Chinese take-away

Washington's $700 billion plan to salvage what remains of the US financial system is as much about Main Street, Beijing as Main Street, USA. China holds over $1 trillion in US debt and is bound to play a major role in any bailout effort.

Think of it as a giant Chinese take-away with more courses than you can possibly eat – and more dollars than you can possibly make sense of.

 

According to the Brookings institution, foreigners hold more than $14 trillion in US assets, bigger than the entire US national output. US Treasury securities – that is, government “IOU”s – account for $2.5 trillion of that total.

 

And if you bear with me just a little longer, and follow me down this statistical trail, we see that China holds the lion’s share of this foreign-held US debt portfolio. As of July 2008, mainland China held $518.7 billion in US Treasury bonds, more than half of its estimated $1.2 trillion in reserve assets.

 

So why am I wasting my time telling you all this?

 

The point is that foreigners – and China in particular, though also emerging markets in Mexico, Brazil and Russia as well as oil-rich states in the Middle East – are going to play a yeoman’s role in financing this bailout.

 

The Wall Street Journal goes so far as to say that the “success of the pending rescue of the US financial system probably depends as much on the central banks of China and the Middle East as on Congress and the Federal Reserve.”

 

In other words, it’s not just Main Street, USA that’s going to shoulder the costs of this bailout – but also Main Street, Beijing. Or Main Street, Moscow.

 

That is why the US needs to seriously woo the Chinese, Russians, Mexicans, Brazil and others if it hopes to pull off this rescue without a hitch.

 

As the Journal notes, the Fed and Treasury’s sales pitch on the bailout plan is aimed almost as much at China as at Congress and the American public, and at persuading them that the US economy is not about to implode.

 

So far, no one really seems to fear such a prospect – though there are signs of growing skittishness to invest in American financial institutions.

 

Kenneth Rogoff, a Harvard economist, recently wrote about the “extraordinary” resiliency of the dollar in the face of a “once-in-a-lifetime financial crisis. If the US were an emerging market country, its exchange rate would be plummeting and interest rates on government debt would be soaring. Instead, the dollar has actually strengthened modestly, while interest rates on three-month US Treasury Bills have now reached 64-year lows. It’s almost as if the more the US messes up, the more the world loves it.”

 

But this tough love could prove very short-lived if the bailout goes awry, especially because the credit contagion spreads quickly to other sectors of the economy as many analysts say it’s already doing.

 

Whatever happens, the financial balance of power in the world is undergoing a realignment as the US model of high-risk capitalism tries to cover its exposed flank. At this week’s Economic Forum in Tianjin, touted as the Chinese “Davos”, Chinese participants are making many of the Western business and financial leaders in attendance eat humble pie. In other words, they are turning tables and suggesting that the US is no longer in a position to give anyone economic lessons.

 

And suddenly, Washington’s power elite find themselves cast in the role of global supplicant. According to the WSJ, the Treasury is even planning a sort of "road show" for its bailout to bring the skeptics - the Chinese among them - around.

 

The German Finance Minister, Peer Steinbrueck, was blunt last week when he said that the US is poised to lose its superpower status in the world financial system.

 

The Chinese take-away from the Wall Street kitchen is about to move to the next course – and there are bound to be more guests around the table.