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Almost everything Zakaria says here is wrong, and unanchored in any understanding of how the global balance of payments actually works. Like many people in Washington, Zakaria assumes (perhaps without realizing it) that the only things that should matter to the US are... https://t.co/qhhw9S9rXm

— Michael Pettis (@michaelxpettis) March 27, 2023

1/15 Almost everything Zakaria says here is wrong, and unanchored in any understanding of how the global balance of payments actually works. Like many people in Washington, Zakaria assumes (perhaps without realizing it) that the only things that should matter to the US are...

2/15 US geopolitical power and the dominance of Wall Street. He is ignoring the needs of American workers, farmers, producers, and the economy more generally. That is why a diminished role for the US dollar is something that he and many others find so frightening.

3/15 He complains that both US debt and US deficits have surged in recent years, and he argues that these can only be sustained by the global dominance of the dollar, but he fails to see that he has it backwards.

4/15 It is because of the dominance of the US dollar that foreigners must acquire massive amounts of US assets to balance weakness in their domestic demand, which means that the US must run massive deficits to accommodate these inflows.

5/15 Zakaria also doesn’t understand that in an economy in which investment is constrained by weak demand, and not by scarce savings, foreign inflows (like the rise in domestic inequality, which has the same impact) cannot be absorbed by more investment.

6/15 That is why it must be absorbed by changes in the US economy that force down savings elsewhere. Foreign inflows, like domestic inequality, must be resolved in the form either of higher US unemployment or (more likely) higher household and fiscal debt.

7/15 He says that thanks to USD dominance, “Washington can spend freely, certain that it’s debt will be bought up by the rest of the world.” This is simply not true, and is yet another example of why thinking incrementally about the economy rather than systematically leads...

8/15 to so many mistakes. As long as foreign demand for US debt does not cause US investment to rise, it must cause US savings to fall by an equivalent amount, and so foreign savings do not supplement US savings.

9/15 They replace US savings. This may seem incredibly counterintuitive at first, but it is the inevitable outcome of the arithmetic of the balance of payments.

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10/15 He comes close to recognizing the costs of a having globally important currency when he talks about China, and why it is not taking the required steps to increase the global use of the RMB.

11/15 He says: “If Xi Jinping wanted to cause the greatest pain to America, he would liberalize his financial sector and make the RMB a true competitor to USD”.

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12/15 But Beijing won't, not because it wants to be kind to the US but rather because doing so would force China to absorb demand weaknesses from the rest of the world rather than use the USD to export its own demand weakness. Beijing knows this would be terrible for its economy.

13/15 The global dominance of USD is great for Wall Street and great for US geopolitical dominance, but it comes at a high and rising cost to the US economy – more household and fiscal debt, a declining American share of global manufacturing, worsening income inequality, etc.

14/15 But the great strength of the US has always been its economy. It seems incredibly short-sighted to sacrifice the needs of the economy for the ability of Washington to impose financial sanctions on other countries.

15/15 For Zakaria to suggest that the erosion of the dominance of the global role of USD is one of the greatest threats facing the US is absurd. Not only is it not happening, but it would be better for the US if it did.

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