Impacts of East Asian Large-Scale Trade Surplus

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Impacts of East Asian Large-Scale Trade Surplus
Eco 3370 PPP2

• J.D. Han

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Idea

• Under the gold standard system, where the amount
  of bullion is fixed in the short-run, a country
  (A)with trade surplus gets inflation, and a
  country(B) with trade deficits gets deflation.
  Thus, As exports falls and Bs exports rises. A
  and B will go back to trade balance.
• Under the current international monetary
  system(U.S. dollars as the Key currency Fixed
  FOREX system with Sterilization Policy) and , A
  can have trade surplus with B running trade
  deficits almost indefinitely.

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Historically

• In the Late 18th Century
• -U.K. had a big trade surplus with the world
• -Non deflationary to other countries
• as U.K. invested surplus funds in the world

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• 1870-1890s
• The newly developing U.S. and Germany had a huge
  surplus
• They were highly deflationary to the rest of the
  world as surplus was used for domestic investment

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China in the 18-19th Century

• China had a huge trade surplus with European
  countries.
• It was deflationary as a very little fund from
  trade surplus went back to the world.

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Post World War II

• No longer Species currency system
• Change into the Key Currency System

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1970s and 1980s

• Japan had a huge Trade Surplus with U.S.
• Somewhat deflationary
• U.S. could still run deficits and print liquidity

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Eventually, Japan

• Developed
• Conflicted Virtue by Ronald McKinnon
• - with anticipated appreciation of Yen, the
  domestic interested fell to zero.
• Why? In Portfolio substitution theories, i us
  i japan with no risks. But with risk i us i
  Japan positive risk premium, i Japan is driven
  to zero.

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China after 1995

• China has become the factory for U.S.
• China sends Capital back to U.S.

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Key Issues of Current International Financial
Flows between East Asia and U.S.

• How did it start? By nature or by design?
• - J.D. Hans short paper on the
  historical perspective of the U.S. Supply Chain
  in East Asia
• 2) Domestic Macroeconomic Conditions dictates
  the capital flows
• - U.S. domestic macroeconomic conditions (
  relatively Strong Domestic Investment) dictates
  U.S. trade deficits and China and East Asian (
  relatively Weak Domestic Investment) happens to
  be the best fitting partner
• - FOREX issues are red herring
• Next Powerpoint
• 3) Still there are some Expected Problems
• -Ronald McKinnons paper on the Conflicted Virtue
  of China
• 4) Impact of Current World Recession
• - Erturks Paper on the Changed U.S.
  Absorption Capacity of Chinese Capital

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Conflicted Virtue

• The current international division of labor
  between China and U.S. has worked on the premise
  that the Chinese do not fully trust the Chinese
  currency (or investment in China) Domestic
  investment or holding Yuan is an imperfect
  substitute for investment in U.S. dollars.
• There is a danger of Conflicted Virtue as the
  stability of the Yuan currency increases
• If C.V. happens, then there will be
  Liquidity Trap in China -gt Monetary policy would
  not work.