Free Markets, Free People

Our major creditor’s name also ends with a vowel

One of the irritating things about being deeply in debt is dealing with your creditors. Happily, if your creditor is, say Wells Fargo, they tend to stay within strict legal bounds when dealing with you. If you’ve been unfortunate enough to seek credit from fellows whose last names end in vowels, they tend to be more…forceful in delivering their messages to you. As it happens one of the United States’ creditors also has a name that ends with a vowel: China.

And they have a message. The more or less official organ of the Chinese Communist Party—which is to say the Chinese Government—is the newspaper People’s Daily. So, it is with much interest that I read an op/ed piece in that fine journal with the title, "China must punish US for Taiwan arm sales with ‘financial weapon’". As messages go, this one’s pretty simple.

Now is the time for China to use its "financial weapon" to teach the United States a lesson if it moves forward with a plan to sale arms to Taiwan. In fact, China has never wanted to use its holdings of U.S. debt as a weapon. It is the United States that is forcing it to do so.

The U.S. House of Representatives just passed a debt ceiling bill on Aug. 1. On the next day, a total of 181 members of the House of Representatives signed a letter sent to U.S. President Barack Obama stating that the federal government should approve the sale of F-16 C/D fighter jets to Taiwan as soon as possible to help ensure peace and stability across the Taiwan Strait…

Despite knowing that major creditor countries, especially China, would be the main buyers of its new debt, certain arrogant and disrespectful U.S. Congress members have totally ignored China’s core interests by pressuring the president to sell advanced jets and even an arms upgrade package to Taiwan.

U.S. treasuries will lose value if China stops or reduces its purchases of them on a large scale, which will also affect the value of China’s U.S. treasury holdings. However,as the situation has gotten out of hand, allowing Washington politicians to continue their game might lead to more losses.

U.S. arms sales to Taiwan can only create more jobs for the United States but cannot improve the ability of Taiwan’s military force to compete with the Chinese mainland. The essence of the problem is that some U.S. Congress members hold a contemptuous attitude toward the core interests of China, which shows that they will never respect China. China-U.S. relations will always be constrained by these people and will continue along a roller coaster pattern if China does not beat them until they feel the pain.

I am mildly amused by the claim that such sales both threaten "China’s core interests", but "cannot improve the ability of Taiwan’s military force to compete with the Chinese mainland." Both of these arguments cannot simultaneously be true.

Less amusing is the common attitude of loan sharks to their creditors displayed here using much the same language that Tony "The Shark" would use: Namely, if creditors don’t do what they’re told, you have to "beat them until they feel the pain."

With the recent rise in bond prices and drop in yields, the Chinese have a number of options. The least damaging to the US would be to sit out a few bond auctions, which would force interest rates up. But they’ve also got the nuclear option of selling off as much paper as the market could bear. Yes, they’d forego some yield payments, but they’d probably make a nice tidy premium over the original purchase price to make up for it. Rising interest rates now, at a time when the economy is weak, and short-term rates are already effectively zero, would slow the US economy. At the same time, a massive repatriation of renminbi to China would cause a steep drop in the value of the dollar in foreign exchange markets. This would raise the price of imports equally steeply. This would cause something very similar to the oil price shocks of the 1970s, that plunged the US into stagflation.

Naturally, the Chinese would be hurt by the reduction in their export capability. The question then becomes, "Which of the two political systems, China or the US, is more concerned about democratic pressure to change policy in order to improve the economy?" Who is more responsive to public pressure: our government, or the government that initiated the Tiananmen Square massacre?

I don’t know about you, but I wouldn’t expect Hu "The Kommissar" Jintao to be the one that blinks first.

Of course, if we weren’t $14 trillion in debt, we wouldn’t be very vulnerable to this sort of thing.

