Here are two key speeches Geithner gave in 2006 containing very prescient thoughts on the vendor financing and global imbalances that have since given way into a collapse in trade.
Currency Manipulator
The US has repeatedly refrained from accusing China of currency manipulation in the past, presumably out of any reluctance to rock the boat by calling a spade a spade. Geithner has taken a more confrontational approach already.
This opens China to a spate of possible actions, but it's unlikely to inspire China to consentingly float its currency, and directly triggers no meaningful action. It's mostly interesting as an indicator of a little more abrasion between the nations than the relatively harmonious relationship that Paulson fostered.
I predict some fairly heated arguments at the WTO at some point in the future, since the parties have apparently failed to reach agreement in the back rooms. The alignment of other nations in such WTO disputes will be interesting.
This is arguably a good step towards healing the world, and I commend Geithner for taking it.
Strong Dollar?
Geithner said in oral testimony that confidence in a currency is critical, a point with which I heartily agree. This was escalated in more considered written response to the Senate panel to the old strong dollar policy, however.
That baffled me. A strong dollar is a potent deflationary force by its very nature, making American employees, goods, and services less competitive without slashed prices and wages. It also tends to worsen trade deficits. That's bad, right?
It also seems to work contrary to aggressively stated goals of the FOMC to ease as much as they can ease, where Geithner has worked for awhile. That strange melange matches Summers' earlier policy prescriptions for Japan during his stint as Treasury Secretary:
An ideal Japan a la Summers/Krugman would have a high yen, ultra-low short-term interest rates, low long-term rates, and lots more money in circulation.
However, as Martin Wolf points out, the US is a terrible analogue for itself in the Great Depression or Japan in the 1990's, making the policy seem at first blush totally wrong. So why this move here and now?
Here are some possibilities I ran through my head:
1. Wards of the state, like Citigroup, have significant liabilities, such as bank deposits, that are denominated in foreign currencies.
2. We'd like to return to the vendor financing world as an expedient towards more overt reform once stabilization occurs through a return to that bad equilibrium.
3. Scared creditors to the US strong-armed the Obama administration into a hollow statement.
4. Geithner wants a stronger USD against EUR, GBP, and commodities, and a weaker USD against the CNY and JPY, to directly target the bilateral trade deficit.
I can't systemically square #1 well with the NIIP data, though it's sure to be a problem in specific cases. #2 and #3 are not convincing to me in light of the manipulator statement. I find #4 to be plausible and fascinating, and it fits with my earlier narrative on vendor financing. I need to think it through. Does anyone have alternative suggestions?
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Your #4 is right. USD is already weakened against Yen but it will be difficult to be weak against CNY unless through political treats and retaliations.
In our current dire economic situation, a deflation that a strong dollar will reinforce can't destroy America but a lasting 2 to 3 years high inflation could.
What this country needs now is a containable recession for at least 3 to 5 years with GDP between -2% to 0%. All the politicians are talking nonsense about "growth" when they try to sell to the public about TARP or stimulus or any bailouts. They should tell the truth that all the taxpayers' money put into the banking system is not going to get loaned out. These funds may even barely be able to keep the financial system afloat.
As a full time trader, I don't worry too much about deflation as long as the USD is strong enough for not causing a sharp rise in commodities. However if policy makers choose to depreciate dollar as a way to reduce foreign debt obligations, I will be fully scared.
In short, a strong dollar may help to keep the country suffering longer but a weak dollar could destroy this country much faster.
The "strong dollar" comment is simply a convention. Every treasury secretary always says it, regardless of later policies.
If the Yuan is pegged, isn't that manipulation? It's not like China is hiding anything. I suppose using that label implies that some action may be taken, but I think he was playing to the crowd given the other issues he was taking heat over. The tax problem is an embarrassment. The biggest problem is that when he paid the tax, he wasn't legally required to pay the other two years because of the statute of limitations. When he subsequently did it "voluntarily" it wasn't convincing.
A strong dollar isn't desirable in itself for the very reasons you stated. China isn't to blame for our problems. The world has changed, adapt or die.
The sooner we weaken the dollar and pay off some debts, the sooner we can be back on a positive track again. It isn't about the dollar being strong or weak; we want it at the optimal value for our position in the global marketplace. Right now that is lower. If we want it higher, we have to build and lead a forward looking industry.
http://www.theallegator.com/free-market/the-nature-of-the-global-free-market/
Your #4 is right. USD is already weakened against Yen but it will be difficult to be weak against CNY unless through political treats and retaliations.
