Original sin

In view of the severity of the current economic downturn, it is essential to determine what caused the recession. While there are many factors involved, the original sin can be blamed on China. It initially affected the United States, and eventuallyaffected Canada and the rest of the world. What went wrong?

Every crisis invariably gives rise to finger pointing. Wall Street must share some of the blame. It is clear that bankers were negligent or stupid, and the same should be said for regulators, rating agencies, foolish investors, and (misguided?) central bankers. Also, politicians in North America must share some of the guilt. They promoted lax credit standards and consumerism, regardless of the financial position of the borrowers.

No one then should deny that there were many mistakes, but few recognize that the "original sin" had its origins less in domestic missteps, but rather in economic pressures, stemming mainly from China.

Starting about ten years ago, China’s cheap, that is, undervalued, currency led it to run a gigantic trade surplus. Exports to North America entailed massive Chinese earnings and a glut of dollars. The earnings from that surplus poured into this continent. The result was that this surfeit of funds meant that interest rates remained unnaturally low, and this showed up in the mortgage bubble. This bubble reached absurd extremes when China was flooding the world with cheap capital. Mortgage rates fell to 2 per cent for the first part or the loan, and consumers were given the opportunity of making purchases with no interest for up to five years. It is no surprise then that consumers went wild in buying things with such easy terms.

One would have believed that this splurge by consumers would result in a rising price for loans, but they remained low for a decade. As the perceptive writer Sebastian Melaby of the Council of Foreign Relations argued that it was the supply of lending that went up, not the demand for it. "It was the push factor from China, not the demand pull" from south of our border that flooded to the United States and, indirectly, here too. As China almost literally dumped billions of dollars into the United States, that created the easy credit that fuelled consumers’ buying sprees. In the face of this monetary glut the U.S. central bank could have raised interest rates, but that would have lured more Chinese money into North America.

Hence, what could or should have been done? Under environmental regulations, surcharges could have been imposed on some Chinese exports. Then Canada should take the lead in international trade negotiations just as we did in the 1940s in the formation of NATO. The nations of the world should insist that China change its foreign exchange policy, revising upwards its currency thus making its goods more expensive and reducing its trade surplus. Also, China should then be compelled to develop its internal demand and thus curb its reliance on exports that generated huge reserves that flowed out of the country.

If Canada took the central role, it could accomplish a great deal in ending the distortions that caused this economic downturn.


Bruce Whitestone