Dale Franks
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24 Responses to Our major creditor’s name also ends with a vowel

  • I’m not sure I’d care to take that bet from either side. China’s only unified if you look at it from the outside. The United States is fractious and fractured, but the social systems and legal systems are designed to work that way, pretty much from the ground up. China is utterly unified, until the day that it isn’t; centralized, brittle, and to some degree the leadership knows this. They hurt us gravely at the cost of greatly increasing their own risk of entirely toppling over; it’s not a good bet for them.

    • China has an internal housing “bubble” of their own.  Economic “warfare” could burst their “bubble” leaving them even more crippled than their target.
      I see the Japan’s HNK is reporting rumours that  France may lose it’s AAA rating.

  • Now is the time for China to use its “financial weapon” to teach the United States a lesson if it moves forward with a plan to sale arms to Taiwan. In fact, China has never wanted to use its holdings of U.S. debt as a weapon.

    My ass.  It wasn’t ever a question of if, but when.

  • Happily, if your creditor is, say Wells Fargo, they tend to stay within strict legal bounds when dealing with you.

    Never dealt with Wells-Fargo, have ‘ya? 🙁
    Well,they do what they can get away with.

  • China is hollow, projects strength from the outside but the economy will get them too.

    • China like most of the world doesn’t care how well they do in an absolute sense.  They care about how well they do relative to you. 

      If they think they will come out ahead relatively in the end, they will do it. 

      I can’t wait (well actually I can) until they start using embargoing as a bigger weapon than they have.  They’ll turn business and individuals into their little puppets.  They could selectively shutdown an Apple (or more subtly increase its operating costs) and watch it sink against its competitors.  Or they could bring it all down. 

  • Should I just not bother to point out that Wells Fargo also has a name that ends with a vowel?  🙂

  • Let’s say you were China and knew you would “take a hit” on Treasuries if you dumped them, but you’ve been buying them so long and you have so many of them you that really feel uncomfortable holding them forever.
    If you just dump them and take a loss your people will be enraged. Your currency will maybe spike or if you hold it down, inflation will roar ahead.
    But let’s say you dump them because you want to teach those Americans a lesson not to sell arms to Taiwan…now that sounds a whole lot better and if anything bad happens you can blame America.  Sure you take the losses, but you have a good excuse.
    By the way, there is no way we are selling Taiwan f-16s:
    1) The timing of our decision is between some state visits. No way we decide to piss off the Chinese then.
    2) Selling arms to Taiwan would keep some jobs around and help exports. Can’t have that.
    3) Diane Feinstein’s husband has way too much money at risk in China.
    4) Selling F-16s to Taiwan would mean a whole bunch of state department officials would have a hard job to do, and would risk post-retirement China sinecures.

  • I agree.  Never take a loan from the Mafia (or anybody Italian).

  • Dale Franks I don’t know about you, but I wouldn’t expect Hu “The Kommissar” Jintao to be the one that blinks first.

    Why should he?  Captain Bullsh*t has showed over and over again that, unless he holds all the cards, he collapses like a cheap (empty) suit.  That is, if he can even be bothered enough by the problem to come in from the links or back from vacation.

    On the topic of his lack of spine, I suppose that you’ve all seen that there’s a movie about how HE got bin Laden, happily due out in October of next year.  I can’t remember the director’s name… Sounded German.  Riefenmann?  Liefendahl?  Something like that…

  • The debt premise rings true every time, but I am unsure we should be afraid of China here.  They need a strong dollar to keep what’s left of their sham economic principle alive.  Labor costs have risen dramatically over there in the past five years, and they’re so out of hand relative to their cheap production model that they have started shipping in workers from the western part of the country to live in dorms.  These are the only people they can still exploit for a couple of dollars a day.  The Chinese banks are also thought to have a shocking amount of unsustainable liabilities thanks to party corruption.
    It would clearly be cutting off your nose to spite your face, but theoretically couldn’t we work China over if they tried this stunt by intentionally inflating?  The catastrophic effect to the dollar would be twice as damaging to China.  Forget the $1.4 trillion in holdings they have, their entire economy is predicated on maintaining a lopsided yuan to dollar ratio.  I think they currently have it pegged at 8 to 1.  The wheels would come off their economic machine in a hurry if we let the dollar fall fast, and they know this.  Again, this is not ideal for our economy either, but who do you think could better weather the storm?
    I think it’s the 21st century version of the mutually assured destruction.