I've been very reluctant to war-game out that scenario, tlat, but it's almost irresponsible not to at this point. If you guys want I can post something up, but it feels subversive, since I'm so big on collaboration and teamwork, especially internationally.
In our current dire economic situation, a deflation that a strong dollar will reinforce can't destroy America but a lasting 2 to 3 years high inflation could.
I'm not as confident of this as you are, think like a trader. The dynamics of deflation in an environment with heavy debt loads are really ugly. It seems that Geithner and Summers are willing to bet that they can short-circuit the worst parts of that spiral somewhere through sufficient liquidity creation, even if policy rates are near zero.
All the politicians are talking nonsense about "growth" when they try to sell to the public about TARP or stimulus or any bailouts. They should tell the truth that all the taxpayers' money put into the banking system is not going to get loaned out. These funds may even barely be able to keep the financial system afloat.
I couldn't agree more with you here. I think people are getting ticked off about well-intentioned white lies, so I was glad to see some emphasis on confidence in a currency, as compared to prior scaremongering.
The "strong dollar" comment is simply a convention. Every treasury secretary always says it, regardless of later policies.
I'll take that as a vote for #3 with extra emphasis on the "hollow".
If the Yuan is pegged, isn't that manipulation? It's not like China is hiding anything.
Yes. There was bewilderment for a long time that Treasury was unwilling to impose that brand. Others were bewildered that we'd even consider it when, if anything, China seemed to be throwing their money away into our gaping maw. This is only a much more sensitive and sore spot today.
I suppose using that label implies that some action may be taken, but I think he was playing to the crowd given the other issues he was taking heat over.
It's definitely a step up in rhetoric, even if everything else was obvious. It's a pretty sharp delineation from Paulson's policies.
The tax problem is an embarrassment. The biggest problem is that when he paid the tax, he wasn't legally required to pay the other two years because of the statute of limitations. When he subsequently did it "voluntarily" it wasn't convincing.
I agree. That was really bad optics at the very least, and upon learning the details, it's a lot less credible that it was completely accidental. It's a mistake for which I'll cut slack, though. We've got bigger issues.
A strong dollar isn't desirable in itself for the very reasons you stated. China isn't to blame for our problems. The world has changed, adapt or die.
They're certainly not solely to blame by any stretch of the imagination, Steel Phoenix. I tend to think we deserve relatively more of the blame for allowing the problem to become so entrenched.
The sooner we weaken the dollar and pay off some debts, the sooner we can be back on a positive track again. It isn't about the dollar being strong or weak; we want it at the optimal value for our position in the global marketplace. Right now that is lower. If we want it higher, we have to build and lead a forward looking industry.
I agree with all of that, but the problem is that China would be hurt worse than they already are if the US imposed trade barriers or found some way to force devaluation.
It's just nearly impossible to reallocate growth towards export-oriented sectors that would compete with China at the same time as you increase China's global sales into those same sectors. You'd need massive demand growth to absorb both at once.
If we weren't to compete directly, China sees natural export niches for us in defense, aerospace, and other advanced technology. We're scared to sell lots of that stuff for national defense reasons. That's another unfortunate twist...
Thanks to all of you for your insightful thoughts. I'm gonna crash, and will pick up any more you've left tomorrow.
#1 (non-USD liabilities in the US financial sector) is of course absolutely true. Whether it is the motivation for Geithner's comments, I don't know.
About Geithner's tax issue: of course, it is small potatoes, but it again highlights the double standards and dishonesty of decisionmakers, further weakening public belief in the system. That belief - the perception of integrity - is incredibly important in preserving a functioning society and shouldn't be reduced to dollars and cents.
Thanks again for another great post. Are you going to start thinking and posting about what the US debt load should be?
jult52
It's called a trade war. The Dems just won't be able to help themselves.
I'll be watching Small Caps for hints of future outperformance.
Great Blog, btw!
Ask yourself who is better positioned to whether a serious disruption in the system> the reflex is of course the US but underdevelopment does have its advantages. The Chinese would be wise to break the gordian knot ASAP and begin to think about conventional sunk cost mechanics - especially since the West seems so enamored of classical economics these days.
What you describe in a sense is a reforming of the Atlantic Alliance > And why wouldn't that be the case? it is they who have the most to lose as the system reboots. The movements in fx rates between the US and eruozone must be looked at against the real - looking out an airplane window doesn't tell you much about the speed now does it. Gold is that benchmark and it is screaming today and will continue to rise.
