Stiglitz: China Holds the Better Cards if Things Get Ugly

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Nobel Prize winning economist Joseph Stiglitz can be blunt. In an interview with MarketWatch, he says that our dependence on Chinese capital puts us in a not-so-great bargaining position. He also pointed out in Congressional testimony that the Chinese have no reason to open their financial markets since they don’t need capital. And our focus on having them increase the value of the yuan is misguided. While it would increase the cost of Chinese labor, US companies would respond by shifting production to countries like Bangladesh.

From MarketWatch:

Congress should resist the urge to slap protectionist measures on China because it will only make life more difficult for the domestic economy, Nobel Prize-winning economist Joseph Stiglitz of Columbia University said Tuesday.

In an interview, Stiglitz said China appears to be taking “very seriously” the two days of talks with the Bush administration in an effort to ease economic tension….

Behind the talks is the threat of Congress imposing trade restrictions on Chinese exports to the U.S.

“There is growing skepticism in each country about the other’s intentions,” said Treasury Secretary Henry Paulson at the opening of the talks on Tuesday morning.

Stiglitz said Congress should lower the temperature of the rhetoric on China.
Stiglitz said the U.S. and China are joined at the hip, protectionism would hurt both countries, and may hurt the U.S. more that China.

“We are in a mutual hostage situation, and China may hold the better cards,” Stiglitz said.

At the moment, China is using to money it receives from the sale of its products in the United States to make large purchases of Treasury bonds, holding down U.S. interest rates.

If Congress were to pass measures cutting off Chinese exports to the U.S., China could quickly reduce these purchases.

China could keep a high growth rate, but the U.S. “would have a very much of a problem financing our deficit,” Stiglitz said.

Stiglitz said the U.S. would be able to finance its deficit, but at higher interest rates.

“We could face a change in asset prices and a very big disturbance to the global economy,” Stiglitz said.

Although Congress thought it was attacking trade, it would have ramifications in the global financial markets, he said.

Stiglitz said one flaw in the Strategic Economic Dialogue was the focus on the exchange rate.

Forcing China to revalue the yuan higher would just shift low-wage production to other countries, like Bangladesh, he said, so the U.S. multilateral deficit would be unchanged even though there would be an improvement in the bilateral deficit with China.

But the U.S. might also face more trouble financing its deficit.

“Other countries would be less willing to lend money to the U.S., and more willing to lend it to Europe,” he said.

China would not agree to appreciate its currency in part because it would lower agricultural prices and raise poverty in the countryside as lower-priced subsidized U.S. wheat exports would increase.

So the U.S. argument that a flexible exchange rate is a free-market story “doesn’t cut ice,” Stiglitz said.

Stiglitz was in Washington testifying before the House Financial Services Committee regarding the World Bank.

Stiglitz also questioned whether China should open up its financial services industry to greater foreign investment, saying it is “not an important agenda item” for the country’s development.

The typical reason for opening up financial markets is to get capital, but China doesn’t need foreign capital, he said.

Stiglitz said he could understand why Wall Street would like to be able to purchase more of a stake in Chinese banks, but said China “had no compelling interest to do it.”

China should take steps to diversify its foreign reserves, he said, as there is a general consensus is that China has more reserves that are needed for precautionary purposes.

China might consider ways to allow its citizens and companies to invest overseas, but this would also lower the value of its currency, he said.

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