America's Declining `Superpower' Status 

      American Free Press | 29 Nov 2004 | Paul Craig Roberts 


America's Declining `Superpower' Status

U.S. Economic Strength Banks on Dollar as Reserve Currency

By Paul Craig Roberts

China's currency peg to the U.S. dollar prevents
correction of the U.S. trade imbalance
and imperils the U.S. dollar's role as
the international reserve currency. In the
post World War II period, the dollar took
over the reserve currency role from the British pound,
because the supremacy of U.S. manufacturing guaranteed
U.S. trade surpluses. The British pound lost its role
due to debts from two world wars, loss of empire, a rundown
industrial base and socialist attack on UK business.

The reserve currency status conveys unique advantages
on the favored country. As the reserve currency, the
U.S. dollar is guaranteed a high level of demand. Foreign
central banks hold their reserves in dollars, and countries
are billed in dollars for their oil imports, which requires
other countries to buy dollars with their currencies.

As a reserve currency fulfills world needs in addition
to the functions of a domestic currency, the favored
country can hemorrhage debt for a protracted period on
a scale that would promptly wreck any other country's
currency.

This advantage is a two-edged sword, however,
because it permits the reserve country to behave irresponsibly
by running large trade and budget deficits.
When the tide turns against the reserve currency, its
exchange value collapses.

The reason for the collapse is the huge stock of reserve
currency held by foreigners. When other countries conclude
that their hoards of dollars represent claims that
the United States cannot meet, dollar dumping begins.
Financing for U.S. debt dries up; interest rates rise; imported
goods become unaffordable and living standards fall.

Flight from the dollar is already underway. During the
past two years, the U.S. dollar has declined 52 percent
against the new European currency, the euro. This decline is
striking in view of the sluggish European economy and the
fact that many analysts regard the euro as merely a political
currency.

Indeed, the dollar is declining against all currencies that have any 
international standing: the British pound, the Canadian dollar, the 
Australian dollar and even against the Japanese yen, despite Tokyo's 
intervention to support the dollar.

Overcome by hubris and superpower delusion, U.S. policymakers are 
unaware of America's peril. Economists and pundits are equally in the 
dark.

Economists believe that decline in the dollar's exchange value will 
correct the U.S. trade deficit by reducing imports and increasing 
exports. Once upon a time, a case could be argued for this logic. But 
that was a time before U.S. corporations took to outsourcing jobs and 
locating production for U.S. markets offshore.

U.S. imports of goods and services rise each time a U.S. factory 
moves offshore or a U.S. job is outsourced. Goods and services 
produced offshore by U.S. corporations for U.S. customers count as 
imports and worsen the trade deficit. The United States cannot reduce 
its trade deficit by increasing sales to China of goods made by U.S. 
firms in China. As Charles McMillion, president of MBG Information 
Services, concisely summarizes, "Outsourcing is export substitution."

It is amazing that U.S. policymakers and economists do not understand 
that dollar devaluation is meaningless as long as China keeps its 
currency pegged to the dollar.

America's greatest trade imbalance is with China. In 2000, the U.S. 
merchandise trade deficit with China became larger than the chronic 
U.S. trade deficit with Japan. By 2003, the U.S. trade deficit with 
China was almost twice as large as the U.S. deficit with Japan: $124 
billion versus $66 billion. This year, the U.S. trade deficit with 
China is expected to be $160 billion, a 29 percent increase from last 
year.

This imbalance cannot be corrected as long as China maintains the 
peg. As the dollar falls against the euro and other currencies, the 
Chinese currency falls with it, thus maintaining China's advantage 
over U.S. goods in world markets.

Both the Clinton and Bush administrations are guilty of permitting 
China to maintain a grossly undervalued currency that sucks 
productive capacity out of the United States. The combination of 
cheap Chinese labor and an undervalued currency are destroying U.S. 
middle class living standards.

As America's industrial base erodes, so does its competitiveness
and ability to close its trade deficit through exports.

Currency markets cannot correct the undervalued Chinese currency, 
because China does not permit its currency to be traded and there are 
insufficient stocks of Chinese currency in foreign hands with which to
form a currency market.

Sooner or later, the peg will come to an end—perhaps
when China fulfills its WTO obligation to let its currency
float. When the peg ends, it will deliver a severe shock to
U.S. living standards. Suddenly, Chinese manufactured
goods—including advanced technology products—on which the United 
States is now dependent will cost much more. Overnight, shopping at 
Wal-Mart will be like shopping in high-end department stores.

China accounts for a quarter of the U.S. trade deficit and
for one-third of the U.S. deficit in manufactured goods, is
the second largest source of U.S. imports after Canada and
is America's third largest trading partner as conventionally
measured. Despite these facts, the U.S. government does not
publish full current account data for China, instead lumping
China in with "Other Countries in Asia and Africa." This keeps
the magnitude of the problem out of sight.

Canada and Mexico rank as the United States' two largest "trading 
partners," because of double counting in the measure of imports and 
exports. For example, the full value of auto bodies shipped across 
the borders to Canada and Mexico for assembly operations are counted
as "exports" when they leave the United States and as "imports"
when they return.

In contrast, U.S. "trade" with China involves almost no double
counting of component parts.

Recently, Goodyear Tire and Rubber Co. declared its
intention to close all U.S. plants and to manufacture offshore
for U.S. markets. Each time the United States loses an
industry, America's export potential declines and America's
imports rise. This scenario guarantees a rising trade deficit
and the end of the dollar's reserve currency role.