China has the ultimate weapon in trade war with US
Commerce Secretary Wilbur Ross said something the other day that was either right on the mark or profàčoundly ê§stupid.
Only time will tell which it is.
Ross said that China was âout of bulletsâ in the trade war that the Trump administration escalated this week by placing another $200 billion in tariffs â â basically taxes â on Chinese goods entđ·ering the US.
What Rossđ meant was that, since China sends more of its goods to the US than we send to China, a tit-for-tat trade battle would ultimately be won by the US. We can tax more of their êŠșgoods than they can of ours.
Put in Rossâ words, we can fire more tariff bđullets at them than they can at us.
President Trumpâs strategy isnât a secret: Squeeze China until it êŠis willing to negotiate a fairer deal áŁthat will reduce the $375 billion trade deficit that the US had with China last year and play fairer when it comes to intellectual property.
Bravo! How can you arguđĄe with the intent of that àčif you are an American?
If theđŻ US can alter the trade imbalance with China (and the other ï·œcountries Trump is fighting with), it will mean more jobs for Americans, more business for our companies and another star on the report card of the Trump White House that already is acing â for the time being, at least â economics even if it is failing in the area of conduct.
But thereâs a bigger issue heđre thađŻt I would be careless in ignoring.
If Ross is right on the bullets issue of the trade war, does that mean China wđ»ill have to resort to using its financial missiles to combat what Trump is doing?
And by that I mean the $1đ.171 trillion in US ê§securities that Beijing owned as of July.
What if the Chinese decided to sharply reduce their holdings in US debt? What if Beijing decided to launch a few financial missiles by either selling down their holdings of UâS Treasuries â or simply not buying any more? A little missile that could still do a lot of damage would be China simply threatening publicly to sell US debt, somâething that has been hinted at before.
That would certainly get Wall Streetâs attention.
First, let me say that there is a school of thought that believes this will neđ°ver happen. Why? Because by just threatening to sell US securities in a large amount â or by actually doing so â the Chinese would cause the value of US bonds to fall and interest rates to climb here and throughout the world.
And the Chinese, who hold so much of that US debt, would takđe heavy losses. Plus, the higher interest rates would make it harder for the Chinese to fâinance their own countryâs deficit.
In other words, the optimistï·șs in this trade war say that the Chinese may haveđ financial missiles â but that they canât launch them at the US.
So what happens if today the Chinese decide to become irrational because they â±are out of bullets? What if they start selling loads of US government bonds?
If that happens, Washington will have to eithê§er (a) severely cut back its spending so that we donât need the money the Chinese are giving us through bond purchases, or (b) find other buyers of our debt.
Since Washington never cuts spendinđ»g, the seconâ±d choice is probably the better option. But where can other customers be found?
JêŠapan is the second-biggest buyer of US debt, but Tokyo owns only a little more than $1 trillion worth. And Japanâs economy isnât in great shape, so it canât afford to send more capital abroad.
The next-biggest US government-bond holder, ifêŠș you can believe it, is Ireland with only $300 billion worth. OPEC nations are small-time investors in our bonds: Saudi Arabia has $167 billion, the United Arab Emirates $60 billion and Kuwait $43 billion. So oil money from abroad isnât going to do the trick.
And if the US is goêŠing to lure other countries to invest in our debt, the bonds will have to be mâ±ade more attractive. Thatâs another way of saying that interest rates will have to rise.
Youâve đalready heard that the Federal Reserve is raising interest rates, but what might be needed to entice additional buyers is a course of a different color â a rate increase on top of the Fed-fueled increase.
But that will translate into higher costs for anyone who is borrowing mođŒney â from Uncle Sam, already running a nearly $â1 trillion-a-year deficit, all the way down to your Aunt Tilly looking to buy a house.
To be sure, thereâsđȘ another option â but it would be controversial.
The Fed could begin another quantitative easinêŠg program, which in the past has easily created new money to buy bonds. The intention when QE was done in the late aughtsâ was to make interest rates extraordinarily low.
The next QE might be launched to make up for the lack of interest in US government bonds. QE, in this case, would be the same as Washington printing money so that it can again act as a shill buyer at Treasury à·Žbond auctions.
It would be a fraud and it would raise big questions about the health of the US curreê©”ncy and put our cđountry in a poor light.
People laughed when Trump is alleged to have said that the solution to Americaâs financial problems is printing more money. Iđf the Fed has to QE our way out ođf bond-market trouble, itâll be as hilarious â and frightening â as what Trump is said to have proposed.
Which brꊫings us back to my original question: Are the Chinese really out of bullets, or is there just a lull in the fighting before the big đguns come out?