Friday, March 23, 2018

Mailvox: trade and capital flows

Peter Thiel raised some questions about trade, capital flows, and tariffs at a recent talk at the Economic Club of New York. Specifically, why does capital flow in the opposite direction now than it did in 1900, when slow growing economies like the UK invested in fast growing economies like Russia and Argentina? 
There is something really odd going on in the trade relations… The way you’d expect things to be working in a healthily globalizing world is that capital would flow from the slow growing to the fast growing economies, from the developed to the developing world.  This was the way trade patterns looked in 1900, which was a relatively open, free trade world, where the UK had a current account surplus of 4% of GDP and the capital got exported to invest in Russian railroads or Argentina, or all sorts of other countries that had higher growth rates and promised a higher return on capital.  That’s the way globalization is supposed to look.

Today, it’s quite the opposite, where capital is flowing uphill from China to the US and is the other side of these enormous current account and trade deficits that the United States has. And so, we are exporting $100 billion a year to China, importing $450 billion a year from China. And China, an economy that’s growing at, say, 6.5% a year is investing in an economy that is maybe growing at 3% a year, when the flows should be the other way around.

And so I think that tells you that something is incredibly off. It pushes you to have to ask questions, why it is off?  Why does nobody in China want to buy anything from the US? Why are our goods so undesirable? Or, are there policies that skew things too much towards consumption in the US and more to investment in other places, and should we be rethinking that? Or, are there intellectual property things that are not being enforced? There are a lot of very granular questions that we need to be asking.

Even if free trade is good in theory, and that’s what you want to get to, I think the way you get there is, perhaps, by not being too dogmatic and too doctrinaire.  And if you have people negotiate trade treaties who are doctrinaire about free trade, I always get the sense they won’t do that much work because if you negotiate a good trade treaty, that’s a good thing, and if you negotiate a bad trade treaty that still a good thing because we know that all trade is always good for everybody, in all times, in all places. And so we have to always be careful that free trade orthodoxy not become just a euphemism for the sloppiness or the laziness of the people negotiating these treaties.
Capital chases profit. There is more profit to be made in the US financial sector, which eats up about one-third of all profit in the USA, than there is in the non-financial sectors of other, faster-growing economies. That's my initial thought, anyhow.


  1. Well, yes. But SOME capital chases safety, too.

  2. Return of capital is much more important than return on capital.

  3. What else can China do but invest the usd they make from their exports to the USA back in the us?

  4. Snidely Whiplash wrote:Return of capital is much more important than return on capital.

    Ding ding ding! Just look at what happened to Nokia's investment in Turkey (IIRC), where the courts legitimized the effective theft of their investment, playing obvious national favoritism. Even Chinese have no reason to trust that their Communist government will let them keep what they build if they reinvest at home; I think foreign investors there are rash fools.

  5. Here is anecdotal evidence for another factor: I have a brother in law who is a wheat farmer in western Kansas. He informed me last year there was such a huge harvest that all the graineries were full and wheat was simply piled up on the ground--exposed to the elements--and rotted. Like most large farmers in that area he keeps a close eye out on supply/demand/prices for wheat around the world. He informed me that they could have exported every bit of it to China--but the U.S. government would not give them permission to export. His speculation is that it is an intentional policy on the part of the government to keep food prices low in the U.S.

  6. How much do the rent takers drag down the economy? How do we free ourselves from them?

  7. The Chinese understand that the most important thing, by far, is to capture the production and the supply chains. If you do that then the technology will follow perforce.

    And that is simply all there is to it. The Chinese are playing the long game as they are wont. Give them a twenty year horizon and essentially they will be masters of all industry simply because they concentrated it in China and denuded it from everywhere else that matters. They will have major factories that produce final products, and all the subsidiary factories that support the major factories, and all the engineering firms and design shops and machine tool shops that support both the major and subsidiary factories, and so on.

    The only way you can stop them is by going protectionist hard or by having the local-fab revolution really take off and smash all the old rules of the Victorian organization of the industrial economy.

    Tall orders. Probably won't happen because our leaders are easily bought and sold, and pined-for innovation reliably disappoints.

