America’s economic policy mix is a threat to the world

Or so says Philippe Legrain over at VoxEU.org. Legrain argues,

While the debate over global imbalances often focuses on China, this column argues that the biggest threat to the world economy comes from the other side of the seesaw – the US.

He continues,

Yet because it has a current-account surplus, China is widely perceived to be a drag on the global economy. This is misleadingly simplistic.

• Its imports grew by 24% in the 12 months to September, creating jobs and growth elsewhere.
• Its trade surplus is shrinking.
• And, lest critics forget, even Chinese exports have their benefits. Assembled from parts made in other countries, they provide cheap inputs for businesses everywhere. They spur companies outside China to innovate and become more competitive. And they increase consumers’ welfare – why else would people buy them?

Legrain wants the US to look at its own polices before complaining about other countries.

For the most part, the alternative to cheap Chinese imports is not goods “made in the USA” but goods made in other emerging economies. Reshaping the US economy to cater more to the needs of emerging economies would do far more to boost US exports. Above all, trying to force the renminbi up with protectionist threats – as the US Congress demands and many respectable and ostensibly liberal commentators now seem to advocate – is to invite a trade war that would beggar us all.

Instead of threatening others, the US should put its own house in order. The Federal Reserve helped cause the mess we are in and is now sowing the seeds for the next crisis. Having wrecked the US economy by encouraging a huge debt-fuelled bubble to inflate, the Fed now finds itself unable to ensure recovery. Even with near-zero interest rates, indebted consumers don’t want to borrow and fragile banks don’t want to lend. Businesses that could generate growth are either starved of credit or too uncertain about the future to invest. As the Fed pumps out ever more money, banks invest it in higher-yielding Treasuries, pocketing easy profits and paying out ill-deserved bonuses, while much of it leaks out overseas. The net result? Hardly any additional US growth.

Since the monetary transmission mechanism is broken, injecting ever more money into the system does not get the wheels of the economy spinning faster. It floods the engine. A better way to stimulate the US economy would be fiscal measures that promote its restructuring and enhance its productive potential – for instance, investment in its dilapidated infrastructure, cuts in payroll tax and retraining subsidies to get people into work and, in the absence of a carbon tax, measures to promote venture capital in the clean-tech industries of the future.

Current US policy is not just ineffectual, it is also dangerous. Banks that ought to fold are kept on life support. Homeowners who ought to default and move to where the jobs are cling on to their depreciated houses in depressed areas. Bubble-prone investors believe in a Bernanke put. Money gushes out of the US and into emerging economies that don’t need it and can’t cope with it. This is economic vandalism.

The strategic rationale for printing money – sorry, “quantitative easing” – may be to force Beijing’s hand on the renminbi. Yet protected by capital controls, adept at sterilising monetary inflows and loath to give in to US pressure, China is unlikely to move much. Carrots – such as a bigger role at the IMF and the opportunity to convert some of its dollar reserves into special drawing rights (SDRs) – might work better than sticks. The victims are instead the Eurozone, Japan, Australia and other advanced economies whose currencies are soaring, as well as emerging economies such as Brazil and Thailand that cannot do much to stem the tide of US cash.