Business Insider

Peter Crabb: Put away those sledgehammers and stop bashing Asia

Asia bashing continues. The target when I was growing up was Japan. Today the target is China.

We had some fun events back in Detroit in those days! The Tigers winning the 1984 World Series is at the top of the list. But we also had fun going to area parking lots to smash imported cars from Japan with large sledge hammers.

At the time, Detroit was blaming low auto sales and the resulting large layoffs of autoworkers on cheap imports from Japan. Now, for the past decade or so, U.S. anger has turned to cheap imports from China.

In both cases, many U.S. officials and economists blame currency manipulation. This occurs when a government intervenes in the market for foreign exchange in order to keep its value low relative to other currencies. These actions will generally make exports from that country cheaper than they would be otherwise.

As the government of Japan learned in the late 1980s and early 1990s, these actions can work for only so long. The policies of other governments and market forces will change the real value of labor or goods in a country and determine the ultimate level of international trade for the country.

The U.S. has been running a trade deficit with the rest of the world for more than two decades. But trade deficits, like that with China, are not a national problem.

Before 1980, U.S. domestic investment and national saving were very close. That is, the amount of money invested in businesses and other real U.S. assets came from the country’s own savings. This means that net capital from the rest of the world was very small.

The U.S. national savings rate fell dramatically after 1980. This was due in large part to the federal government budget deficit and a decline in the household savings rate. But U.S. domestic investment did not change by as much. Money continued to flow into U.S. businesses and other real assets, but the source was capital inflow from foreign investors.

In fact, investment in the U.S. went up. Capital flow into the United States increased as investment went from 13 percent to more than 17 percent of GDP. When national saving falls, either investment will have to fall or capital will be needed from the rest of the world.

A trade deficit led by an increase in investment, like that which the U.S. has seen the last few decades, does not pose a problem for the U.S. if the increased investment leads to a higher production of goods and services. U.S. worker productivity is nearly twice today what it was in 1980.

Policymakers and some economists are calling for China to end its fixed-rate currency policy and let the value of their currency, the Yuan, rise. This is well and good, but changing the current price at which the Yuan trades for dollars will do nothing to change the incentives to invest in U.S. business and real assets. According to a Reuters news report this week, Chinese policymakers are considering actions that would let the value of the yuan rise in the foreign currency markets. China’s National Development and Reform Commission announced that it would monitor the exchange rate risks faced by Chinese exporting firms. Also, an economist from the agency said a more flexible market for exchange of the yuan would be beneficial.

Such a change will affect U.S. imports from and exports to China. The trade deficit with China will almost certainly decline if the cost of Chinese goods rises in terms of dollars. But in the longer term this will have no real effect on the U.S. economy because it is unlikely to change investment.

Even if the Chinese are selling fewer goods in U.S. markets, they may still decide to invest in U.S. assets. U.S. domestic investment and capital inflow from foreign markets is determined by the real interest rate, or the interest rate corrected for the effects of inflation.

When real returns are high in the U.S., money will flow in from other countries. This is what drives U.S. investments. Foreign capital is coming to the U.S. because the real return is better than elsewhere.

Pounding cars with sledge hammers or calling foreign products junk does nothing to help our real economy. Policymakers should quit bashing the foreigners and the goods they sell here.

Peter R. Crabb is a professor of finance and economics at Northwest Nazarene University in Nampa. He earned his doctorate in international and financial economics from the University of Oregon.