  8. @5: That seems like an own goal. That let Russia sell all the grain it produces to the rest of the world ...

    Are parts of the US Gov supporting Russia?

  9. I'd guess that
    1. the international financial sector is pretty much entirely the US and UK.
    2. China is still seen as carrying greater regime risk.

    It might also be possible to get multiple layers of arbitrage by taking your money from China and putting it into a financier or company under US law that is investing in manufacturing in China to sell goods back into the USA. You get the consumer prices and security of the USA, with the cost of manufacture of China.

  10. @6 avoid leverage. That's it. People are too scared of missing the Next Big Thing and not scared enough of the cost of finance. It'll improve when interest rates go up again.

    Watch that closely; the economy will move away from debt, toward savings, and normalize the profits of the financial sector, when interest rates go UP and the normies start whining about how much the banks are screwing them. The government will use that bleating as an excuse to subsidize debt, in order to maintain the dominance of the financial sector.

  11. Why does nobody in China want to buy anything from the US? Why are our goods so undesirable?

    Seriously, what do we make that Chinese consumers want?

    1. It was the same with China and brtisn back in the 1800,s. The Brits grand solution back then was to get the Chinese hooked on opium , which they could cheaply supply

  12. Richard wrote:His speculation is that it is an intentional policy on the part of the government to keep food prices low in the U.S.

    That's the way it's been for as long as I can remember. Any farmer will tell you the absolute best they can do without subsidy is break even. That's why HFCS is so cheap they add it to almost everything, and why of all countries in the world Americans spend the smallest percentage of the family budget on food.

    I'm not sure its a bad policy, necessarily. A country that overproduces food is in a much stronger security position than an importer.

  13. A better question might be, "What do we make that Chinese consumers can't get cheaper counterfeit knockoffs of?"

  14. That was for @11 Sidehill Dodger.

  15. Half of China's money would leave overnight if they could. Japan's Bubble Economy of the late 1980s looks quaint compared to what is happening in China.

    @5 Richard

    Manipulating the price of Wheat against China is a policy the USA has undertaken for at least 80 years. Same thing with Oil. However, the good harvest didn't drive prices inside the USA down in the process. That's how they manipulate the entire thing.

    @11 Sidehill Dodger

    Food. Lots of food. China is a massive net calorie importer.

  16. China's capital is heading to other countries, of which the US is the largest, because the wealthy don't trust the system in China. Since China has a long history of periodic collapses, they are playing it safe...

  17. Leaving the gold standard is the difference between 1900 and now. Gold can go anywhere, but American dollars eventually have to go back to America.

  18. @16 pyrrhus

    It's not Trust; it's Value.

    Without getting too far into the weeds here, China's currency, relative to the US Dollar, is between 30-80% Overvalued.

    USD/CHN sits at 6.31 to close the week. Given trade balances, it should be between 9 to 12. That is, 1 US Dollar would buy 9 Chinese Yuan. That's a pretty sizable imbalance that China is running: Why and what purpose does it solve?

    It all starts with Raw Materials. All of it is denominated in USD. Normalization of exchange rates would slaughter the balance books of all Chinese manufacturers. China is basically an Input/Output system, which means they have to corner as many markets for production as possible. The exchange rate is a monster subsidy for the producers.

    Next is Food. Food is denominated in USD. Who has to import massive amounts of food, to keep the people from starving? Why, China. The exchange rate acts as a massive subsidy for the normal Chinese.

    Last big one, Oil is denominated in USD. Who's the world's largest importer of Oil & Petroleum Products? Why, China. Keeping the exchange rate overvalued is a massive subsidy to the normal population & manufacturing companies.

    Reality is that any actual normalization of the Exchange Rate collapses China's government in months, if not weeks. All of the Purchasing Power Parity calculations for China make it seem huge, but it's closer to being slightly bigger than India's economy than larger then the USA's. That's why China has absolutely massive capital controls, with everyone finding every loop hole imaginable to get money out of China.

