TOKYO – Can Larry Summers save Washington from itself on China?
Granted, the last six years make it hard to remember what a “normal” Sino-US relationship looks like. First came Donald Trump’s trade war, and a failed one at that. Then came current President Joe Biden’s moves to delist Chinese companies trading in New York and impose sweeping curbs on the sale of semiconductors.
Yet as Republicans prepare to control the House of Representatives and make anti-China rhetoric great again, Summers is offering timely, good advice on the best way forward for Washington.
“If we change our focus from building ourselves up to tearing China down, I think we will be making a very risky and very unfortunate choice,” ex-US Treasury secretary Summers told Bloomberg.
Obvious, perhaps. And yet it’s a welcome dose of realpolitik ahead of what’s sure to be a raucous two years of political mudslinging and Republican-led investigations. One early target is sure to be the origins of Covid-19 and why Chinese leader Xi Jinping didn’t warn the world what was coming.
A valid question, of course. But with Republican Kevin McCarthy holding the gavel and firebrands like Republican Marjorie Taylor Green and Republican Jim Jordan calling the shots, Sino-US relations are in a dangerous place.
The good news is that Biden and Xi appear to be putting their relationship on a saner path.
Economist Dan Wang at Gavekal Research argues that “the downward spiral in US-China relations has paused following a meeting between Xi Jinping and Joe Biden at the G20 summit.”
Domestic political trends on both sides, he says, suggest the tone of relations will be more constructive in coming months, at least relative to recent, low expectations. But for how long?
The Summers critique is worth heeding because of when he served as Treasury chief from 1999 to 2001, the waning days of Bill Clinton’s presidency. Through the 1990s, Summers was deputy secretary as a uniquely hopeful moment of Sino-US relations.
Whereas Xi has sought to reaffirm the state sector’s standing, Clinton’s then-sparring partner in Beijing, president Jiang Zemin, was shaking up China Inc and paving the way for a vibrant private sector.
In 1997, Jiang even did a live news conference in Beijing with Clinton, something unthinkable in Xi’s China. There, both leaders debated the competing merits of the “Beijing Consensus” and “Washington consensus” approaches to economics and market opening. The relationship, at the time, seemed to be settling into something approaching “normal.”
Fast forward 25 years later, Summers now argues that Biden’s best option is less tightening the screws on China and more loosening the constraints on America’s animal spirits. To some extent, Biden gets this.
Soon after taking office in January 2021, Biden pledged to spend big on new research and development to ensure the US tech industry regains momentum – US$300 billion to start. It marked a giant pivot away from the Trump era, which disrupted the global trade system but neglected domestic capacity building.
The contrast is stark. Trump’s massive $1.8 trillion in 2017 did little to incentivize investments in semiconductors, innovation and productivity–enhancing technologies that might now be curbing inflation pressures and raising productivity. The bonanza, which did more to tax work than capital, added incentives to move US jobs overseas.
Biden’s impetus was the flip side of Trumpism: taking on China means building economic muscle at home.
Surely, Biden and Treasury Secretary Janet Yellen could have done more to raise America’s innovative game. Congress, though, has complicated Biden’s plans to take on China’s ginormous multi-trillion-dollar effort to make China the leading power in aerospace, 5G, electric vehicles, robotics, semiconductors, artificial intelligence and renewable energy.
As Nobel laureate Joseph Stiglitz, an economist at Columbia University, puts it: “The US might know how to make the world’s best bombers and missile systems, but they will not help us here.”
Stiglitz adds that the “West must once again make our economic, social, and political systems the envy of the world. In the US, that starts with reducing gun violence, improving environmental regulations, combating inequality and racism, and protecting women’s reproductive rights. Until we have proven ourselves worthy to lead, we cannot expect others to march to our drum.”
In Stiglitz’s view, that means “we must offer concrete help to developing and emerging-market countries, starting with a waiver on all Covid-related intellectual property so that they can produce vaccines and treatments for themselves.”
Summers, who worked with Stiglitz during Clinton’s 1993-2001 presidency, also thinks the broader signals the Biden White House sends China matter, too.
“We need to be very careful about giving China the sense that we are trying to change the traditional ‘One China’ policy,” said Summers, who is now a Harvard University professor. “Because I think that could risk disastrous conflict.”
Here, the planned visit by US Vice President Kamala Harris to a Philippine province facing the disputed South China Sea seems an unnecessary provocation. It’s not like newish Philippine President Ferdinand Marcos Jr feels imperiled by Beijing. Biden’s team is poking Xi’s government with little chance of upside gain.
Here, too, the US Federal Reserve’s rate hike cycle runs at cross-purposes with the Summers take. The more the Jerome Powell-led Fed hits the monetary brakes, the more it impedes the process of Washington rebuilding muscle.
