Jude Wanniski
May 27, 1997


Memo To: Pat Buchanan
From: Jude Wanniski
Re: Your Economics

I watched you Sunday on the talk shows and found that you continue to denounce China for running a trade surplus with the United States and using the surplus to do terrible things in Asia, like selling chemicals to Pakistan and missiles to Iran. You are absolutely wrong on the facts and on the economics, Pat. I'm not arguing with your opposition to MFN, although I disagree with it. I'm only saying the economic arguments you are using are totally wrong, and I say this as an old friend and admirer. I'm every bit as interested in having China continue to move in the direction of democratic capitalism, as it has for the past 20 years, but I spend a lot of time getting my facts in order.

1. There is a sizeable U.S. "merchandise trade deficit" with mainland China, but the net dollars they receive by selling us more stuff than they buy from us is wholly consumed by their acquisition of U.S. Treasury bonds. They now hold about $125 billion of our debt instruments as monetary reserves, which they have been accumulating as a bulwark against potential financial turbulence as they move toward a convertible currency. Beijing's appetite for dollar bonds is not unlimited. It only needs so much insurance against financial distress. This is why we should expect it to soon begin running a trade balance or even a trade deficit with the U.S. Remember, it is not possible for China to sell things for our dollars without using them to buy something in dollars. There is a basic misunderstanding in your model of the way global trade works if you think it is possible for us to buy things from them without selling things to them, or at least to third parties who in turn sell to China Hong Kong and Singapore being the clearest examples.

2. You are wrong if you think denial of MFN to China will cause an improvement in the lives of ordinary Americans, whose living standards and real wages have been falling for the past 30 years. John McLaughlin said his vote would be with Mort Zuckerman on our national economy being on the rise, although he said his sympathies are with you. My sympathies are also with you. But the solution to falling real wages in the United States is not to cause prices of imports to rise, which only result in declines in real wages. Real wages can only rise here if in the mix of capital and labor, capital rises faster than labor. Some of that is happening because Greenspan and the Fed have been keeping the price of gold at near $350 for the past decade instead of permitting it to spiral up. The best thing that could happen for Joe Sixpack in addition would be a 50% exclusion on capital gains and retroactive indexation of capgains. The connection is not obvious, which is why the liberals insist that only the rich benefit. It should be clear that when you increase the reward to capital, more capital will appear, which is what causes the increased demand for Joe Sixpack's labor.

3. There is no MFN solution to the problem of low real wages among ordinary Americans. There would only be a narrowing of income disparities here if there were a general U.S. tariff increase. In the extreme, if we put tariff walls up so high that nobody could afford imported goods of any kind, there would be a dramatic increase in the need to produce low-income goods here, but a dramatic decline in the demand for high value-added U.S. good and services. Foreigners could not afford our high tech innovations, our banking facilities, our higher education, travel to the U.S., or our government bonds. Real wages at the high end of our population would fall and so would real wages at the bottom, but the top would fall faster, thereby converging incomes. To simply withdraw MFN from China and no other country would only wreck the web of financial arrangements of the companies and banks that are now trading with MFN. It would effectively close Chinese goods out of our market, but in the wreckage there would be new arrangements established with third countries. Because financial markets would be forced to discount the period of wreckage, nothing good would happen to any of the people you worry about, even for a minute.

4. In your presidential campaign last year, you no doubt remember that I gave you a modicum of intellectual support for your idea of modestly raising tariffs and at the same time cutting income-tax and capgains in the U.S. Not that I advocated the idea, only that I was willing to tell journalists who asked, that your plan would not damage the economy. Pulling MFN from China would cause damage.