US plays with fire, Asia scans debt
Oct 04 2013
Recent events in the biggest economy has raised Washington’s hubris to entirely new levels
The US doesn’t deserve Asia’s money, not with half of its government in financial jihad mode, damn the global consequences.
The biggest economy has long taken its reserve-currency status for granted, but the events of recent days raise Washington’s hubris to entirely new levels. Chinese president Xi Jinping didn’t mention Ted Cruz, John Boehner or the Tea Party this week when he urged major developed economies to adopt responsible policies that avoid negative spillover. He didn’t have to.
Their shutdown of the US government and the spectre of US default were written between the lines in bold type.
The US is playing with fire here in ways it might not recover from.
American politicians should be particularly worried about a conversation Xi had this week in Jakarta with Indonesian president Susilo Bambang Yudhoyono. Xi proposed creating a regional bank to invest in infrastructure in southeast Asia and pledged funding from China. Asia is also gradually building a neighbourhood International Monetary Fund. Where will all this cash come from? Asia’s $7 trillion in currency reserves, much of it in dollars at present.
Asians aren’t panicking just yet. Many here think US lawmakers aren’t crazy enough to default on their nation’s debt, no matter how much they despise president Barack Obama’s policies. They will bicker, close the government and embarrass the US on the world stage by forcing Obama to cancel visits to the Philippines and Malaysia.
But come October 17, when the US runs out of money, politicians will avert disaster. America’s banker, Asia, is betting bond guru Bill Gross of Pacific Investment Management is right that the risk of the US reneging on its debt is zero.
A rational view? I’m not so sure. It’s a bit surreal being an American journalist abroad these days as the tables get turned at interviews. After a few questions from me, the interviewee will inevitably ask some variation of: What, oh wh-at, is going on in Washington? What disturbs officials here the most is that this battle is over providing health care to Americans. How, they ask, could half your government take a stand against what other developed nations view as a basic human right?
The very nature of this question is what bothers me. This battle really is a political jihad, and congressional Republicans may very well think a default is a reasonable price to pay for stopping the Affordable Care Act, which they view as the end of western civilisation. Doing that would surely accelerate the end of the dollar’s linchpin role in global commerce. But just as it takes a village to get big, history-making things done, Cruz and his friends in Congress may decide that it will take a crisis to get their way.
Another dangerous assumption: Washington’s complacency about the primacy of its debt. Asia forgave Congress that first downgrade in 2011, prompted by Capital Hill’s last debt ceiling skirmish. Don’t expect the region’s central banks to look kindly on Standard & Poor’s knocking the US down another peg or Moody’s Investors Service yanking away its Aaa rating.
While Congress takes Asia’s continued support for granted partly out of smugness, it also reflects the Hobson’s choice confronting reserve managers, meaning they have no real choice. China holds $10 of US Treasuries for each of its 1.3 billion people. If traders sensed that China was selling large blocks of them, markets would plunge, resulting in huge state losses and less growth as surging bond yields slammed American consumers. And really, what other assets could the Chinese readily buy in such incredibly large amounts at moment? So, to avoid the biggest foreign-exchange trade in history, central banks stay in dollars.
This pyramid-scheme-like arrangement explains why US government bonds are rallying. Think about the twisted logic of a giant flight-to-safety trade based on fears that the very country to which you are rushing may soon default. You won’t find that dynamic explained in Economics 101 textbooks.
But the more the US plays with fire with its Aaa rating, the more Asia will find an alternative. Researcher Zhang Monan at the National Development and Reform Commission surely speaks for many in Beijing when he says China “must” change the situation of holding “too much” US debt. The Federal Reserve’s easing programme is one thing. It’s quite another for lawmakers to hold US finances hostage to score cheap political points in a farce that’s even drawn comments from Lady Gaga.
Xi’s timing in proposing a regional bank can’t be a coincidence. Beijing is also involved in efforts to build another institution that might challenge the IMF and World Bank among the BRICS nations of Brazil, Russia, India, China and South Africa. Filling its vaults will come at the dollar’s expense.
Tea Party supporters should consider that they are helping enhance China’s soft power around the world. Although China’s currency reserve managers may lose some sleep this month, its leaders will gain in global stature as they come across as serious and moderate in the face of the Washington frat-house spectacle. It’s amazing to watch my US tax dollars hard at work making Communists look like capitalist heroes.
(William Pesek is a Bloomberg View columnist.)