Don't believe the polite noises from Asia on the US debt impasse; the Chinese have lost all confidence in America's government and are "shocked" and "appalled" at its handling of the crisis, according to Stephen Roach, non-executive chairman of Morgan Stanley Asia.
In a note called 'Read China's Lips', he also said:
The Chinese have ... lost confidence in America’s government and its dysfunctional economic stewardship. That message came through loud and clear in my recent travels to Beijing, Shanghai, Chongqing, and Hong Kong.
Coming so shortly on the heels of the subprime crisis, the debate over the debt ceiling and the budget deficit is the last straw. Senior Chinese officials are appalled at how the United States allows politics to trump financial stability. One high-ranking policymaker noted in mid-July, “This is truly shocking… We understand politics, but your government’s continued recklessness is astonishing.”
The US debt crisis has taken a serious toll on China’s confidence in Washington’s economic stewardship.
China recognizes that it no longer makes sense to stay with its current growth strategy—one that relies heavily on a combination of exports and a massive buffer of dollar-denominated foreign-exchange reserves.
With US government debt repayment now in play, the very concept of dollar-based riskless assets is in doubt. In recent years, Chinese Premier Wen Jiao and President Hu Jintao have repeatedly expressed concerns about US fiscal policy and the safe-haven status of Treasuries. Like most Americans, China’s leaders believe that the US will ultimately dodge the bullet of an outright default. But that’s not the point. There is now great skepticism as to the substance of any “fix”—especially one that relies on smoke and mirrors to postpone meaningful fiscal adjustment.
All of this spells lasting damage to the credibility of Washington’s commitment to the “full faith and credit” of the US government. And that raises serious questions about the wisdom of China’s massive investments in dollar-denominated assets.
As consumer-led growth reduces saving, China’s appetite for Treasuries will wane—compounding deficit-prone America’s external funding problems in the years ahead.
So China, the largest foreign buyer of US government paper, will soon say, “enough.” Yet another vacuous budget deal, in conjunction with weaker-than-expected growth for the US economy for years to come, spells a protracted period of outsize government deficits. That raises the biggest question of all: lacking in Chinese demand for Treasuries, how will a savings-strapped US economy fund itself without suffering a sharp decline in the dollar and/or a major increase in real long-term interest rates?
The cavalier response heard from Washington insiders is that the Chinese wouldn’t dare spark such an endgame. After all, where else would they place their asset bets? Why would they risk losses in their massive portfolio of dollar-based assets?
China’s answers to those questions are clear: it is no longer willing to risk financial and economic stability on the basis of Washington’s hollow promises and tarnished economic stewardship. The Chinese are finally saying no. Read their lips.