A couple of years ago, the investing world was focused on deflationary risks in the global economy. Central Banks in three continents were pouring in money into financial assets to create inflation. Their efforts are so far been in vain. This brings up comparisons to the deflationary quagmire of 1930. But, before we get to 1930s, isn’t it relevant to ask what is the biggest deflationary factor in the world today?
Since its admission into the WTO (World Trade Organization), China has gone on an investment spending spree, the likes of which the world has never seen. A byproduct of this investment is a worldwide glut of cheap goods coming out of China. Consumer economies in the rest of the world could not fight this wave. As a result, industrial economies got hollowed out and enormous monies poured into China to buy their cheap goods & build offshoring centers. In turn, China kept increasing its investment spending and much of it went into building factories, airports & other infrastructure.
The trouble is that “up to half of China’s investment is a complete waste” as Jim Rickards, author of Currency Wars, put it this week. He added “the finished product, whether a city, train station or sports arena, is often a white elephant that will remain unused. … What’s worse is that these white elephants are being financed with debt that can never be repaid.” But interest on debt has to be paid and that requires doing much much more of the same.
Yes, Japan, South Korea did the same as they grew into industrial economies. Like China, they shielded their own corporations while exporting to the rest of the world, mainly America. Today, Japan & South Korea boast of many global corporations. But there is a big difference in what China is doing.
China has used the enormous monies they received from the rest of the world to build up a large & powerful military machine, a force that openly aims to challenge America militarily. Specifically, China’s near term aim is supremacy in its half of the Pacific Ocean and parity in the Indian Ocean.
This is shooting straight at America’s heart. Naval supremacy in the world’s oceans is the foundation of America’s power. And it is also the foundation of global freedom, freedom of global navigation and freedom from colonization of smaller countries. So America cannot tolerate the continued expansion of China in oceans and in land via China’s proclaimed One Belt, One Road drive.
Think back and you will see how similar this is to Imperial Japan of the 1930s. That Japan had a pure mercantile economy as today’s China does. That Japan considered itself to be racially & culturally the center of their universe and expected their neighbors to accept Japan’s dominance. Today’s China is 1930s Japan in all of these aspects.
America stood in the way of 1930s Japan economically and militarily just as America stands in the way of today’s China economically & militarily.
2. Enter FDR & Trump
President FDR was absolutely clear in his mind that Japan’s expansion had to be stopped and Japan had to change its mercantile ways to coexist with its neighbors in Southeast Asia & Far East. FDR began a sustained drive to pressure that Japan by using Japan’s dependence on trade as a lever. Slowly and surely, the economic pressure on Japan was increased; then an embargo was put on Japan that starved Japan of necessary commodities including oil. Finally, Japan lashed out militarily against America by attacking Pearl Harbor. We all know how that ended.
China’s actions have already caused far more economic damage to America than the actions of 1930s Japan ever did. The hollowing out of America’s industrial/manufacturing economy accelerated after China’s inclusion in the WTO. Offshoring became a good thing for America, a perfect example of creative destruction. That might have been OK if China had allowed similar “creative destruction” and exported low paying jobs to its poorer neighbors or to other poor regions. Mercantile economies don’t do that. China simply created a massive investment bubble that will burst & doom China unless China keeps doing more of the same. Hence the One Belt One Road project to export excess Chinese labor & output into countries it can bully and control.
Enter Trump. In 2017, he delivered what Senate Majority leader Mitch McConnell termed the “most consequential year” ever in his political year. His focus on de-regulation, his tax cut were a bonanza for US corporations both for the short term and the long term. Now he has pivoted back to what he came in to do. and he is prepared to ask US corporations & Financial markets to give back some of their gains & take some pain.
3. Restructuring of China’s economy
Like FDR in the 1930s, President Trump is shooting straight at China’s heart. This is not merely about a numerical reduction in China’s trade surplus. The central demand is for China to restructure its economy in a way that will “shake the Chinese state structure to its foundation” and “hit at the foundation of the current Chinese geopolitical strategy“.
While many bemoan his style as “childish”, the reality is “President Donald Trump keeps nudging China toward a trade war” and “Rather than an off-the-cuff trade policy statement or tweet, Trump’s decision to up the ante is a clear and calculated decision“.
The quotes above are from yesterday’s article from Stratfor titled Trump Tosses Out The Trade Rulebook With Latest Tariff. Stratfor adds:
- “China hawks such as Lighthizer and Peter Navarro believe that even if the tariffs end up damaging the U.S. economy or threatening the very existence of the World Trade Organization (WTO), forcing China to change its behavior is worth the risk“
That sounds dire and perhaps it is. But this is a global trading order that allowed China to run roughshod over the entire world, hollow out industrial economies, steal intellectual property & use it all to build a military machine to impose a mercantile regime first on Asia & then on Eurasia. Isn’t it time to change it? Isn’t this the time when China is still relatively weak militarily and dependent on America & Europe for trade?
It is fashionable to call President Trump names & sneer at his “intellect” & stuff. But they forget how they kept doing the same all through out the 2015-2016 campaign. We have no doubt that the Chinese brain trust has been swayed by the prevailing dim view of President Trump in US media & Think Tanks. They should recall that many in America and Hitler, Stalin, Imperial Japan had a poor opinion of FDR. They thought he was weak and not intellectually bright. We all know who had the last laugh.
President Xi is scheduled to give a critical speech on Tuesday, April 10 at the Boao forum. What he says in that speech might set the tone for the next rounds. So far, he has not been smart as Elizabeth Economy of Council of Foreign Relations wrote this week:
- “Xi’s response to Trump’s initiatives has not been a creative “win-win” solution but rather a “lose-lose” proposition. The relationship is spiraling downwards, and the risk of a miscalculation or accident is only increasing.”
The reality is that America is a largely self-reliant economy and China is not. And neither was Imperial Japan of the 1930s. The other reality is that a motivated democracy has a higher tolerance for economic pain than a dictatorship.
The next step is China’s. But whatever happens in the near term, the real fight is just beginning and it is a fight for the future of the global trading order.
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