealthy, while simultaneously devaluing our currency, so that we can buy more then we can afford, going to effect the national debt?

It is a simple deduction.

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FrenchSocialist said:

The money borrowed to stabilize our trade deficit, effects our economy in multiple ways--it effects the strength of our currency, the strength of our currency in trade, the value of revenue that can be collected through taxation. All of which creates economic woes that the republicans use as an excuse to cut taxes, in hopes of stimulating the economy, while refusing to reduce the size of the government for political reasons.

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FrenchSocialist said:

Remember the EU, Japan, Canada and Australia have larger federal governments in proportion to their GDP then our own.
...
If what you're saying is true, these countries would be unraveling at the core.

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FrenchSocialist said:

Also can you explain this disparity:

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Second, China, Japan, and the UK all have very strong incentives NOT to ever "pull the rug out" because they would be committing economic suicide.
...
Looking at the current account, we can see that Japan has actually begun to dump its US bond holdings, and has been doing so for a whole year (source: http://www.ustreas.gov/tic/mfh.txt ).

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On the one hand you are saying that Japan will not pull the rug out from under us, on the other you are saying that Japan is already pulling the rug out from under us. Though to be fair, Japan is renown for it's kamikaze attacks.

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Economist said:

As I stated above, they would never take this action because it would hurt them as much as it would hurt the US.

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Thus is the nature of symbiotic relationships. See: My previous post, which probably belongs more in P&S.

Economist said:

I don't see the disctinction you're drawing here. Something than can act autonomously inherently does act autonomously.

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Economist said:Even if they are acting under the advice of others, the choice is still their own.

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Economist said:
I made no such note. The Federal Reserve does not respond to import/export data.

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Economist said:They want the GDP to grow as fast as possible while inflation is as low as possible.

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Economist said:
No, borrowing money doesn't devalue a national currency unless the government cannot make payment on its debts.

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Economist said:The Federal Reserve adding money to the money supply would ordinarily devalue the currency if they did so at a rate where the supply of money outstripped the demand.

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Economist said:Simply put: our currency isn't devaluing because we have a lower inflation rate than ever before. A devaluing currency would be reflected in a higher inflation rate than ever before.

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Economist said:I don't understand any of this. First off, as I demonstrated via inflation numbers, our currency is not devaluing.

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Economist said:Second, tax cuts don't put us in debt, no matter who gets them. Spending is and always has been the only vehicle of government debt. If the government spends more than it takes in, then it goes into debt.

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Economist said:
Except that the money isn't borrowed to stabilize our trade deficit, it is borrowed to cover a bloated government budget.

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Economist said:If what I'm saying is true? What are you talking about? Why would any of these countries be unravelling to the core because of something I posted in this thread?

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Economist said:

It doesn't really matter if China and Japan hold vast reserves of US currency if they sell them off slowly. The Federal Reserve can easily respond to any gradual changes in the money supply. Japan is currently selling their reserves off gradually.

What might cause the US trouble would be a sudden dump of all holdings by investors in Japan and China, a massive sell-off to reduce all dollar inventory by the end of a single day. As I stated above, they would never take this action because it would hurt them as much as it would hurt the US.

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FrenchSocialist said:

That is a non sequitur. Just because I can be an insurance sales person doesn't mean I am an insurance sales person.

...

Don't bring your personal philosophy into this discussion unless you want to derail the thread.

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Economist said:

Am I to really believe that the central banks of the US do not read import/export data?

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FrenchSocialist said:

Do I have to note, specifically how Alan Greenspan has made partisan decisions that have harmed the economy before? Decisions which Greenspan probably made for ideological reasons?

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Mr Clinton decided early in his term of office that debt reduction, rather than tax cuts, was the best way to preserve economic growth.

That policy, backed by Mr Greenspan, contributed to the close working relationship that developed between the Fed and the US Treasury - but left little scope for redistribution.

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FrenchSocialist said:

How is the government going to do this if tax rates are too low to pay for government expenditures?

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FrenchSocialist said:

By demand, you mean the central banks willingness to purchase our currency?

