Thread by @michaelxpettis

1/12
While I agree with much that @paulkrugman says in this article, he's wrong about this: "Even economic analysts like Michael Pettis," he says, "seem to believe that dollar dominance is the only reason America can run persistent large trade deficits."

nytimes.com/2023/05/02/opi…

2/13
This is wrong, he then notes, because the UK, Canada, and Australia have also run large, persistent deficits over the past decade, even larger than the US.

Regular readers will know that he has very much confused my argument. This is not what I have said at all.

3/13
The world uses USD, I have argued, mainly because the US (and the UK, Canada and Australia) are the safest places in which to park the excess savings that are the obverse of the large, persistent surpluses of many the world's leading manufacturing and commodity exporters.

4/13
Krugman says that the UK, Canadian and Australian currencies are less important than USD, but he misses the point. The currencies of all three, like the USD, comprise a far larger share of total international transactions than is justified by their respective shares...

5/13
of global GDP or global trade. Contrary to trade theory these four economies (in none of which is investment constrained by scarce savings) account for roughly 70-80% of all global deficits or, which is the same thing, they absorb 70-80% of excess global savings.

6/13
The point isn't that the global dominance of USD "allows" the US to run trade deficits. It is that because of deep, open, flexible and well-governed financial and property markets, the Anglophone economies must always see net capital account inflows as countries that run...

7/13
persistent trade surpluses balance these surpluses by acquiring claims mostly in these countries. This also means that the four have no choice but to run permanent trade deficits (which, as we have seen, also means suffering declines in their shares of global manufacturing).

8/13
Because these foreign capital inflows don't fund increases in investment (which is constrained not by scarce capital but rather weak demand), instead they force down savings, either by raising unemployment or by raising household or fiscal debt.

carnegieendowment.org/chinafinancial…

9/13
Krugman is right to say that the demise of USD as the dominant currency is greatly exaggerated, but perhaps not for the reasons he thinks, and he is wrong to think that it wouldn't matter anyway if the world stopped using USD.

It would matter a great deal.

10/13
That's because the world uses USD not because it has no choice in choosing a currency, but rather because no other economy is willing or able to run the deficits needed to accommodate demand-constraining (i.e. "competitive") policies in much of the rest of the world.

11/13
A reduction in the US role as the global absorber of net excess savings (which also means as global consumer of last resort) would reduce US deficits and make the large, persistent surpluses of countries like China, Germany, Saudi Arabia, Brazil, etc. all but impossible.

12/13
Because these economies rely heavily on their large surpluses to resolve their structurally weak domestic demand, this is also why for all their confused talk, these countries will never do anything seriously to threaten the role of USD.

13/13
If they can't acquire claims on safe, foreign assets with their excess savings, they can no longer run surpluses, and so must resolve imbalances at home.

The demise of USD would be good for the global economy and even better for the US, but painful for surplus countries.

A lot of people have responded to this thread by asking how USD dominance hurts the US economy. I've written about this many times, including in 2020's "Trade Wars are Class Wars", but perhaps the first time was 12 years ago:

foreignpolicy.com/2011/09/07/an-…