III. The Odd Couple

China is the new "bad boy" of the global economy, having displaced Japan as the aggressive emblem of a trading system ferociously out of balance. China's low-wage production is not only grabbing vast market share from other poor countries in low-end goods, but its increasing sophistication in advanced manufacturing is siphoning off millions of high-wage, high-quality jobs from advanced economies, especially that of the compliant United States. China's annual trade surplus with the United States has surpassed Japan's and now exceeds $100 billion. The US economy, meanwhile, is borrowing capital from abroad to sustain its consumption with an unsustainable appetite for debt--5 percent of GDP this year, headed for 6 percent next year.

Leading US cheerleaders for freewheeling globalization (including Federal Reserve Chairman Alan Greenspan) have begun scolding China for excessive ambitions, just as they once criticized Japan, to no avail. The National Association of Manufacturers issued a report warning that 2.3 million US manufacturing jobs have disappeared since 2000, largely due to international competition (not entirely from China). The United States risks losing "critical mass" in manufacturing, says the NAM. A Defense Department technology-advisory group confirmed that so much "intellectual capital and industrial capability" has been moved offshore, particularly in microelectronics, that the Pentagon is dangerously dependent on foreign producers to make its high-tech weaponry. Fortune lamented further that the lost American jobs now include upscale, college-educated occupations--software design, accounting, electrical engineering. When labor leaders protested devastating losses of blue-collar jobs, they were dismissed as protectionist. But losing high-tech "brain work" wasn't what the cheerleaders had in mind.

There is one other embarrassing reality the globalizers don't wish to mention: China is also now America's leading creditor. Building up huge reserves of surplus capital, China pumps much of the money into loans back to America in the form of US Treasury bonds. China now holds $290 billion in US government debt, more than any other foreign lender, according to Chen Zhao of the Bank Credit Analyst Research Group. "The flow of Chinese savings has enabled Americans to borrow and spend more," he explained in the Financial Times. "China is glad to see Americans going on another shopping spree. Its factories are cranking up production at an unprecedented pace.... China's exports to the U.S. jumped 35 percent in the first quarter" compared with the first quarter of 2002.

China and America are thus bound together in a very odd relationship--the poor country lends hundreds of billions to the world's largest economy so that affluent Americans can keep buying the poor country's goods--goods typically produced in the offshore factories built by America's own companies. If this seems a monstrous anomaly, it is actually the logical outcome of how US-led globalization functions. This recycling of capital and goods didn't start with China, though China represents the most extreme example. Elite experts claim it is a "virtuous circle" in which everyone benefits, but that is American hubris. Their reasoning ignores the essential transaction: China winds up with the accumulated profits. The United States winds up with the accumulated debt.

In present circumstances, this producer-debtor relationship looks like a dangerous tripwire, in which either China's financial excesses could ignite an endgame crisis for the United States or--vice versa--America's excesses could spill over as a crisis for China and the world trading system. Cassandras (like myself) have argued for some years that America's negative balance sheet--buying more than it produces and borrowing to do so--will eventually force an ugly reckoning. With its ever-swelling trade deficits, the moment of painful adjustment draws closer, but the debt cycle is unlikely to stop until creditor nations conclude that the US debt position is too dangerous and start withholding their capital. Alternately, if China's overheated economy gets mired in financial disorder or inflationary pressures, it might need to bring its capital home--thus pulling the plug on American consumers and the "buyer of last resort" for the global system at large.

Nobody knows when or how this may occur. Morgan Stanley economist Stephen Roach foresees the moment approaching when US gross national savings turns negative, and that could be "the flashpoint that sends a wake-up call to world financial markets." The dollar falls sharply, the US economy sinks into a deep, unambiguous recession and so does the world. Roach wants nations to call a global summit that confronts the danger and accepts that the basic problem is in the system's out-of-whack design, not the overreaching desires of poor nations like China.

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