Tuesday, October 12, 2010

Globalized Finance: Advantage China

In recent posts I have written about how international capital mobility has expanded since the 1960s to the point where one cannot imagine the world without freely flowing capital. Sebastian Mallaby has presented a confirming essay on this in the Financial Times, “The Genie of Global Finance is Out of the Bottle,” (http://www.ft.com/cms/s/0/9084f8c8-d527-11df-ad3a-00144feabdc0.html).

“The truth is that, however cogent the case for reining in financial globalization, sheer momentum will carry it forward…the bottom line is that, once a country has a sophisticated capital market, it is tough to keep foreigners out.

It is even tougher to exclude a particular class of foreigner, which is why the understandable urge to impose portfolio sanctions on China will prove impractical. The US has sold around $3,000 billion worth of Treasury bonds to foreigners, and perhaps only a third of those are held by China—if Beijing wants to bulk up its holdings tomorrow, it can buy plenty from Middle Eastern sovereign funds. Once finance is globalized, it just is not possible to deglobalize it cleanly. The genie is out of the bottle. We must find ways to live with it safely.”

Take de-globalization off the table.

What is one way to live with this freely flowing capital mobility? Certainly not inflation.

Yet the United States government has acted over the past 50 years on an economic philosophy that has created an almost constant credit inflation. This has left the United States is a weakened bargaining position relative to other nations in the world. (See one of several posts I have recently written on this subject: http://seekingalpha.com/article/227990-monetary-warfare-can-nations-have-independent-economic-policies.)

The United States has justified the need for this “independent” economic policy to ensure high levels of employment within the country. However, international financial markets have not given the United States high marks for such a policy as the value of the United States dollar has declined by about 40% throughout the period this policy has been in effect.

The justification for allowing the dollar to decline in value has been that this will help to stimulate American exports and help correct the American balance of payments.

Well, the Chinese (and other emerging countries) are buying goods from the rest of the world. However, they are not consumer goods…they are capital goods.

A headline opinion piece in the New York Times by Andrew Ross Sorkin trumpets “Worrying over China and Food” (http://www.nytimes.com/2010/10/12/business/12sorkin.html?ref=business). The concern is over the fact that a “consortium of state-backed Chinese companies and financiers may make a takeover offer for Potash that rivals a $38.6 billion hostile bid from BHP Billiton.”

Sorkin states that “The politically charged subtext is this: Do we really want the Chinese to control the company that has the largest capacity (in the world) to produce fertilizer?”
But this is not all from the morning papers as other headlines read “China Takes New Bite at U. S. Energy” (http://professional.wsj.com/article/SB10001424052748703794104575545992992771182.html?mod=ITP_moneyandinvesting_7&mg=reno-wsj) and “China Turns to Texas for Drilling Know-How” (http://professional.wsj.com/article/SB10001424052748703358504575545183782651388.html?mod=ITP_marketplace_0&mg=reno-wsj). It seems as if the China National Offshore Oil Company (Cnooc) is investing money in Chesapeake Energy, an investment “in onshore U. S. energy assets.”

Contrary to an earlier effort by Cnooc to acquire Unocal, a bid that caused grave concern in the United States Congress, this bid seems to be gaining favor because the Chinese will only have a minority ownership (one-third of the company) which means that this position will not be a “credible threat to national security.” The reason for this is that “Chesapeake will retain operational control of its…shale assets.”

What is the old saying about someone who gets their foot in the door?

But, this pattern is occurring all over the world as China intentionally expands its global reach in owning or influencing physical capital…owning all or part of companies.

And, who is underwriting this expansion? The United States government!

The United States government has outsourced to China and others the savings it needs to finance its massive deficits. The Federal Reserve System continues to keep interest rates excessively low exacerbating the credit inflation that that was begun at an earlier time.

And the response of the United States government? It is China’s fault that they are taking advantage of the excessive amounts of credit that have been created in the United States. And China will not change its behavior even as the United States government signals it will continue to follow the same policy it has followed for most of the last fifty years. No matter that this economic policy has brought the United States to the position it now finds itself in.

Bottom line: as Mallaby has argued, finance has been globalized and this trend cannot be cleanly reversed. Given that this is the case, continued efforts to inflate credit in the United States will only worsen the trade position of the United States and make the value of its currency sink even further. In such a situation, who cares about US firms outsourcing jobs to other countries. Instead, let’s just sell US companies to foreign interests and keep those jobs right here in the United States. That is, the jobs will not have to be outsourced to another country…they will just be outsourced to foreign-owned American firms located here in the United States.

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