First, you might want to glance at my long 2005 report on China for context: China: An Interim Report and scan the site's archives from 2007 and 2005-2006 for the dozens of entries I've written on China.

Let's start by stipulating the salient points of the China/U.S. quasi-alliance, quasi-rivalry:

1. There is no precise historical analog to the U.S.-China inter-dependency and what many view as a financially dysfunctional relationship--dysfunctional for both nations.

At no other time has an ascendent Great Power depended so heavily on an Empire for customers and a global financial system which enabled its rapid success, and at no other time has an Empire relied so heavily on an ascendent Great Power to fund its catastrophically imbalanced deficits and debts.

2. The trade between China and the U.S. has been mutually beneficial. Let's remember that trade is voluntary; if one party loses or gets ripped off, they simply stop trading. China benefitted from becoming the manufacturing base of the globe by employing hundreds of millions of former rural peasants, and by amassing garantuan trade surpluses which enabled vast investments in infrastrucure and military improvements.

Recall that the goods are made in China at the behest of U.S. corporations which shifted production to China to vastly increase their own profits. China did not coerce anyone into moving production to China.

The U.S. benefitted by reaping trillions in corporate profits off the new low-cost source of goods, and by "importing deflation," i.e. by importing low-cost goods from China, the cost of living was held down.

Mutually beneficial trade between the West and China stretches back to the Roman Era. The Silk Road merchants braved the harrowing expanses of the Taklamakan Desert thousands of years ago. It's remarkably easy to begrudge the other side of the trade and reckon they're getting the better half of the trade, but the mutuality of trade has to be roughly equal or the traders simply move on to a more profitable trade.

3. These giant surpluses have posed a serious problem for China, which is a convoluted concoction of central-command-economy and free enterprise capitalism. The command economy is controlled by the CCP, (Communist Party) as well as various bureaucratic fiefdoms, some roughly analogous to the FDIC, the Federal Reserve and the U.S. Treasury--agencies which don't always see eye to eye.

The massive influx of billions of dollars in foreign investment and "hot money" seeking the easy gains from the yuan's (RMB) appreciation against the dollar, leveraged loose bank lending and the trade surpluses have fueled a real estate bubble of historic proportions in China, and sparked an unsettlingly high inflationary spiral in food, energy and other real-world costs.

4. The gargantuan trade imbalance the U.S. runs with the world (not just with China) is unsustainable, and the market "cure"--a sharp decline in the dollar's value against other currencies--has been resisted by China and Japan via buying of dollar-based Treasuries, agency debt, etc.

5. Despite years (or in the case of Japan, decades) of talk about "domestic growth," the Asian economies are still heavily dependent on exports for their growth and profits, thus their need to prop up the dollar and sop up any and all U.S. debt (mortgages, Fannie Mae mortgage-backed securities, corporate paper, you name it) to enable the junkie debt-addict U.S. consumer to keep buying their exports.

Though politically they are wary rivals, China has learned from the Japanese just how to manage the U.S. debt junkie--prop up the debtor nation, and it will keep buying trillions in your exports, building your own wealth.

6. Asian cultures have a deep tradition of saving huge portions of their earnings. Thus China and Japan generate stupendous amounts of real capital, that is, savings which are deposited in banks. They can fund their own deficits with domestic savings. The U.S., now a nation of spendthrifts, must rely on foreign capital to fund its staggering $744 Billion trade deficit. (July's deficit: $62 billion. So much for U.S. exports "saving the day.")

7. In Asian cultures, "face" (i.e. prestige and surface appearances) trumps truth and accuracy. Therefore, like it or not, any official accounting must be viewed with great skepticism. Thus in Japan, during the bubble years, Japanese firms bought Old Masters art for astounding sums of money. Later, as they fell victim to losses, the art disappeared from view; years later, it was sold privately in secret sales for big losses. To have the losses made public would have been a loss of face; so while the gains and profits and victories are trumpeted publicly, the losses are hidden or masked.