    It's not a lack of faith in China that's moving the money out of China. It's that it's all just financial engineering games. It's the exact same thing that happened in Japan in the 80s & SE Asia in the 90s. The issue is that normalization means collapse of the Communist Party, so China will kick every can down the road to prevent that.

    China peaked in probably 2011. Quality of Life can still improve for a huge amount of people, but the high-end has hit a massive ceiling because they have a debt load that would make Citibank blush. That's why preventing them from acquiring important pieces is very important. This is the time of "piper" that has to be paid, eventually. If Oil prices ride up again, expect China to have a huge collection of problems. (It's not like that didn't ban all Short Selling on their stock markets last year.)

  19. @17 grendel

    Gold Standard had nothing to do with it. It was the creation of the Federal Reverse. Central Banking is evil.

  20. The flow is in part to buy our traitorous politicians and media, and with the hysteria directed at hapless Russia they do a good job of misdirection in the drive to turn us into a Chinese run farm/whorehouse.

  21. Sundance at CTH frames this as the result of the deliberate exfiltration of US wealth through market/policy manipulation by global entities masquerading as market competitors.

    The fundamental weirdness noted in this piece seems consistent with a controlled system.

  22. I had 20 years managing money in the hedge fund world, and I'd say your boys got it right Vox. Capital follows 'risk adjusted return', not just return. Once you take on the currency risk of investing offshore, you put your faith in the surety and stability property rights and the rule of law in some places that don't show a particularly good history on those scores. Whatever the state of the US economy as compared to years ago, it is still a big, safe, globally stable place with lots of people deeply invested in maintaining the status quo. And with all financial markets inevitably being controlled from the top by the US Federal reserve, the risks offshore are only worth it as a hedge.

  23. Looking Glass wrote:Central Banking is evil.

    Yes, my thoughts on this went directly to Central Banking being the primary root cause. All the imbalances and distortions result from this. The financial sector dominating the U.S., etc. ad nauseum.

    The imbalances just build and build, like pressure in tectonic plates. (Building brush and dead wood in a forest is another apt metaphor.)

    When the inevitable dislocations happen and all then pent up energy is released it's going to be epic.

  24. The answer is corruption.
    These "fast-growing" economies are all corrupt, branch and root, and the people at the top in places like China know it to be the case.
    They've spent upwards of 40 trillion building empty cities nobody lives in, using the force of totalitarian government to prevent corrections to this point.

    Economic forces outweigh government power, so sooner or later it will all come crashing to earth, at least from a foreign investor point of view, but until it does, we see the people at the top, who know exactly how fictitious it is, moving as much of their fraudulently-fabricated capital into REAL assets as they possibly can.

  25. @23 Tom

    It's not just the Risk-Adjusted issue. When a currency is overvalued relative to the USD, there's always a rush to move money out of that currency by the big players. They're getting a better return than pretty much anything they could invest in.

    Other related issue, when currencies are overvalued against the Dollar, the home land tends to rapidly accumulate massive amounts of Debt. Quite a lot of it to buy things in foreign countries. It's a Win-Win for the borrower; Lose-Lose for the Bank & local Economy.

    This issue is part of why Trump can play so "nice" with Xi. Trump isn't beholden to China, the EU or the Deep State, thus he has China by the balls and both know it. One ping only.

    @22 Uncle John's Band

    Sundance is correct, but even he keeps it fairly simple. Each commodity and product type has a Multi-National and Global Bank attached to it. It's a spider's web of connections that even the specific companies involved don't all understand.

    @24 Duke Norfolk

    That's actually the one thing I should probably mention: they've found ways to prevent the natural collapse. Japan was the first to take the dive in that direction, and it's been at least a decade. You suck the economy dry of growth to do it, but it makes the "books" look correct & no one can explain why.

    It's brutal & evil, but what do you expect from Bankers?

  26. It's also the pro consumption policies. East Asia has pro production policies. Neither is best, but it does create distortion. Unlike all other nations, China also refused to let their currency rise. They ran a massive inflation scheme to do it, which fueled their export oriented growth. If you obtained a dollar you got 8.28 Yuan from the bank, but this was more than you'd earn selling the same thing domestically. Imagine if most everything you bought was made in USA, but you could sell a $1 or €1 widget to Europe for $3 because the govt buys Euros for $3.

