Now that China has made some moves (see previous post on “Currency Matters“), and the relative strength of the US and China are changing dramatically, it is time to expound upon the idea of a US-China Currency and Monetary Cooperative Framework (the “Framework”). The following is just a preliminary brief skeletal summary, to get the thinking and discussions started. The technical details will involve substantial complex considerations and intricate designs.
Four Structural Elements
Such a Framework should encompass four structural elements:
(1) A schedule of currency exchange (in essence an arrangement of currency cross-holding between the two countries).
(2) Formalisation of the Bilateral Investment Treaty ( BIT）under discussions, in which selective financial markets will be opened up, and selective cross-border investment restrictions will be lifted.
(3) Coordinated steps toward regulatory convergence, with limitation on purely speculative activities (utilizing, for example, minimum net capital and liquidity reserve requirements).
(4) Formation of joint working task forces between central banks and regulatory agencies (for example, to work on cooperative management of liquidity, curbing money laundering and cross-border criminal activities, monitoring of shadow banking and excessively-leveraged activities, etc).
Under the Framework, the relevant markets will operate freely, within agreed-upon quanta and limits that are periodically updated. Risk management and crisis coordination mechanisms will be installed.
Once formulated, the Framework will likely become a de facto template for the rest of the world’s financial and capital markets, and form an embryo leading toward a sensible and practical multi-currency regime, and possibly an eventual uniform global currency (for example, an electronic SDR). That is too far afield for the purpose of this article.
The Chained Gang
Imagine two persons, locked together by unbreakable chained shackles. I have often described the predicament of the US and China as such. Whether we like it or not, there is me in you, and you in me. The more coordinated we are, the easier life will be. The more cantankerous one or the other is, the more difficult life will be for both.
I am referring to these emergent facts:
(a) US and China are the world’s largest trading partner-nations. US-China bilateral trade constitutes approximately 15% of each nation’s total foreign trade. With China having a 4:1 export-import advantage, the resultant US $350 billion US trade deficit must be addressed. With their trading items with the US substantially substitutable, the Chinese are better braced against a hard-balling trade war. Besides, each also has equally big trading volume with European nations. A trade war between them would spill over into competitions to/from Europe, in which China and Europe would seem to enjoy an edge over the US, particularly in promoting the Euro and RMB currencies over the US Dollar.
(b) China is the biggest lender to the US government. It held onto the mortgage-backed securities (MBS) after the 2008 financial tsunami, instead of dumping them like Russia did, a stance which helped Wall Street survive its darkest days. It was a demonstration of decency and financial comraderie that the likes of Paulson, Bernanke, Geithner, etc. would remain grateful for and mentioned so in their memoirs. The US is China’s biggest foreign borrower, which debt constitutes a bulk of China’s foreign currency reserves. It is in China’s interest that USD debt is good money, and the Dollar does not depreciate excessively.
(c) China is the world’s biggest trading nation and the biggest buyer of oil and natural gas, naturally making it a major factor on currency usage. This influence is likely to increase.
(d) China is dramatically on the ascendance in military capability and cutting-edge science and technology, and a driver/partner on future innovation and growth. For the first time, the US is seeking cooperation with the Chinese in many technical areas where it is now lagging. It is urgently seeking China to pledge non-transfer of vital strategic and military technology to third nations.
(e) Presently, China has become an unexpectedly strong competitor in the global arms market. This poses a real challenge to a global US currency regime that is enforced through US military options (that is, with wars and/or sale of weapons). With a reduction in market share, the US military infrastructure is extremely expensive and unsustainably bloated. It is beginning to acknowledge a state of crisis.
The US needs to call “time out”
Given the current reality, and the apparent momentum going forward, the US needs to call “time out”. A cooperative Framework, instead of venomous rhetoric and promise of meeting each other on the warpaths (ala Steve Bannon), will hopefully help America regroup and face its challenge, starting with deep-rooted domestic and internal ones. Constructing a way forward in the currency and monetary realm with China will help the US regain some traction. By insisting on an unrealistic hegemonic status quo, the US will only hand the keys over to China and its swarm of willing partners and friends.
China is always willing and prefers to seek common grounds with the US, resolving and ameliorating contradictions, promoting complementarity and synergies. Historically, China has benefited massively from the US and cherished American friendship over others. After all, the two are chained together at the moment. The upside is tremendous for both. The downside is equally huge and, if not managed properly, will indeed lead to a world war. At the moment, the Chinese have demonstrated convincing military capabilities and the will to deter the Americans from attempting to use force and insist on unreason.
That does not mean the US will cease its clandestine secret wars and maneuvers with designs on China (refer to my posts on “Malacca Strait” and “Why Afghanistan“). These are no secret to the Chinese. But as they say: it would amount to the US lifting a heavy rock only to drop it on its own feet. To pursue peaceful coexistence and co-prosperity, the US must buckle down and do its homework, in order to find the only sensible win-win way forward.