While looking for something completely unrelated, I ran across this September 2007 post which bears repeating:
“Spengler’s” piece about Western grasshoppers and Chinese ants points out one of the sad facts of U.S. economic policy: its willingness to endure long-term trade deficits without allowing those who accumulate the dollars to invest them in U.S. equities.
A couple of years ago CNOOC (China National Offshore Oil Corporation) made a bid for Unocal. In the oil industry, it was yet another consolidation. But Congress whined and complained and CNOOC backed off. With this kind of policy in place, Asian investors went where they could. In many cases this meant the subprime derivatives market, and we all know where that’s gone lately.
The biggest danger out there is that Asian investors, with a broader view of what’s possible, will cease to see the dollar as a reserve currency and start treating it as a state controlled one. They well understand the concept of a state controlled currency. The dollar’s hegemony is largely based on a) the faith people have in the stability of the U.S. and b) the dollar’s ready convertibility. If that convertibility is compromised by ill-conceived policies of the Treasury Department, it will chip away at both strong points.
Besides, if they were allowed to more freely invest, it would increase demand for U.S. equities, which would increase their value and thus help pension funds along as well.
One “back door” solution to this problem would be for Asian investors to participate more in private placements. Given the nature of Sarbanes-Oxley, this is sensible from a number of standpoints. But having been already burned with the subprime derivatives, they may not have the stomach to try this on a broad basis.
This prediction has lumbered to fulfilment in the 3 1/2 years since I made it. And the U.S. is no closer to allowing for an equity settlement than it was then, or at least it doesn’t look like it is.
Americans don’t like the idea of the Chinese owning a substantial portion of their economy, even if it is to settle the debt that same Americans (individually and through their government) have incurred. Now we have rumours of the Chinese military wanting to use the debt as a weapon to retaliate for our arms sale to Taiwan. But the Chinese, for reasons beyond military ones, need to find a way to get out from under the debt without jeopardising the rest of their holdings. If they can’t use the equity markets for this purpose, you can be sure that the “Plan B” they come up with will be equally distasteful.