When the US Senate Finance Committee voted 20-1 to impose protective tariffs against Chinese goods unless the yuan was revalued, the reaction in China was immediate and pointed. Mr. Xia Bin of the Development Research Center of the Finance Ministry said in a statement that China might well “dump” its vast holdings of US dollars and dollar-denominated financial instruments in retaliation for any such action taken by the US.
Was this a real threat? Clearly not, as demonstrated by the rejection of such actions by Chinese financial authorities over the weekend. That is not to say, however, that China will remain passive in the face of deliberate goading from the United States. Should we expect a series of punitive actions by each country, or will cooler heads prevail?
The answer (or answers) may be simple right now, but the real question is still out there. The Chinese are hardly so naïve as to think that a frontal assault upon the dollar would not result in serious and immediate consequences. The “dumping” suggested by Mr. Xia and others would almost certainly affect the EU and the euro, and the resulting outcry would do nothing for Chinese/European relations. But if the United States continues to fund fiscal and trade deficits through the sale of Treasury securities, nothing prevents the Chinese from “sitting out” an auction or three. While the result of such actions certainly be detrimental to the United States, I would argue that the coming irritant in Chinese/American relations is not the disparity in the balance of trade, but the near certainty of the disintermediation of Chinese investment out of financial instruments into more tangible assets. The “Made in China” phenomenon is about to be replaced by the “Owned by China” threat, which is hardly being considered by policy makers either here or in Europe.
The growth of Sovereign Wealth Funds over the past few years is unparalleled. These sovereign investment vehicles raise important and troubling questions for American and European policy makers, and not only on China. Russia, Singapore, Dubai, Brazil and other energy-producing countries enjoy vast reserve holdings which are certain to be used for other than “traditional” investments. Consider the near-hysterical reaction in the United States to the attempted purchase of port facilities by Dubai; while little has been made of Russia’s investment in Airbus Industries’ parent, how would the world react to a controlling stake? Russia is the second largest producer of aluminum; they want to be number one. A 30 percent Chinese stake in Intel? A Blackstone (in which China has a $3 billion stake) investment in a defense contractor? These questions go straight to the heart of the definition of free markets. How the new paradigm is to be defined will surely be one of the most important questions faced by the western democracies, and it cannot be debated properly unless they see how these issues fit together. Let the discussions begin—and quickly.
Louis G. Schirano worked in international banking for over thirty years, primarily with Banker Trust Company. He holds a B.A. in English from the University of Notre Dame and a J.D. from New York University School of Law. Presently retired, Schirano has taught at the University of Notre Dame and St. Mary’s College and now acts as a consultant on matters of international trade and finance.
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