8. The Chinese have consciously fostered a paranoid "chip on the shoulder" worldview of the Chinese people as victims of Western domination and conspiracies. Thus the Chinese media and blogosphere is abuzz with "conspiracy" theories that the U.S. consciously engineered the entire meltdown of the U.S. financial system just to beggar their Chinese investors.

Forgotten in this scenario, of course, is that the Chinese could have chosen to invest their money elsewhere. They chose the dollar and the U.S. for a specific reason: to prop up the debt-addicted consumers of their manufacturing sector, which kept the social pressure off the Communist Party by employing millions of aspiring peasants.

Bottom line: both China and the U.S. have acted entirely out of self-interest; everyone acts on their own behalf, and the consequences flow not from not scullduggery but from the unsustainability of massive imbalances in trade and currency valuations.

9. Since nobody has ever played this complex a game before, nobody knows what to do; both the Chinese and U.S. authorities are making this up as they go along.

It would be foolish to assume the Chinese know any better than we do how to manage the unwinding of such weighty imbalances.

The Chinese did what they had to do to prop up the dollar and a key market for their export machine; now they are hemmed in because supporting the dollar isn't going to produce any results: the U.S. consumer is dead regardless of the dollar rising or falling, and so they might as well let the dollar fall.

10. China's property real estate bubble is enormous and the popping will have consequences. Our Chinese friends' friends have all owned 2-4 housing units each for investment purposes since back in 2004. Multiply that by millions and it doesn't add up--millions of units seem to align with the needs to house a huge under-housed population, but the hundreds of millions of low-wage former peasants cannot afford to fancy condos. As the global economy falls, China will lose jobs income, too.

There is one key difference between the Chinese working class/factory worker and its white-collar middle-class: the peasants can and are simply going back to their villages when the jobs vanish. There they can live frugally on very little.

But the middle-class doesn't have a village to go back to; they are stuck, especially if they can't get renters for their numerous investment properties. The glut of unoccupied formerly white-hot dwellings turns into huge losses.

The bursting of the real etsate bubble in China has yet to play out, and the consequences will be as dire as the bubble bursting in the U.S.

11. China--meaning the CCP and its authorities--heavily stage its economy, choroegraphing the private/capitalist markets for political and economic gain. The key issue to the Beijing leaders: How best to create and support more jobs?

12. There are two basic theories about China's manipulation of the dollar and U.S. debt: China's gambit to prop up the dollar was a bargain, as they gained trillions in value via jobs and capital inflows--or, they squandered money that could have been invested domestically. Recall that high school is not free in China; the social net is full of holes.

13. There is little allowance for market forces to impose discipline or change in either the U.S. or China, where the command economy attempts to game/control open market forces for its own purposes. Thus many apparently "private" companies are actually controlled by the CCP or the PLA (People's Liberation Army). A remarkably small percentage of the Chinese economy is actually totally privately owned.

14. The main goal of both the U.S. and Chinese leadership is to prevent rapid change, and to manage whatever "adjustments" have to be made slowly.

15. If the dollar is strengthening for fundamental reasons--and many believe the euro and pound were overvalued, so the dollar's rise is simply a reflection of other currency's weakness--then perhaps the Chinese would be wise to sell into this strength and exit their dollar positions, since they now no longer need to invest their surpluses to prop up the dollar.

16. Many argue that the "reserve currency" status of the dollar gives U.S. hegemony over global finance--that enables us to borrow freely at low rates at the expense of the rest of the world. It's been a nice scam while it lasts. Nonetheless it is unsustainable, and the British Empire's once-dominant pound is the historic analog which proves this.

17. I have highlighted again and again the importanace of expectations and the psychology of disappointment which will hit China like a tsunami once job losses creep up from textile factory floors to the nascent middle class.

Cultures which allow little dissent are like pressure cookers; when the populace finally rebels, it is explosive. Compare Britain's slow transition from monarchy to France's explosive revolution and wild swings from monarchy to republic to dictatorship.

