After finishing J. Bradford de Long and Stephen Cohen's book, I admit I'm still very much in the dark about the consequences of the redistribution of Wealth from the US to the rest of the world, particularly China. Although there's a lot that's interesting in the book, the failure to solve the main question is highly disappointing.
"The End of Influence" has two overlapping themes: The rise of Sovereign Wealth Funds and the Fall of the Neo Liberal Order. The argument is that they are interlinked - the decline of Neo-Liberalism makes Sovereign Wealth Funds more dangerous, and the robustness of Sovereign Wealth Funds makes Neo-Liberalism seem less appealing.
Let's start with Neo-Liberalism: Since the Middle 1970s, the Post WW2 conception of a mixed economy came under increased attack by those whom de Long and Cohen call "Neo-Liberals". The failure of managed Capitalism in the UK, and its apparent failure in the US, caused a backlash against government interference in markets. The roll back of government interventions in markets was not complete, but it was widespread. It effected not only the US and the UK, but also most of Northern Europe, much of East Asia (and Israel, although the authors don't mention that). Right wing Neo-Liberals loved inequalities and markets; Left wing Neo-Liberals considered them a necessary evil. And the dismantling, deregulation and privatization of market industries sped up, as governments went out of the business of business everywhere... or almost everywhere.
The big (but not the only) exception was China. After Mao's Death, China started to slowly embrace Capitalism. It started to manufacture on a large scale. And as it had low labor costs, it exported its products aboard, especially to the United States.
When you start selling your product to a certain country, you end up with a lot of its currency. But this currency is normally not very useful to you; you have to convert it to your local currency. By buying much of your local currency and selling the currency of the customer country, the exchange rate changes. The customer currency becomes less valuable, and yours more. Therefore, goods produced in the customer country become more attractive to consumers in your country, and goods produced in your country become less attractive to them. And the trade imbalance... gets balanced.
Or so it is supposed to happen. But China (and other countries before, but China is the biggest, and so the effect is the largest) did not want to stop its export-fueled growth. It wished to ensure continuous export induced economic momentum. The way it did that was by preventing the Chinese currency (the Renminbi) from appreciating against the dollar. Instead of converting the dollars gains from selling Chinese products in the US to Renminbis, the Chinese government kept the dollars.
What has it done with them? It has lent them back to the United States! Thus, ironically, the dirt poor China has been subsidizing US consumption. China's economic growth has been fueled by selling manufacturing products to the US, and then loaning the profits to the US so that the US can buy more products! This meant that the Chinese government held a huge amount of money in the form of US debt - creating the world's largest sovereign wealth fund.
Now that China has the money, and holds it in US Debt, what could it do with it? What are he consequences of China being America's creditor? This is where the story gets unclear. From De Long and Cohen, one gets two stories, partially contradictory, about what happened next.
According to both, the Sovereign Wealth Funds (SWFs - China's is the largest but not the only one) posed a threat to the Neo-Liberal order. But the Neo-Liberals tried to "domesticate" the SWFs, make them act like "regular", profit seeking wealth funds. Had they managed, SWFs would not have been very dangerous.
But they have failed, and according to one story de Long and Cohen are telling, SWFs are extremely dangerous. The economic crisis of 2008 (caused at least partially by the cheap credit created by the SWFs) has soiled the reputation of Neo-Liberalism. Industrial Policy is now back with a vengeance. And the SWFs would now start to use their power strategically, buying up technologies that could be used to enhance economic growth in the US, and using them to enhance growth in China. The frontier of economic growth would move east. With China now having the money, America would have to pay attention, economically and politically. It would not be a thrall to China, but it would be much weaker than it is today.
The other story De Long and Cohen tell is, from an American perspective, much more optimistic. It focuses on the insight, repeated in the book several times, that if you owe enough money to the bank, you own the bank. The huge debt America has to China offers its own kind of power on the Chinese. America could inflate away Chinese saving. China has a huge amount of US treasury bonds. It can't put the money anywhere else: there's nowhere else to dump so much money. China has subsidized US consumers for a decade, and it is likely to keep doing it in the foreseeable future. Having someone else working for you is not altogether an unpleasant experience.
Furthermore, US debt could not lead to a payment crisis, like the Asian credit crisis of the late 1990s (see Paul Krugman's excellent
The Return of Depression Economics and the Crisis of 2008). Unlike Thailand and the other debt ridden Asian economies of the 1990s, the US debt is enumerated in its own currency. The US cannot run out of dollars, and so it cannot go bankrupt.
So what happens when other countries have the market? I'm not sure. I doubt de Long and Cohen are certain. They make a case for China posing a mercantilist threat to the US, as well as for China acting as a willing foreign worker, slaving away for the US benefit. No doubt there is truth in both cases, but Cohen and De Lung fail to synthesize them. "The End of Influence" is thought-provoking, but not conclusive.
