Hollow assurances

In his recent visit to China, US Vice President Joe Biden seems to have gone an extra mile to atone his hosts. In the last leg of his tour, he asserted that the world's biggest economy, meaning the US, would never default on its debts. "The United States has never defaulted and never will," were his exact words to boost Chinese confidence in America's beleaguered finances. Joe Biden also stressed the point that US remained the "single best bet" for investment, despite the historic downgrade of the country's top-notch credit rating by S&P.
The Chinese Premier, Wen Jiabao, was very polite in his response and said that the US Vice President had "sent a very clear message to the Chinese public that the United States will keep its words and obligations with regard to its government debt. In spite of the difficulties facing the US economy at present, I have full confidence that the United States will overcome these difficulties and get its economy back on the track of healthy growth." The official Xinhua news agency was, however, not impressed by such rhetoric. In a commentary, it urged the US to take concrete actions that were badly needed to turn promises "into reality". More specifically, it asked the US to end its excessive reliance on overseas borrowings, cut its bloated entitlement programmes, reduce budget deficits and restructure its economy.
Biden's five-day trip to China was aimed at building closer ties with the Chinese leaders, particularly with Vice President Xi Jinping, who is slated to be anointed as China's top leader next year, and assure them that their massive investment remains safe after Washington narrowly avoided a catastrophic default earlier this month.
China, it may be mentioned, has used the proceeds of its thriving export machine to invest around $1.2 trillion in US Treasury bonds and very much wants global financial stability as panic grips markets. A closer co-operation or interaction between the leaders of the two top economies of the world to sort out various global economic issues, was indeed a step in the right direction but the problem of mounting US debt has been allowed to linger on for such a long time and has assumed such huge dimensions by now that a soft approach or mere exchange of pleasantries is not going to be of much help.
History is a witness to the fact that it is not wishful thinking or cordial personal relationships but the emerging realities that dictate the course of events. Some parallels to the presently emerging situation could be drawn to an inauspicious occasion about 40 years ago when President Richard Nixon had to go on television on a Sunday evening to announce to the world that henceforth America would no longer honour its commitments under the Bretton Woods Agreement of 1944 to redeem dollars circulating in the rest of the world for gold at the rate of $35 per ounce.
As is well-known, the basic reason of such a decision was the emergence of a US trade deficit and the fact that the dollar effectively functioned as world money. The removal of the gold backing did not end the dollar's role as the global reserve currency but virtually meant that the international monetary system had lost its anchor and it could become increasingly volatile or unstable if rules of the game were not properly observed and due care was not taken to constantly adjust the system to the demands of an ever changing situation.
It is a tragedy that world leaders have not learnt from the past and continue to follow flawed policies that they perceive to be in their countries' interest. Often, they tend to lecture other countries to follow a desired path without making efforts to correct their own policy inadequacies. America's "exorbitant privilege" of exporting its currency to finance its external deficits, of course, comes with a responsibility and the US dollar's role as a global currency makes it incumbent on the US leaders to preserve its real worth for an extended period of time.
The policies needed to be followed to maintain the leading status in the global financial order are obvious but US has failed to meet the required criteria. Among other failures, its debt is mounting sharply due to seemingly unmanageable current account and fiscal deficits. China, in our view, should feel satisfied, only if Biden's assurance to honour his country's debt obligations are met through a steady reduction in current account and budget deficits in order to ensure that US dollar as a world currency continues to maintain its real value and is preferred as a medium of exchange and store of value at the global stage. Without such an effort to adjust and stabilise the US economy, assurances and promises would be meaningless.
At the same time, the Chinese authorities also need to put their house in order. In particular, they need to reduce their current account surpluses by following appropriate exchange rate policies and encouraging domestic investment and consumption expenditures. There is an urgent need for the world leaders to talk less and act more so that the desired objectives of maintaining global financial stability and avoiding default are achieved without relying merely on assurances, which are likely to remain unfulfilled.