I would guess that the Chinese will endure a lot, but at some point their extreme disappointment to the end of the "China economic miracle" will surprise those with little understanding of that nation's culture and history.

18. The more the central governments of both nations try to control and game the markets, the bigger the failure will be. The more the Fed and Treasury try to game the system back into "working," i.e. enabling relentless expansion of credit and the destruction of savings incentives, the bigger the blowback will be when their gaming finally blows up.

Here is an event which may well foretell the future of China during the global recession, courtesy of correspondent C.V.: Large Protests in China’s Hunan Province Protesters allege to be victims of illegal fund raising.

C.V. commented:

See how Chinese investors handle their versions of financial scams from their government! What would be their response to a Fannie or Freddie? It'll be interesting to see if the Communist regime can handle the unrest as more and more of the Goldman Sachs and AIG influence becomes apparent to the Chinese people.

Is there an exit strategy? The idea that the world's largest economies are merely facing a short-term panic looks increasingly strained

And here are three articles from Cheryl A. which sparked this entry:

Main Bank of China Is in Need of Capital

nakedcapitalism.com

Council on Foreign Relations--Brad Setser


Reader commentaries:

Harun I.

I must say this weeks posts have been extraordinary in their balance, fairness and message.

Anatole France said, "If 50 million people say a foolish thing, it is still a foolish thing."

Understanding that democracies don't work America was crafted into a republic. The republic stresses individualism and rejects collectivism. Therefore, Dr. Frankin's admonition of "A republic if you can keep it" is something I believe we should all be focusing on today. We are slip-sliding toward collectivism faster everyday yet we are acting like it is a ride at a water park. Neither party can stop this slide. It is up to the American people but perhaps only 1% understand the disaster that awaits at the end of this ride.

BTW, one of the coincidences that can't be overlooked during this election season besides the fall energy prices and the rally of the USD is the announcement of troop withdrawals from Iraq.

I completely agree with you assessment of Palin. No one, not even the Obama campaign, is discussing her executive experience in terms of degree. In this term, being the governor of Alaska, she is the equivalent to being mayor of a medium size town. In terms of degree Mayor Nagin, whom I believe to be woefully incompetent, has more "executive" experience.

While everyone is referring to her euphemistically as a far right wing conservative I will sum that phrase into what I believe it really means: extremist. And this is what gives me grave concerns.

I would argue McCain's mother is not a very good indication of his potential longevity as the statistics for the life expectancy of men and women differ. But the polls indicate the public is acting like ADD afflicted adolescents addicted to reality television. If our government is dysfunctional it is because we as a society are dysfunctional.

It was Hitler who said, "How fortunate it is for governments that the people they administer don't think." Considering the source and history we should be deeply and thoughtfully engaged in the supervision of those entrusted with governance.

We will get the government we deserve and that which we deserve will be directly determined by the depth of psychology each individual American brings to the electoral process.

Sarah Palin's Myth of America (Time Magazine)

I've only been reading your site for a few months. I don't even remember now how I found it. I actually think it might have been through survivalblog.com, though.

I've never taken the time to donate until now. When I started reading yesterday, I held my breath, because there are a lot of websites I've been reading who all of a sudden have gotten political - for republicans - and they're off my list now. The disconnect is too great for me to fathom.

So to read YOU saying what I'm feeling is a nice surprise. I'm having a hard time dealing with the hypocrisy in this country. I've written off an uncle, an aunt and two "friends" because they sent me the hypocritical republican bs viral emails. I have no patience with these people anymore. They act like it's a GAME.

I guess I would call myself an independent, but I've been a registered democrat since the republicans went after Bill so unmercifully, and I swore I'd never vote republican again. I have not volunteered for Obama, and I won't. It's simply personal. I absolutely am livid, and I'm afraid I'd come across one of these hypocrits and end up in jail. Not a great headline for him.

