First Principles July/August 2006

A Confederacy Of Eunuchs

What a lousy time for the leaders of the world’s economic powerhouses to be gripped by political weakness

Saint Petersburg was chosen to host this year’s Group of Eight economic summit, the annual summer gathering of leaders of the United States, Canada, France, Germany, Italy, Japan, Russia, and the United Kingdom. The selection of a Russian venue was all too apt. Vladimir Putin’s government is overweening, dysfunctional, and increasingly at odds with the Bush administration. The two leaders agree on very little just now, whether it is the world economy or anything else. And though Putin would stand out if this were a straightforward bad-government competition, none of the other heads of state has much to boast about, least of all George W. Bush. Has there ever been a summit at which all of the leaders were so weak, so compromised, so unpopular, or so discredited?

Ordinarily, it wouldn’t really matter. These summits are usually just glorified photo ops, where no real business is conducted—or needs to be. But just to make it all perfect, on this occasion purposeful cooperation on economic policy is actually needed. The world economy’s chief ailment these days is the huge imbalance in trade and finance between the United States on one side, importing vastly more than it is exporting and borrowing to make up the difference; and the trade-surplus, capital-exporting countries on the other side: China, Japan, the big oil exporters, parts of the European Union.

Fluctuating imbalances of this kind are business as usual, needless to say, and no problem at all in principle. The issue now is the scale, which is unprecedented. America’s current-account deficit was $800 billion last year. Its foreign debt stands at roughly 25 percent of the gross domestic product, and it’s growing—ten years ago the figure was 6 percent. Much of the money flowing in to finance that deficit has come from China’s government, which buys U.S. Treasury bills and puts them in its central bank. Those Chinese reserves now stand at some $900 billion—by historical standards, a remarkable number.

The foreign appetite for American financial assets is not unlimited. At some point this imbalance will therefore be reduced, either by financial markets at their own initiative (which might well be abrupt and brutal) or by deliberate changes in economic policy. Because this financial imbalance is international, it would be best addressed by an internationally coordinated remedy. The shape of that remedy is uncontroversial. America needs to cut its budget deficit (which fuels its need to borrow from overseas), China needs to let its currency rise against the dollar (which would be good for American exports), and the European Union and Japan need to grow faster (which would work to the same effect).

The summit, you might think, would be the appropriate place to work it all out. Invite China along, and reach an understanding. But then all of the leaders would have to go home and deliver. China, not a member of the G-8, could probably keep any commitments it entered into (sometimes it helps to be undemocratic). But could the others?

Wherever you look, you see weak governments. With midterm elections approaching, Bush’s standing with American voters keeps testing new lows. Republicans contemplate November with mounting dread. Junichiro Koizumi should be doing well, you might think, since Japan’s long-flattened economy is finally reviving—but no, Koizumi’s Liberal Democratic Party lost a recent by-election. The prime minister is due to step down as leader of his party in September.

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