  27. Prima facie, the big difference beteeen 1900 and now is labor mobility.

  28. Also information technology, i.e. computers and the internet. But I expect the reversal of capital flow occurred before those became widespread.

  29. One of the things that is interesting to watch where I live are the efforts of venture capitalists from the West scouring various nooks and crannies across the world, including the one I live in, looking for someplace to park their money.

    But...once they see that the chances of getting that money back are minimal because of endemic corruption they usually end up shrugging their shoulders and going back to markets that are at least reliable.

    "Fantastic profit potential" does little good if you cannot get your profits out eventually.

  30. Sidehill Dodger wrote:what do we make that Chinese consumers want?
    A possible hint:  China is crucially important for Volkswagen; there is no other region where the brand sells more vehicles. Last year, Volkswagen handed 3.2 million vehicles over to customers in China, reaching a market share of more than 13%.

    Looking Glass wrote:If Oil prices ride up again, expect China to have a huge collection of problems.
    I'm expecting a crash starting around 2023, based on a development coming out of left field.  What happens in between is going to be driven by the US shale boom and that doesn't seem to be going away in the short term.

  31. A parallel phenomenon worth noting is that, at approximately the same time, typical sexual relations between the races shifted from white males impregnating black females to the reverse.

  32. @31 Pale Male

    A rapid spike in Oil would send China into a financial crisis within weeks, however there isn't anything on the deck for a while. Global production is good and demand isn't really rising that fast. Though we probably make $80USD per barrel in the next 18 months or so. Shale Oil companies would love that sweet, sweet profit margin.

  33. It isn't just capital leaving China. It's also people. It may not be as apparent in America given its large domestic population. But in Canada, Chinese immigration is overwhelming.

    The Chinese are already dominating the education system in Canada and will soon become the elite overlords of the country.

    Whites will be cleaning their toilets and mowing their lawns.

  34. A rapid spike in Oil would send China into a financial crisis within weeks

    A dollar spike is needed and it has to go to at least 120 on the DXY. Rising oil prices are inflationary for global growth and as the largest inflator, China would like nothing more than higher inflation. Sink oil to $10 and its deflationary depression time, and the largest inflator goes pop.

  35. @7 The local fab revolution fits the US style very well and is what I am betting on as the US' go to move. Take a look at HDTV. Japan's 40 years of investment in analog HDTV was rendered useless with 2 years rush into digital HDTV by a US consortium (which asked for government money but was turned down by GHW Bush in one of his wiser moments).

    To make that happen, the US has to get its regulatory environment much less sclerotic. Oh, look at what Trump's doing on that front...

    @8 the US government's first foreign policy priority should be to ensure that the world is not ticked off enough at the US to create a true and durable balancing coalition to take us out of our position of military hegemony. That never works out well for the former hegemon.

    We end up giving other powers breathing room every day of the year on that basis. It's why we never lowered the boom on the EU NATO states skimping on defense, for example even as we pro forma complained about it for decades. That's a game that can be taken too far and Trump's reining it in on certain fronts (see NATO spending) for exactly that reason. The underlying logic remains sound and Trump's going to continue to make sure that our frenemies never feel so desperately cornered that they more seriously go after the USA.

    That would be very expensive for us.

    @10 You're right but you're underplaying the difficulty. It's a rough road to get to normal finance. See:

    @11 In a country where it is a status symbol to rent out a few white people for decoration at a party, the idea that US goods hold no appeal seems a bit dubious. Looking at the statistics, they like our commodities (they like everybody's commodities) but also our passenger aircraft, passenger vehicles, and electronics.

    @12 the US subsidizes food producers, not consumers. That means that we intervene in the markets to raise prices. We just do it less than the EU. Without getting the subsidy direction right, you'll always come to bad conclusions about US food policy.

    @18 Where's Goerge Soros when you need him? Seriously, if you are correct, it should be possible to break the yuan the way Soros broke the pound, yet I never see any serious analysis of what it would take to do that.

  36. China manipulates their currency to deliberately get the result they want.


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