I'm also a Christian. So my country, my flag, my patriotism and my religion have been hijacked by these people. The most powerful man in the world, EVER, did not seek to pass laws legislating morality. He did not push his beliefs on anyone else. He was patient. He did not lie. He did not cheat. He had ethics. He had morals. He loved the prostitute as much as he loved his disciples. He fed the poor. "What you do for the least of these, you do for me." We are ALL God's children. ALL of us. My God would be ashamed of the republicans and the way they have lied, cheated, murdered, stolen, and hijacked His words and actions. I imagine He hasn't taken to it too kindly. I've always heard where God walks, the devil is not far away. So maybe we're smack in the middle of a battle between God and the devil. I have no doubt who will win in the end. And that's the only thing that's keeping me sane.

You do have a great grasp of History --- both USSR of A ( see link below ) , & world !! The story from N Roubini , economist , sadly tells of the Socialization of the former (Capitalist ) US of A , NOW the USSR of A !!

For this very sad passing event, I have a future- looking HAIKU :

Beginning, THE END
America Collapsing
Edge of the ABYSS

(Alternative , equally good : EVENT HORIZON , ie A BLACK HOLE !! )

Charles , I fear that we are now entering " Great Depression of 21st Century --- there will be NO ESCAPE ; IT WILL END ---- either as A DEFLATIONARY ( NOW HEADING THERE ) or HYPE- INFLATIONARY ( a la the German WEIMAR ) COLLAPSE ---- our Treasury , GUTLESS NUTs in D C & Both the Bushes & Clinton , have ruined the former US of A !! DR J

Roubini: USSR of A

I'm envious how you turn out such excellent essays day after day. Today's was a cut above.

The crux of the problem has to be the voters who, year after year, vote in these jokers that are taking us all down the tubes. They've suckled too long on the warm milk of big government to now wean themselves off. Anyone talking fiscal restraint and responsibility is quickly a political suicide. What I foresee is total, mass fiscal destruction and, hopefully, a new dawn afterwards.

Today's installment, an over-view of corporate/political theft stretching out some 120 years, enables my 40 y/o and I a welcome perspective. Well done, and thank you.

Sadly, as our national world of lies and betrayals crumbles into dust, I can't help but be of the mind of hastening the process. The identical feelings of frustration felt decades ago as a sniveling bureaucrat trying to cope with rapacious greed, then as now ultimately demands crude, abrupt, even slavish response. What is to be done?

sevenleagueboots

Two well traveled gents enjoyed food and drink at an inn during one of Europe's bloody wars. The conversation drifted to one's philosophy of life. "Its like there are two armies joined always in battle, allegiance change often, and with death, famine, pestilence and natural tragedy comes a giant with seven league boots who rampages the countryside indescrimately killing people. My philosophy is to enjoy life, help my fellow man, and occasionally pitch a pail of grease under the boots."

What is to be done? Short answer: not a damned thing. Long answer:

1. Hope for the best. Expect the worst. Consolidate your economics, get on a cash basis.

Offer help to others, especially those in need. Collaborate toward some usefulness...it's still OK to pitch a bitch, but seek some resolution and avoid spinning your wheels.

2. Get your mitts into the soil, if possible live on the land, distancing you and yours from urban centers. Computers and information systems enable people to now live, work, and prosper remotely, thus breaking the spell of victimhood throughout urban America.

3. Citizen participation/Problem solving. The unwinding of this once great nation now dominated by unchallenged corporate greed, as this sites author reminds us, has been building for quite a while. Pick any issue that you feel is systemic to hogtying and restraining the nation. My favorite is the limit put upon the House of Representatives in 1948, effectively turning it into another Senate.

What is the point? It's this: Every phony piece of legislation ever concocted in our lifetimes can and will be overturned through the will of the people. Do you realize that if only three people, marginally versed in Robert's Rules of Order, were to take an active role of involvement in any township, municipal, county, or even state agenda, within two meetings, THEY would find themselves driving said agendas. It's really that simple.

