Paul Krugman and others have recently claimed that Chinese currency manipulation is “an issue whose time has passed.” There are two fundamental problems with these arguments. First, China’s global trade surplus appears to be perhaps three to four times larger than has previously been reported. Second, productivity in China is growing much faster than in the United States and other developed countries and therefore, China’s exchange rate likely needs to appreciate at least 3 to 5 percent per year just to keep its trade surplus from growing. On the first issue—what the size of the Chinese current account surplus and its recent movement tell us about the need for currency realignment—it’s worth noting that most of the decline in China’s global trade surplus since 2008 is explained by the great recession and the sluggish recovery, especially in Europe. However, the U.S. bilateral deficit with China has increased by a third since it bottomed-out in 2009, which has slowed the U.S. recovery.

Further, China’s trade data likely understates its global trade surplus by a significant amount, a problem that has been ignored by officials in the United States, the International Monetary Fund and other international agencies. The IMF relies on self-reported data from each member country. Analysis of trade data from the United Nations shows that China is massively under-reporting its exports. Read more

A number of commenters declare that currency management by our trading partners is an issue “whose time has passed.” At the risk of violating Brad DeLong’s wise rules (Paraphrased: “Mistakes are avoided if you follow two rules: (1) Remember that Paul Krugman is right, and (2) If your analysis leads you to conclude that Paul Krugman is wrong, refer to rule No. 1”), I’m not convinced by claims—even Krugman’s—that this is a dead issue.

Look at one key piece of evidence Krugman presents: the real (inflation-adjusted) appreciation of the yuan in the last year. But, as Krugman himself has said in previous writings on this:

“Notice that I didn’t mention the value of the renminbi at all in this account [ed: of China’s currency management]. … You want to keep your eye on the ball: it’s the artificial capital exports that are the driving force here.

We know that the renminbi is grossly undervalued … on a PPE (proof of the pudding is in the eating) basis: the current value of the renminbi is consistent with massive artificial capital export, and that’s that.” [Edited for clarity; I’m pretty sure I haven’t done any (much?) damage to his argument].

So, have the artificial capital exports from China continued? Read more

Every once in a while, someone will write a column so densely packed with deception and misinformation that it truly astonishes me. Last week, U.S. News and World Report published such a column about government regulation of business by John Allison of the Cato Institute. I feel compelled to respond.

Let’s start with Allison’s use of a thoroughly discredited study that estimated the annual cost of regulation to be $1.75 trillion in 2008. This report, by Nicole and Mark Crain of Lafayette College, has been shown to be based on flimsy data, a flawed methodology based on a misuse of polling data, and an equally discredited estimate of the costs of OSHA regulation whose original data are untraceable. The Small Business Administration funded the research, but the Chairman of the Council of Economic Advisers has condemned it:

“The Council of Economic Advisers has looked at those claims and the $1.75 trillion figure is utterly erroneous. In fact, their [Crain and Crain’s] own data (which come from the World Bank) show that countries with smarter regulations have higher standards of living, and the United States has one of the best regulatory systems in the world.” Read more

Sen. Chuck Schumer (D-NY) recently made headlines in declaring that marginal income tax rate reductions are a terrible starting point for tax reform—they shouldn’t be a priority, period—and that the dual objectives of the Tax Reform Act of 1986 are completely inappropriate today. The 1986 reform, the last comprehensive “cleaning” of the tax code, is often touted as the model for tax reform, which Schumer attributes more to coalescing political bipartisanship than policy specifics. The ’86 framework of base-broadening, rate reductions, and distributional neutrality was recently adopted by two prominent tax proposals Schumer is now urging Democrats to reject—reforms proposed by Fiscal Commission Co-Chairs Alan Simpson and Erskine Bowles, as well as the Gang of Six (although both of these proposals would raise revenue, unlike the ’86 reforms). And Schumer is absolutely right about both the premise and conclusion of his argument. Here’s his take in a recent interview with Ezra Klein:

Klein: “The core of your argument is that tax reform in 2012 is proceeding atop a mistaken analogy to tax reform in 1986. So why isn’t 2012 like 1986?”

Schumer: “It’s not like 1986 for two reasons. Read more

As a follow-up to my earlier post, another issue likely to be raised in tonight’s debate is the issue of federal budget deficits that force us to “borrow from China.” Is this a real problem, and will it hurt if China suddenly decides to stop lending us money?

No and no.

First, rising budget deficits since the Great Recession began have actually been more than financed by rising domestic savings of U.S. households and businesses. In fact, the huge spike in private savings that began in 2007 (see the chart below) is the reason for the Great Recession: households and businesses stopped spending in 2008 and the economy cratered thereafter, cushioned a bit by the rise in government deficits. So, we have not relied on rising borrowing from China to finance the increased budget deficits in recent years, instead the rise in domestic savings has been more than sufficient to cover these.

But what happens if China turns off the spigot and stops trying to buy U.S. Treasuries and other dollar-denominated assets?

This would have two effects. First, the decline in available savings that can be borrowed by American households, businesses, and governments would decline. In normal times, this could bid-up interest rates. Think of interest rates as the price of loanable funds—as the supply of loanable funds falls, the price should be expected (all else equal) to rise. But we’re not in normal times. Instead, the American economy remains characterized by a huge excess of savings over demand for new loans, meaning that there’s no upward pressure on interest rates. Absent this upward pressure on interest rates, no damage would be done if China stopped plowing money into buying dollar-denominated assets.

Second, if China did stop buying U.S. assets, the value of its currency would increase vis-à-vis the dollar, and this would spur U.S. exports, both to China as well as to third-country markets.

