Dragonomics

Be careful what you wish for, Arthur Kroeber writes in the Washington Post. Successfully forcing China to drop its yuan peg would have unintended consequences for the U.S. He lists three:

1. Mortgage payments rise (because interest rates rise when China slows its buying of U.S. bonds).

2. Gas prices rise (because Chinese people consume more and switch to heavier industries).

3. Chinese companies start buying U.S. companies (because the yuan is suddenly stronger).


The first of these is almost certainly bad, since it would hit poor Americans the hardest, and would make the housing market suffer more than it is already suffering. But what about the other two?

Gas prices rising seems like not such a bad thing. Higher gas prices would discourage consumption and force a quicker switch to cleaner fuels here in the U.S.

And as for Chinese companies buying American ones, that would definitely be a good thing for us. Kroeber admits as much:

[Chinese acquisition of U.S. companies is] not such a problem economically. Chinese buyers, flush with cash but relative know-nothings in the U.S. market, will almost certainly pay too much for assets that suddenly look inexpensive. Sellers in mature or declining industries could take their gains and invest in newer industries that add to U.S. productivity and wealth. On the whole, the United States would probably come out ahead.

This happened with Japan in the '80s. When the yen suddenly got stronger, Japanese companies thought they could buy their way to fabulous wealth by snapping up famous American companies. Unfortunately for them, Americans knew a lot more about the strength of their own companies than the Japanese did, and so Japan Inc. got taken to the cleaners, while the Americans took the cash and put it into things like Intel and Microsoft. Why are we scared of a repeat?

So, basically, two of Kroeber's three bogeymen go right out the window. I've said it before and I'll say it again: If you think the yuan peg is a good policy, you support huge government distortion of the economy. And history is not on your side.

So why is Kroeber so anxious to go against accepted economic wisdom? Well, it turns out he's not exactly an economist. He's the managing director of Dragonomics, a consulting firm in China. Why am I not surprised?


Addendum: John Mauldin, an investment researcher at Investment Insight, has a more reasonable reason why scrapping the yuan peg might be bad for America: it would cause inflation to rise. This is true, of course, and (almost) no one likes inflation. But China's borrowing of U.S. bonds, which is necessary to keep the yuan peg, can't go on forever. So sooner or later, we're going to face that inflation. Putting it off will probably make it worse.