Remember that the next time some stuffed shirt realtor or developer attempts to ram his pack of crap onto the public. These swine, swindlers, political sell-outs, lobbyist and elite trash have had their way, far too long, pushing the nation's integrity to the brink.

As Thomas Paine correctly observed in 1776, tyranny then as in centuries past, emanates from the Executive branch of governments.

"In England a king hath little more to do than to make war and give away places; which in plain terms, is to impoverish the nation and set it together by the ears. A pretty business indeed for a man to be allowed eight hundred thousand sterling a year for, and worshipped into the bargain! Of more worth is one honest man to society and in the sight of God, than all the crowned ruffians that ever lived."
...Thomas Paine, Common Sense

I've got to call you on this one. The phrase "hold my nose and vote Democratic" is as big a cliche and as a big a cop-out as the phrase "most important election in my liftetime". Be honest now, have you ever voted for a Republican in a general presidential election? I'm guessing not. So don't come out with some pseudo-non-partisan crap about "holding your nose and voting Democratic".

However, I do think you were on the money about 2012 being a much more significant election but for different reasons than you stated. I think there is a widespread conviction that the troubles our country faces are largely due to the "evil" and incompetent Bush administration, and that a new administration (especially a Democratic one) will put us back on the right track and solve these problems. I think by 2012 the realization might set in that Obama or McCain really don't have any answers to our problems - or at least not any answers that the public will be willing to accept. The psychological reaction when that realization sets in is going to be very interesting to watch.

You also didn't mention one additional reason to vote for Obama. If McCain wins, then we are almost certainly looking at President Hillary Clinton in 2012. God help us then.

thanks as always for you Blog,

Well I have to smile at your busting me good :-) I might have voted for Bob Dole just as a protest against the ineffectual Clinton, can't quite recall.... voted for John Anderson in 1980, even gave his campaign money.

There is some truth in my case to holding my nose because my theory is this: if you pay more than $10K in taxes in any one category of taxes, you are sick of the Democrats, who literally never met a tax increase or "revenue enhancement" or new "rights" social spending they didn't like. As a taxpayer I do pay more than $10K in property taxes alone, and I see much of it squandered. I think that inability to demand efficiency and limits in government is the Democrats fatal weakness, and so I do hold my nose.

Here in Calif. (not sure of your locale) we are facing a $15 B shortfall in the state gov't, and the Demos are screaming for tax increases. Yet the state is spending $20B more than it did a mere 6 years ago in 2002. How can the state spend $20B more and literally nothing has improved? Yet they go on and on about the usual 'social spending cuts will be devastating" etc. Was the state a 3rd world country way back in 2002? Of course not. In fact it seemed better run when it spent $20B less. What the Demos refuse to consider is that all that additonal spending got us nothing but fattened pensions and a larger headcount of employees. Locally, all these "junk fees" are loaded on us--city business taxes, fire inspection fees, parking tickets are now $35, just one after another 'revenue enhancements' leaping 50% or more. Yet we get no additional services, so what's happening is the cost of gov't is rising far faster than our incomes or the economy. Until the Demos face that the gov't spending they love so dearly has to match the growth or decline in taxpayer's income and the economy as a whole, then I will hold my nose. Just taxing everyone more isn't going to solve diddly if spending keeps rising even faster. Sorry for the rant, but I think the rule applies: when you pay out more than $10K in any one tax, then you wonder if it's being allocated and spent wisely--and there is ample evidence everywhere that it is not.

wow, what a great synopsis of the diseased American...full of fear, self-loathing, and confusion.....physically, emotionally and mentally challenged. Our "we are the greatest nation on Earth" bravado is now so obviously hollow, and it is manifesting itself in all that festering fear and insecurity, and all the crazy behaviors that go with it.

We know we've been duped, but are so conditioned to it we don't know what reality is anymore. Today it is "fantasy plus fantasy equals reality". We are more vulnerable to terrorist attack, propaganda attack, government attack, you name it, we've labeled a war on it. Are there many "old world" people out there anymore, like the vietnam vet/construction guy? I run into them here and there, I even have a cousin who fits the same description as that man you met.

