Behind President Obama’s Warning of “Double Dip” Danger

Today, in an interview with Fox News in Beijing, President Obama warned that “the US economy could head into a ‘double-dip recession’ unless urgent steps were taken to rein back America’s mounting level of public debt,” reported the Financial Times. Speculation about a double dipping, also known as W shape economy, has been on going among academics ever since the US economy showed signs of recovery. I have long been argued that there will be a U shape recovery- a sluggish recovery but not another recession- and 2010 will be an adjustment period where real recovery will occur closer toward the end of 2010. 

At the moment, the effects of the fiscal stimulus will soon phase out at the end of this year and will probably finish by early next year barring any additional stimulus. Thus, 2010 means to be a deciding year for the shape of the U.S. economy, depending mostly either on the economy’s ability to recover on its own by increasing productivity and producing new jobs or on further government intervention to artificially boost the economy once again. I suspect both of these factors must occur concurrently for a stronger and real recovery to happen.

Let us set aside the first factor of self-recovering economy. Instead, let’s think about potential government intervention for a moment. Given the U.S. on-going commitment in the Middle East, namely Afganistan, Iraq and recently Iran, as well as the newly proposed health reform, the Obama administration has less latitude to ask Congress for another major stimulus package. This is not to mention the moral hazard issue posed by this approach. One of the remaining options is to stimulate the U.S. economy by increased trade volume, hence devaluation of the U.S. dollars.

In his recent interview with NBC news, president Obama asserts: “If we just boosted our share of exports by 1 per cent, that might be 250,000 well-paying jobs in the United States.” “So export promotion would be an example of something we could do without spending money,” quoted the Financial Times.

One major problem of this strategy is that the U.S. largest trade partner who currently benefits from enormous trade surplus with the U.S. is China. In response to the depreciation of the dollar against other major currency, Chinese government immediately pegged the yuan to U.S. dollar causing the yuan to depreciate even further than its artificial rate. The new peg effectively deflects the U.S. effort to stimulate U.S. trade volume with China. There is, indeed, an urgent need for President Obama to pay Asia a visit to prevent further distortion behavior from the Chinese exchange regime.

I found China’s new tactical complaint that “low US interest rate were fuelling a new global asset bubble based on the carry trade in US dollars” disturbing. In order to keep the dollar value low, interest rate must remain low. Economically, the devaluation of the dollar has two major negative impacts on China: increased trade pressure and decreased value of Chinese dollar reserve. Being the largest foreign holder of U.S. treasury bonds with roughly $800b on its books, China is seeing the value of its dollar assets depreciate with the dollar. Nevertheless, how could a government, which consistently devaluates its currency to earn comparative advantages on global trade criticizes the exact behavior done by its major trade partner? How about Chinese government allowing the yuan to adjust to its real value by floating its currency first?

 

Dani Rodrik was right that global protectionism was held back this during the 2008-2009 recession, but it is making a come back leading by China, the U.S. and is slightly followed by the rest of Asia. Unless we see better economic recovery and proper governing effort on trade protectionism, Europe and the rest of the world will soon join the league.

To add more complexity to the US- China diplomatic environment over trade issues, did you know that China exchange regime may in fact complies with the IMF Articles and the relevant provisions of the WTO?

On a separate and more positive note: U.C. Hastings was rated 11^th in the nation based on Super Lawyer Magazine’s new ranking. The Wall Street Journal Law Blog posted about the new ranking system here.

--Images by the Wall Street Journal (Balancing Act) and the Financial Times (Chinese Renminbi).

Comments

[Joe]

I find it interesting that Obama would be so concerned over public debt when he initiated billions of dollars in bailouts to the big corporations that needed them. Where is the loan money coming from? Aren't we just borrowing it from the future to feed the present?

[ed hardy]

Great, I have to follow your blog, Thank you so much for post.

[Christine Ngo]

Hi Joe,

Did you forget the the first round of the stimulus package was largely misused by the Bush Administration? The stimulus was necessary given the scale of the last recession; although, you were right- we did borrow it against our future. I expect income tax will soon be raised.

I thought of your comment regarding government spending, public debt and borrowing against the future in a different aspect today as the news reported that president Obama will soon add more troops to Afghanistan. Admittedly, I am disappointed. The U.S. involvement in the Middle East has been largely failed and I fear we will not be able to correct the situation by adding more troops to the region. The scale of this eight years war is almost incomparable to the stimulus package.

I hope you're well.

Christine

[impotenta]

@joe: i think you're right. The idea was brought also here in Romania by an political analyst.

[faithevans]

I thought of your comment regarding government spending, public debt and borrowing against the future in a different aspect today as the news reported that president Obama will soon add more troops to Afghanistan. Admittedly, I am disappointed.

Best Attorney