It’s Not Just Bailouts

When we think about how people will be working in the future, the weird things going on with our economy keep grabbing our attention as pivotal factors. Recently we wrote about how bankruptcies were mushrooming, and a few weeks ago we wrote about how the mortgage mess will clobber credit buyers before long as government regulators crack down. And that will ripple into industries that depend on credit buyers.

But there’s something else going on that deserves careful consideration too: Foreign buyers continue to grab U.S. assets. In fact, they set a record last year when they purchased $414 billion of our assets. Sure, the dollar was cheap, but stocks were at record highs and no bargain, so what were foreign buyers up to?

The three artificial islands in Dubai are the world’s biggest man-made islands. Each was built from a staggering 1 billion cubic meters of dredged sand and stone, taken from Dubai’s sea bed and configured into individual islands and surrounding breakwaters. The complex will house a variety of tourist attractions, ranging from spas and diving sites to apartments and theaters. The entire complex is designed to collectively resemble a date palm tree when seen from the sky.

One answer is that in the ’70s we started buying more from other countries than they were buying from us. In the late 1990s things really took off, and have been flying ever since. A measure of that flow is the U.S. trade deficit with China. Since the two countries completed a free-trade agreement in 1999, that gap has grown from $69 billion then to $256 billion last year. Why? Economics, like nature abhors a vacuum. So all those dollars we sent out into the world come back as purchases of our goods and services, and the rest–equal to the trade deficit–come back as investments. Usually those investments are mostly in U.S. bonds, but foreigners who hold lots of our bonds tend to get nervous when they realize we might make our debt less of a problem by inflating the currency (which makes the foreigners’ holdings less valuable). So foreign creditors cover their bets by buying ownership directly in our assets.

That’s what’s happening these days, and we ain’t seen the last of it for two reasons: First, the Fed’s rate cuts are inflationary and have spooked foreign creditors even more, so they’re buying more equity. Second, our trade deficit continues to grow, and will probably exceed $700 Billion–that’s all money that will have to come back as more investment in the U.S. predominately from China, Singapore and Arab nations.

Until recently these funds were used to prop up our economy so we’d be an attractive market for foreign goods. But a new reality and priority is emerging. Even though the rest of the world’s economy is still somewhat dependent on U.S. demand, most rich economies are in better shape than ours, and many emerging economies “are growing nicely on the back of rising domestic demand and regional trade links,” according to The Economist magazine.

But what if the rest of the world can do well while we stagnate? Most ethnocentric American’s assume that our economy floats up and down from troughs of inflation to peaks of prosperity independent from the rest of the world. But our economy is closely tied to China, Singapore and Arab nations. And there’s absolutely nothing that says that has to continue.

And it’s not just wealth and prosperity that Asia is building up. China and others are also building political influence and power, with the result that the West will cede global leadership to Asia. After dominating manufacturing, Asian companies moved on to services, and now research and development. It is only a matter of time before Asia starts to build up its military power, too.

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