Geithner parrots what Rubin used to say: I am a deficit hawk and a strong dollar guy - but/until/because...
The real question is not what geithner wants but what the rest of the world decides. It is very American to suggest that we have the power of attorney over the rest of the world. But with nuclear weapons all but erasing chances of another Great War (as opposed to the 100 year war) that would seem a grave miscalculation.
Seems to me the US is employing an age old Chinese strategy of patience and endurance. The US is betting it can edure this crisis and come out the relative winner, while it employs Sherman like tactics orchestrated out of the Fed. That is what Walter Russell Mead suggests: see link (http://www.tnr.com/politics/story.html?id=571cbbb9-2887-4d81-8542-92e83915f5f8).
Also, of course Geithner wants a strong dollar against commodities -and by suggesting the CNY and JPY are stronger versus the dollar suggets that what you seem to be aespousing is a standard of living downgrade for Europe and a transpacific cartel/oligopoly. Is this not just a recipe for thowing euorpeunder the bus? what do they get? Germany would seem to win as a major exporter witha cheaper currency, but its inputs would get much more expensive - how that settles who knows. The more domestic oriented economies would start to choke with some offset from asia recapture. But how does such a regime help the US in the long run? I don;t see it. The world is moving off the dollar standard and there will be no reversion to mean.
I'm not even sure we should try to compete with China. Their strength is a cheap army of moderately skilled labor. Our strength is in our social stability, promotion of individuality, and desire to innovate. It's like if Edison decided he should try to start a candle company.
I'd like to see us decentralize. Move power from the federal to the state, from the state to the county, from the corporation to the small business, from manufacturing trucks to manufacturing regenerative brakes and fuel cells. We worry too much about the loss of big business. They aren't too big to fail, they are too big to succeed. Once they are gone the demand will be picked up by others who are quicker on their feet.
ndk-- Thanks for pointing out Geithner's comments on currency manipulation. I heard a reference to those comments on the radio, and I turned to your blog first to see what they were all about. Perfect.
I think Geithner/Obama are correct about the currency manipulation, and I would be interested in hearing you think through ("war-game") the possibilities for getting some movement on this issue.
I agree with the sentiment this is a global issue, not a bilateral issue. Now that the faction of the U.S. that is paranoid of international agreements is out of power, we may be able to make some progress...
To blame China for "manipulating" currency fails to understand the gigantic changes of globalization which tends to utilize resources more efficiently. The current global crisis will force China to upgrade its economy from labor intensive to capital intensive and to induce and encourage domestic consumption. But it takes time which I think about 5 to ten years to have a big leap in this transition. A weak CNY against dollar will prolong or even disencourage this change. However China must manage a gradual appreciation over next ten year. (I certainly believe CNY will be the strongest currency in the world a decade later and China will be the largest economy in the world too. This believe prompted me to convert 80% of my trading profits in US dollars every quarter into CNY and buy mainly properties in China). However for China's CNY to emerge as the strongest currency, the USD must be kept relatively strong as NDK outlined as #4. A strong dollar is the only workable solution for US. You may not like it or it seems contradictory to what they are doing. The choice US has is between painful (a strong dollar) and destructive (a weak dollar). There is no way you can get out of this without severe suffering. While the strong CNY in the future reflect world power shift from US to China.
If I were China right now, I'd be using all that excess liquidity to fill the recent gap in exports with additional infrastructure projects. They can use this hiccup to build while the rest of us are sitting around unemployed and paying interest.
Thanks again for another great post. Are you going to start thinking and posting about what the US debt load should be?
That's a great idea, jult52. I've been considering doing a post on total credit to GDP and what we can learn from it.
I'm not even sure we should try to compete with China. Their strength is a cheap army of moderately skilled labor. Our strength is in our social stability, promotion of individuality, and desire to innovate. It's like if Edison decided he should try to start a candle company.
That's a great point, Steel Phoenix. China's not going to stay in the low value-added part of the food chain forever, but as long as the US and China are most competitive in different market sectors, there's a big net benefit to everyone from trade which we should all seize. I really don't feel like our current policy is moving in that direction now, though.
I think Geithner/Obama are correct about the currency manipulation, and I would be interested in hearing you think through ("war-game") the possibilities for getting some movement on this issue.
Okay, Dan, I'll do a post on that next, then get to jult52's suggestion.
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