Irwin Stelzer: Dollar decline forcing debt showdown with China

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Irwin Stelzer

Americans should be hoping that the Chinese will be kinder to us than we were to the Brits after World War II.

They had spent themselves close to broke fighting Hitler, and asked us for a loan. We set loan conditions so arduous that sterling lost its role as a world currency, damaging the U.K. economy. Debtors don't have much negotiating power.

Fast forward to today, and the plunging dollar. The Obama administration may mouth support for a strong dollar, but traders know better. In the short run, the White House hopes that a combination of protectionism and a cheap dollar will reduce the flow of imports and increase the volume of exports. That will create jobs "right here in America" as the Wal-Marts of the country switch to domestic suppliers.

In the longer run, the administration knows that it will somehow have to repay the massive additional debts it will incur as it throws another trillion at health care "reform," and prepares to burden the energy economy with billions, or even trillions, in new costs in order to satisfy the green lobby.

Of course, it could take a lesson from Argentina, which defaulted on its debts eight years ago and nevertheless is back in the market, borrowing money from lenders eager to increase their returns and afflicted with memory loss. P.T. Barnum, the great circus impresario, said, "There's a sucker born every minute," although it is not certain that he had international bankers in mind.

But default is unbecoming a great power, much less one that hopes to maintain the dollar as a reserve currency. If indeed American any longer does. The administration's critics, among them Pulitzer Prize winning commentator Charles Krauthammer believe the president wants to make America less of a hegemon and more of an ordinary nation, much like others in the international organizations of which the president is so fond.

That effort includes an increase in the U.S. contribution to the International Monetary Fund's ability to issue drawing rights, which the Russian, Chinese and other regimes hostile to America want to see replace the dollar as the currency in which the world does business.

But even the Chinese do not see the dollar's role being so diminished in the near- or medium-term future. Instead, they see themselves in the position that America was in vis-a-vis Britain in 1946.

America is deeply in debt, and digging itself deeper into debt every day. The Chinese, America's principal creditor, are worried that Obama and his successors will attempt to pay back the $1 trillion-plus we owe China in wildly depreciated dollars. So it wants to see some plan coming out of the White House that will begin to reduce the deficit.

No such plan exists. Obama intends to keep the spending taps wide open, while doing what he can to appease his Chinese creditors. So it should be no surprise that Obama is the first president to refuse to receive the Dali Lama. Or that America no longer presses the Chinese regime on human rights issues.

Unless there is a major change in U.S. economic policy, and soon, a Treasury team will head to Beijing to persuade the Chinese not to call in all of their IOUs. The Chinese are likely to insist on terms that would sap our economic, and therefore military strength for years to come.

Exaggeration? Perhaps. Unless the great, resilient American economy once again offsets the mistakes of its masters by growing our way out of the problem.

Retail sales are looking rather good -- up somewhere between 2 percent and 3 percent at an annual rate in the third quarter. Banks are coming to the end of a period of massive write-downs, even though billions in consumer and commercial property loans remain to be written off.

Corporations are sitting on piles of cash, waiting to be spent if the uptick in consumer spending proves durable. Banks are again lending to developers of commercial properties, and house prices seem to be somewhere between stable and rising, although the risk that the patient will have a relapse is not trivial.

Add to renewed growth the stated willingness of the Fed to head off inflation, and Chairman Ben Bernanke's credibility, and we might not find ourselves in the position Britain was in after the Second World War.

Indeed, the Chinese might be so dependent on access to our markets to keep their economy growing, and their masses from revolting, that power will lie on our side of the bargaining table.

Examiner Columnist Irwin M. Stelzer is a senior fellow and director of the Hudson Institute's Center for Economic Studies.

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