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FrenchSocialist said:

Unless the banks which own our money decide to renege on our loans. Which Japan has already done.

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FrenchSocialist said:

You are wrong. Not only was our currency devalued 50% in the 1970s. In 2006, this devaluation has returned

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FrenchSocialist said:

"For two weeks, the dollar has been hammered as foreign buyers shun the U.S. currency.

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FrenchSocialist said:

Now apply that principle to the economy as a whole. We cannot pay for the amount we import. What do you think that does to our economy as a whole?

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FrenchSocialist said:

Given that, what exactly is a non-bloated government budget in your opinion? Some libertarian idea where the government only funds the military and police force?

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FrenchSocialist said:

You are saying that our government budget is inflated. Our government budget is less then that of the rest of the first world with respect to GDP per capita. If we are then facing economic woes, despite having more overall GDP and GDP per capita, then they should be in a depression. Like I said it's a simple logic, and I'm sorry if you choose to ignore it.

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FrenchSocialist said:

I'm learning more and more not to trust your predictions. So I'm just going to ask, what if China and Japan dump our dollar slowly, and nobody else buys our dollar in equivalent quantities?

BTW, they it can be gradual, since investors can start worrying about a downward spiral. Some worry about the others dumping--so they dump. It could start gradually, then end up sudden, could it not?

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Economist said:

I'm pretty sure that this entire forum has always been about personal philosophies.  That's what politics is all about, and it's a major part of why people disagree.

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Economist said:Did you miss the Clinton years?  Greenspan can and did work as readily with the left as with the right.

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Despite his legendary obscurity, what Alan Greenspan has to say is usually quite clear and intellectually coherent once translated into English. But his testimony last Thursday before the Senate Budget Committee was evasive and often inconsistent. It was hard to avoid the impression that Mr. Greenspan's intent was to give aid and comfort to the new administration, while retaining plausible deniability.

True, Mr. Greenspan explicitly rejected the administration's argument that we must immediately cut taxes to prevent a recession. While conceding that the economy may grow little if at all this quarter, he suggested that a recovery would probably be under way before tax cuts could have an impact. By the way, new evidence suggests that manufacturing, which suffered a nasty downturn in the last few months, has already started to rebound.

Nonetheless, the headlines were all about Mr. Greenspan's endorsement of the tax cuts--something the fed chairman must have known would happen. And when you look at the tortured logic by which Mr. Greenspan arrived at his endorsement, you have to wonder whether those headlines weren't exactly what he wanted.

His argument went as follows: given its projected surpluses over the next decade, the federal government may not only pay off its debt, but actually find itself using surplus cash to buy private assets. This could cause problems, he suggested, because it would be "difficult to insulate the government's investment decisions from political pressures."

Now I would quarrel with those surplus projections. I would also point out that in declaring "it is far better...that the surpluses be lowered by tax reductions than by spending increases," Mr. Greenspan was out of bounds. Since when is it the feds business to say we should have a tax cut, rather than say, a new prescription drug benefit-or for that matter a missile defense system? (Neither program is factored into those surplus projections). Mr. Greenspan himself seemed aware that he was on shaky ground, offering the very inadequate excuse that "I speak for myself and not necessarily the federal reserve."

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Economist said:No, I'm referring to global world-wide demand for US Dollars.  Like I illustrated in a previous post, much of our outstanding currency reserves are actually held by private investors and not central banks ($120 billion of the $140 billion in reserves held in the UK are held by private investors, see above post).