And the complaints and weariness of it all is wearing at even the most rugged of us. I finally got fed up with my own complaining, and got rid of cable, down-sized most every "treat" (even netflix) got some neighbors together to grow a huge garden in an empty lot, and threw a pot-luck together last weekend. We're going to need to know our neighbors when things start getting real bad, so this was my way to start the process.

What you come to find out about your neighbors is the wealth of talent and knowledge people have, and many assumptions about each other melt away a bit. Plus, you find out what great cooks we all are capable of being! We feasted on fresh corn, tomatoes, summer squashes, peppers, watermelon, cantalope, green beans with almonds, pesto made with homegrown garlic, basil, walnuts, and even home-pressed olive-oil!

We toasted the event with some excellent home-made wine too..Here in beautiful N. CA, fruits and nuts fall on the ground most everywhere you go. You just have to look around and do something about it! Also, since I've been sharing the bounty with these neighbors, I also find out what an abundance of fruit and nut trees there are in just a two block area! This summer has seen bumper crops of nectarines, peaches, apples, figs, etc...

With such healthy abundance around me, I find my whining and complaining going away.... The obesity epidemic is a result of fear, laziness, 24/7 propaganda, and the convienience of junk food, cheap oil, TV and any number of excuses, including bad genes. It falls right into the "victim complex", and is a self-fullfilling, destructive cycle.

Then the snake-oil salesmen come in to prey on the "victim" and yet more layers of self-destruction are set in motion....it's and endless loop! Virtual, except for death, I suppose!.The sick-care doctor/meds/insurance/propaganda/mortuary folks all make their livings on this crap too! And we all pay, whoever you are, fat or not.

Your description of the parallel of our financial self-destruction and our physical/emotional health destruction is "right on the money!" . Amen, brother Charles!

Speaking of religion, the snake-oil church phonies also prey on all the weak. victims out there...Look how Sara Palin is rising to her position. She's part of that religious right that really believes we are headed to the end of times. Lock and load, Amerika....

I think I'll go and dry some apples and figs to enjoy this winter next to my wood stove.

The reasons someone becomes a soldier are varied. At an individual level I would suspect they are little different from those given by warriors from across the planet from now to ages past. One can read “The Seven Military Classics of Ancient China” and see that the art of warfare, harnessing the motivations of men, and empire management has changed very little over the past two millennia.

During my deployment to Iraq. . . .

My new "little book of big ideas," Weblogs & New Media: Marketing in Crisis is now available on amazon.com for $10.99.

"Charles Hugh Smith's Weblogs & New Media: Marketing in Crisis is one of the most important business analyses I have ever read. It is the first to squarely face converging global crises from a business perspective: peak oil, climate change, resource depletion, and the junction of key social cycles will radically alter the business landscape in coming decades...."

An excerpt from Weblogs & New Media: Marketing in Crisis :

10. As supply/demand imbalances in FEW (food, energy, water) and the iron hand of demographics tightens its irreversible stranglehold on government's revenues and entitlement expenses, a global loss of faith in institutions will foster backlash/blowback and social disorder.

Expectations (i.e. our private inner maps of the future), lofted so high by the past 25 years of global expansion, cheap commodities and wealth creation via financial "innovations" (previously known as asset bubbles and debt), will be a powerfully destabilizing force globally.

It is a psychological truism that those with few expectations for betterment tend to persevere and be happy despite low status and income as they view themselves as sacrificing for the future benefit of the family and their children.

But those with high expectations for wealth, status, prestige, leisure and artistic expression find even modest disappointment a bitter gruel indeed. Thus the economic downturn in Hong Kong had little effect on the happiness of the city's many maids, but it exacted a devastating toll on their status/wealth-driven, high-expectation employers.

"This guy is THE leading visionary on reality. He routinely discusses things which no one else has talked about, yet, turn out to be quite relevant months later."
--An anonymous comment about CHS posted on another blog.

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