The inflation Powell is scrambling to contain is supply-side and geopolitically driven and thus mainly beyond his Fed’s control. Yet had the Fed put a tightening move or two on the scoreboard in late 2021, it might’ve tamed inflation expectations earlier. Now, as it plays catch up, its rate hikes are weakening lawmakers’ courage to recalibrate US dynamics.
With inflation near 8% year-on-year, the Powell Fed should be dusting off the Paul Volcker playbook. The reference here is to Fed chairman Volcker’s 1979 to 1987, when he both waged an eight-year war against inflation and prodded lawmakers to do their jobs and enact bold structural reforms.
Unlike Powell, who bowed to Trump’s demands and cut rates, Volcker tuned out the political noise and hiked borrowing costs rates as high as 20%. As Yale University’s Stephen Roach, an old Asia hand, puts it: “Powell’s Volcker deficit” is a clear and present danger to the global economy. “It is delusional,” Roach says, “to think that today’s wildly accommodative monetary policy can solve the worst inflation problem in a generation.”
It’s delusional, too, that Washington thinks it can get by not boosting productivity. The good news, says economist Josh Pokrzywinski at Morgan Stanley Research, is that this shift is driving historic investments in services and technologies that can mitigate the effects of inflation.
That’s a plus for companies focused on increasing productivity. As chieftains put more capital toward shoring up their profit margins, Pokrzywinski notes, there are opportunities in technologies that increase productivity, particularly in automation and digitization where barriers to entry are high.
“With infrastructure now at the forefront of the political landscape and the cost of labor and capital on the rise, corporate investments are likely to pivot toward productivity enhancement and technologies that can lower the cost of doing business,” Pokrzywinski says. “We believe companies that provide innovative and cost-effective solutions will see heightened demand and greater competitive advantages in their respective industries.”
Until recently, sadly, the Biden administration has left inflation-fighting to Powell’s team. Structural reform would achieve far more. The risk, though, is that the Biden White House appears to think its job is done.
In an October 21 speech, Yellen said the Biden administration’s investments in semiconductors and clean energy to date will boost sluggish productivity and the labor force growth. “With an economy at full employment, I argued that now is the right time for a supply-side expansion that increases our productive capacity and reduces inequality.”
Yellen said that legislation offered by Biden’s White House represents “among the most meaningful investments we’ve ever made in our economic strength.” Yet, in the same speech, Yellen suggested that the problem is much bigger than what Biden is proposing.
Weak productivity, Yellen says, reflects a failure to invest public money in science and technology. US federal research and development spending has fallen to a third of 1960s levels. The domestic share of semiconductor manufacturing plunged to 12% from 37% over the last three decades.
“Our government’s failure to invest in innovation has had wide-ranging impacts on our long-term economic well-being,” she says.
Here, economists agree that Biden’s success in spurring domestic manufacturing of semiconductors matters. So does the so-called Inflation Reduction Act, which vastly increased investment in clean energy technology. Yet the US has only just begun to raise its productivity game.
“Ultimately, you need innovation to enable workers to produce more with less,” says economist Adam Schickling at Vanguard Insights. “Expecting more from workers without technological innovation is not usually a sustainable productivity model.”
The plot thickens when one considers the historic tightness of labor markets, particularly in the US leisure and hospitality industry. “Companies that want to continue to operate at full capacity under these conditions may be well served by an investment in productivity-boosting technologies,” Schickling says.
Yet as Republicans plot strategy for the months ahead, presumed House Speaker McCarthy vows to form a select committee on China, accusing Biden of being weak toward Xi’s government.
“China is the No 1 country when it comes to intellectual property theft,” he told Fox News. “We will put a stop to this and no longer allow the administration to sit back and let China do what they are doing to America.”
This makes the Summers critique that the US needs to get in shape – both innovatively and financially – a timely one. On the bright side, there are some indications that America’s biggest companies are indeed upping investments. The nation’s top corporate powers just reported a record sum of capital expenditures on buildings, technology and new machinery.
S&P Dow Jones Indices finds that S&P 500 companies spent $222 billion on capital investments in the July-September quarter. In the previous quarter, Capex spending was $197 billion. “We can debate whether or not we are going into a recession, but there is no recession in corporate earnings,” says analyst Howard Silverblatt at S&P Dow Jones. “Cash flow is still there.”
The catch, of course, is that the more the Fed hikes rates and pushes the US toward recession, the less executives might be willing to invest in productivity-enhancing innovations that tame inflation.
Another dose of possible good news: Summers is “encouraged by what I saw” at the recent summit with Biden and Xi, which suggested “constructive movement” in relations.
The wisest approach, Summers argues, is to “stand up for some of our fundamental interests in security and fair economic competition, but to leave it at that point. I think, ultimately, we will prevail in this broad contest with China.”
Follow William Pesek on Twitter at @WilliamPesek