    • 1) They used to bring in workers (and still do) but they are becoming very expensive. Office workers are still abundant but dumb labor is getting expensive.
      2) It was pegged at 8:1 but it has now appreciated over many years to 6.4:1.
      3) They now are not only buying USD crap but also EUR crap to keep their currency low…that cannot be a good sign.

  • But they’ve also got the nuclear option of selling off as much paper as the market could bear.
    I don’t think that is the MOST nuclear option they have.
    They are already calling for a new currency standard to replace the dollar.  If that happens, we lose the ability to screw them by inflating our currency.

    • Even with a new standard currency, which I think is unlikely, they would still need to make the exchange, and they hold a bunch of paper in dollars.  Maybe it would be a race to the button?

    • We can still screw them by inflating the dollar.  Most of the US assets they hold are in dollar enumerated securities.  Creating a new standard currency is not going to effect US held assets that aren’t going to be bought or sold based on that standard.
      They’ve got all this US currency for two reasons: (1) they have lots of dollars from exporting cheap crap on the US market (2) if they convert the dollars back in yuan, then currency shifts and it makes it harder for them to export cheap crap to the US market.  They’ve been artificially maintaining a preferable Yuan to USD rate up until he middle of last year.

      • I believe anything new would be definitely under a new currency.  Also I believe the existing debt is under relatively short-term renewel schedules.  The could end up be renewed under the new currency. 

        And if not, they will offer some debt payment relief as a teaser to refinance into the new currency.  A president could sign off on that, and probably get a partial refund that could come close to balancing the budget for one or two years.  Of course we’d be totally hosed in the future.  Part of Clinton’s ‘surplus’ was largely from a one time refinance benefit. 

        • I disagree.  I seriously doubt any sort of US government-backed security is ever going to be issued in anything other than US dollars.  The US is not going to sell Yuan or Euro denominated T-bills.  I’m not sure if we even could.

    • Excellent points both.
      I do take exception to calling all Chinese exports “crap”, since we buy their products in an open market exchange where they are competing with other goods.

      • With at a deliberately deflated currency.  Which makes it not an open market if you look at the two country’s markets as a combined single market. 

    • A new reserve currency. That would be the day. And who would form the trusted core of that new currency? The Europeans, under corrupt French leadership? The Chinese, especially if they just used their influence to blow up someone else currency? OPEC states, most of which are too incompetent to run their own oil pumps?

  • I wouldn’t worry about China holding less than 10% of our total debt. Not until they try to kneecap us, anyway. Those notes they’re waving in our face over F-16 sales to Taiwan total to how much? Less than 2 Stimulus Packages? Pay ’em off and flip them the bird as we walk away.

  • I’m not afraid of China’s horde of US bonds. They’ve put themselves on the horns of a dilemma deliberately. (much like Japan did in the last century) If you want to sell stuff in the largest market in the world, then you have to take dollars for your stuff. And the only place you can spend those dollars is in the US, in other words they have to buy stuff from us. Or, they can hold the dollars in the form of securities denominated in dollars. They could also buy US assets like the Japanese did. Though we haven’t seen much of that.
    By “saving” our dollars, China indirectly contributes to our currency maintaining its value on world markets. This is a benefit to both sides.
    What I think is the most interesting aspect of this situation is that China appears to be following some sort of mercantilist policy in a world where gold is no longer the de facto medium of international exchange and value. I think that’s a profound misreading of how modern economies work. I’m not sure they know how to square that circle.