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U.S. Treasury statistics indicate that, at the end of 2004, foreigners held 44% of federal debt held by the public. [15] About 64% of that 44% was held by the central banks of other countries. A large portion was held by the central banks of Japan and China, although most was held by members of the EU. This exposes the United States to potential financial or political risk that either banks will stop buying Treasury securities or start selling them heavily. In fact, the debt held by Japan reached a maximum in August of 2004 and has fallen nearly 3% since then. [16]

On January 24, 2007, Kuwait announced that it is considering abandoning pegging its dinar to the dollar for fear of an anticipated slide in the value of the dollar. Last year, the central banks of Italy, Russia, Sweden, and the United Arab Emirates had announced similar shifts out of the dollar and into other currencies or gold citing the United States' "twin deficits" (i.e. the U.S. trade deficit as well as its budget deficit) as the reason for the expected fall in the dollar's value. Source: [17] [18] On May 20, 2007, Kuwait proceeded with abandoning the peg, preferring a basket of currencies. [19]

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Economist said:
There's been no decision to "renege" on anything.  Japanese investors bought American Treasury Bills.  They're now selling those bills.  That's it.

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Economist said:Looking at the current account, we can see that Japan has actually begun to dump its US bond holdings, and has been doing so for a whole year (source: http://www.ustreas.gov/tic/mfh.txt ). Unless there's a currency crisis I'm not aware of in the United States, clearly the Japanese holdings are ultimately a non-issue.

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Economist said:This is almost nonsense.  While it makes sense from an investment-reporting standpoint (currency speculators want to know what's going on) from a Purchasing Power Parity standpoint it's almost meaningless.

Think about it this way:

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Economist said:The only way to tell is if you look at domestic inflation.

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Economist said:You have a fundamental flaw in your thinking here:
We CAN pay for what we import.
We DO pay for what we import.

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Q. Productivity has increased on average 2.2 percent per year in the non-farm business sector over the last 20 years. This is a cumulative increase of 56 percent. What could be wrong with this?

A. Productivity figures like these are misleading and incomplete. In theory productivity increases should generate higher paying jobs and a lower cost of living as technology, capital, and process improvements are employed to make labor more efficient. But this applies only if the work is done in American factories by American workers. In reality, much of the recent productivity improvement reported by American corporations stems from shifting work abroad, often to low-wage nations. Intuitively, if a corporation fires most of its workers at home and outsources most of its manufacturing, it can dramatically increase its reported output per American worker. The downside is that it has done so at the expense of American jobs. Thus the American economy as a whole is not better off and probably on balance is considerably worse off. This applies in spades where corporations transfer vital American production secrets abroad, thus helping other nations boost their worker productivity on America's dime.

That official productivity figures greatly exaggerate the rate of true productivity improvement is surely obvious from the fact that over the past 20 years, both hourly and weekly average earnings have experienced essentially zero real growth after accounting for inflation.

Thanks to the loss of 3.7 million manufacturing jobs in the last 20 years, we now have fewer people employed in manufacturing than we did in 1955. This is truly remarkable when you realize that America's population has risen by 77 percent in the interim (from an estimated 167 million in 1955 to 296 million today). Manufacturing jobs pay above-average wages because they typically involve sophisticated machinery that leverages each worker's productivity. The average manufacturing employee earns almost 32 percent more than the average service-industry employee. Thus the fact that manufacturing jobs have fallen while service jobs have ballooned merely means we have been replacing high-paying jobs with low-paying ones.

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Economist said:I vote libertarian for utilitarian, not philosophical reasons.

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Economist said:
I'm pretty sure that this entire forum has always been about personal philosophies.  That's what politics is all about, and it's a major part of why people disagree.

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Economist said:If I can make 6% per year if my money is in a CD, why should it be left in a Social Security Account that accrues no interest?

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Economist said:I have spent this entire thread arguing that we are not facing economic woes.  I don't think the US economy is in trouble at all.

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The majority of our debt is held by central banks:

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Phred said:

FrenchSocialist writes:

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The majority of our debt is held by central banks:

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Not according to the link you supplied. 64% of 44% is 28%. Since when does 28% equal "the majority"?

There's a bunch more stuff in that last post of yours I'd love to shred, but my time is limited this evening and it's only fair to let Economist have first crack at it anyway... I just couldn't let something as obvious as the above slide by.

Dude, you've really got to start reading these links you provide in the mistaken belief they are supporting your argument. Because they aren't.



Phred

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zappaisgod said:

Well then, seeing as how 95% of the population is not American, this is not much of a surprise now is it? Or an issue?

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