So, in regards to China buying the U.S. government’s debt, it’s not only nothing to worry about, it would be better for the U.S. economy if they stopped.

Tonight’s presidential debate will mostly focus on issues out of my wheelhouse, but there are a couple of international economic issues that will come up that people should be prepared for. This post tackles one (currency management by our trading partners, particularly China) and a subsequent post will tackle the other (alleged reliance of the U.S. on China to buy our public debt).

The primary reason why the United States ran large (and generally-growing) trade deficits over the past 15 years was that the value of the U.S. dollar was too expensive. This expensive dollar prices our exports out of too many global markets. The source of this too-expensive dollar has actually varied over that time, but over the past decade it has been clearly driven by the policy of foreign governments buying hundreds of billions of dollars of dollar-denominated assets, hence increasing the demand for dollars, which pushes up the price of dollars on world markets.

In the late 1990s and early 2000s, it was largely private investors demanding dollars to buy into the U.S. stock market, and to find a safe haven for their investments in the fallout Read more

Here’s some of the interesting content that EPI’s research team browsed through today:

• “Behavioral Hazard in Health Insurance” (National Bureau of Economic Research)
• “Congress still has time to get it right” (Politico)
• “The Choice” (New Yorker)

One year ago, on Oct. 11, 2011, the Senate passed Sherrod Brown’s  Currency Exchange Rate Oversight Reform Act of 2011. This legislation aimed to put an end to the exchange rate intervention practiced by China and other countries, which kills jobs in the United States by artificially lowering the cost of the intervening countries’ exports while making goods produced in the U.S. artificially expensive. The Senate passed the bill 63-35, on a rare bipartisan vote.

The next day, the bill was sent to the Republican-controlled House of Representatives, where it has been blocked ever since. This gridlock is especially unfortunate because a year earlier, in Sept. 2010, the House passed a somewhat tougher bill, the Currency Reform for Fair Trade Act, by an overwhelming vote of 348–79, with a majority of Republicans joining their Democratic colleagues in support.

China continues to peg its currency to the dollar at an artificially low rate, and good-paying manufacturing jobs in the U.S. continue to be lost as a result. At an event hosted by EPI, two economists who have long favored free trade, Fred Bergsten and Paul Krugman, agreed that ending China’s “staggering and unprecedented” currency intervention could create up to a million jobs in the U.S., a result that would also improve the U.S. budget deficit and add as much as $200 billion to U.S. GDP.

So why hasn’t Congress acted? What happened to change the outcome in the House from one year to the next? Most obviously, control switched from the Democrats to the Republicans in the 2010 elections, and the new Speaker of the House, John Boehner, and the new majority leader, Eric Cantor, both opposed the bill in 2010.

Penalizing imports from China that have benefited from illegal currency intervention is very popular, with public support more than 70 percent in most polls. But the U.S. Chamber of Commerce and other business groups representing the multinational corporations that benefit from China trade are dead-set against the currency bill. From their point of view, policies like China’s currency intervention that put pressure on U.S. workers to accept pay cuts and other concessions to save their jobs are just fine. Corporate lobbying and campaign contributions almost guarantee that Congress will remain deadlocked on this issue.

Republican presidential candidate Mitt Romney has been adamant that his tax plan won’t cut taxes for the rich. In the debate earlier this week, he said:

“The top 5 percent of taxpayers will continue to pay 60 percent of the income tax the nation collects… I will not reduce the share paid by high-income individuals.”

So would his plan cut taxes for high-income households? Most likely. Note that he specifies the share of federal income taxes.  Why is this important? If his plan was revenue-neutral, there would be no distinction: the same share of the same total revenue equals the same amount of taxes paid.

But it’s clear that his plan can’t be revenue neutral: According to the Tax Policy Center, the 20 percent cut would give households with income of more than $200,000 a $251 billion tax cut, but they only get $165 billion in tax breaks (excluding the tax breaks for savings, which Romney has proposed to retain). A more recent TPC analysis shows that the $25,000 cap on itemized deductions he floated in the debate would only raise $1.3 trillion, offsetting only a quarter of the $5 trillion cost of his across-the-board rate cut.

So it seems that Romney’s plan would lose revenue, and if high-income households are paying the same share of a lesser amount of overall tax revenue, that means their tax bill will fall. This conclusion is reinforced by Romney’s own choice of words.  If his plan really did ensure that the top households didn’t get a tax cut, why would he often insist on describing his plan using the clunky “I will not reduce the share of taxes paid” explanation? It’s a roundabout explanation that suggests that even Romney knows that his plan will result in high-income households paying less in taxes.

Politicians love to complain about “waste, fraud and abuse,” and to promise to root it out. But few of them ever actually take the opportunity to attack actual waste or abuse (as opposed to making fun of scientific research they don’t understand or bike path construction projects they disagree with). But soon, in the lame duck session of Congress that will begin after the election, members of Congress will have a chance to vote against actual waste and abuse, or—if they’re so inclined—to allow it to continue, at great cost to the taxpaying public. Thanks to an amendment to the Department of Defense authorization bill introduced by Sen. Joe Manchin of West Virginia, Congress has an opportunity to put an end to an egregious practice of self-dealing and self-aggrandizement by federal defense contractors that costs the government billions of dollars a year.

Top federal contract employees are treated very differently (and much better) than equivalent employees on the federal civil service payroll. Current law permits federal contractors to charge the government up to $763,029 a year for their employees, while even federal cabinet secretaries are paid no more than $200,000 a year, and the president is paid only $400,000 a year. Read more