Lawson for Congress

A poster child for bad legislation is H.R. 2419, the Food and Energy Security Act of 2007 — better known as the Farm Bill.

In a rare feat of bipartisanship, the House and Senate passed the final version last week by a veto-proof majority. Amazingly, details of this legislation are still coming to light. Given that the bill itself is 673 pages long, it’s not surprising that there wasn’t time to read it between horse trading in conference committee and the final votes.

I have four objections the Farm Bill, besides the simple fact that it is an unconstitutional disruption of our nation’s food supply, with negative global implications.

The first concern is the premise behind agricultural subsidies. We’re all familiar with rising grocery bills, and we’re feeling the impact of global commodity prices near all-time highs. The Farm Bill essentially “locks in” these high prices by setting subsidy payments for 2009 based upon today’s record levels:

Since the amount of the subsidy for 2009 is tied to recent record prices, farmers could reap a windfall if prices drop suddenly.

“I don’t think many people on the House side who voted for the farm bill realized there were $16 billion in potential higher costs in there,” said Deputy Secretary of Agriculture Charles F. Conner. “The budget exposure is tremendous.”

A blog item posted Monday by the agricultural magazine Pro Farmer described the new program, known as Average Crop Revenue Election (ACRE), as “lucrative beyond expectations,” and said it is a “no brainer” for farmers to sign up for it.

The Agriculture Department estimates that subsidy payments to corn farmers alone could reach $10 billion a year if prices — which have been $5 to $6 a bushel — were to drop to $3.25 a bushel, a level seen as recently as last year. The $10 billion figure assumes most farmers would participate in the program, a view disputed by key lawmakers.

Think about it — the government has locked in today’s high prices so that we’ll be borrowing and printing money to subsidize farmers even if prices were to decline to year-ago levels. Does that make sense?

But that’s just the impact on our country. What do these farm subsidies do to the rest of the world, and the ability of other nations to feed themselves?

LAST week, both Houses in the United States Congress passed a Farm Bill that continues the present system of high agricultural subsidies, rewarding big farmers that have already gotten much richer because of the recent hike in food prices.

This is a real pity, even a scandal, because the US farm subsidies are the main cause (together with the subsidies in Europe and Japan) of the greatest distortion in world trade.

The subsidies enable high-cost farmers and food companies to sell their products at below the cost of production and unfairly beat off the products of farmers in developing countries that don’t have the same kind of money to subsidise.

Many developing countries around the world have been importing artificially cheapened imported rice, wheat, corn, and chicken from the US and Europe.

Their own small farmers, which are often more efficient than those in the rich countries, have been displaced by these subsidised imports – one reason why agriculture has fallen in many developing countries, making them vulnerable to the present crisis of food shortages and high prices.

While our subsidies might benefit foreign consumers when prices are low, as prices have risen rapidly, developing nations’ lack of domestic agriculture leaves them exceedingly vulnerable to supply disruptions.

My third objection is Department of Homeland Security’s slipping in an unrelated power grab to bring Foot and Mouth Disease research onshore, and taking control of that transition from the Department of Agriculture:

Lawmakers on Wednesday tentatively agreed that national security officials should fully control the expected transfer of research of highly contagious foot-and-mouth disease from an offshore laboratory to the U.S. mainland near livestock.

The Bush administration requested the legal change, which would erode the traditional role of the Agriculture Department in deciding the safest location to research one of the world’s most contagious animal viruses. The virus does not infect humans but could devastate livestock herds.

House and Senate conferees, negotiating a major farm bill, agreed to the administration’s wishes to place the Homeland Security Department in full control of the transfer, according to two Senate sources who demanded anonymity because conferees were not ready to announce their agreements.

I object to moving this research in close proximity to agriculture and large population centers from its current island-based location. Regardless of my opinion, however, it is a controversial issue that deserves to be debated separately. Here’s one more reason to embrace the One Subject at a Time Act.

The final problem with the Farm Bill is the pork:

Individual lawmakers, mostly senators, slipped several dozen “earmarks,” or pet causes, into the $290 billion bill that have at best tentative connections to the tilling of the land. There’s tax breaks for horse owners, water for Nevada desert lakes, aid for the Pacific Coast salmon fishery industry and a crackdown on puppy trafficking.

Rep. Jeff Flake, R-AZ, a leading opponent of earmarks, complained that some had been “airdropped in” at the last minute. “If you dig into them, you might find something untoward. You might not, but the fact is we don’t have time to do that.”

Note Rep. Flake’s frustration about not even being able to read the bill. As a physician, if I sign off on a report or study without reading it, I could easily be sued for malpractice. Congress routinely passes legislation that is not read, nor even readable in the time provided. Congress desperately needs some help in this regard — I support the Read the Bills Act, which would require that Congress actually read legislation before voting.

The Farm Bill is expected to cost $300 billion. Our Rep. David Price voted Yes — perhaps he didn’t read it, or perhaps he erroneously believes we can afford it.

We may not be able to sue Rep. Price for malpractice, but we can certainly express our desire for change in November.

A friend forwarded me the following amusing article from CFO.com:

NEC Gives Up over Revenue Recognition
Company says it simply cannot figure out U.S. GAAP revenue-recognition rules, and will stop trying.
Tim Reason, CFO.com
September 24, 2007

NEC Corp. says it is stumped by U.S. accounting rules for revenue recognition and has given up trying to comply with them.

The Japanese electronics giant says it realizes this will likely lead to the delisting of its ADR shares on Nasdaq. It also says it will not be able to file its 2006 annual report under U.S. GAAP, and that it cannot vouch for its financial statements since 2000.

Under U.S. generally accepted accounting principles, revenue-recognition rules are complicated for software companies whose contracts combine the sale of software with maintenance and service agreements. Under a GAAP standard called SOP 97-2, companies wishing to recognize the software-sales revenue up front must perform an analysis of such contracts that provides “vendor-specific objective evidence” of consistent treatment of sales and service. That analysis, which NEC says it has been unable to complete, is required before portions of revenue from a single contract can be broken out and recognized at different times.

NEC says it is unable to complete the VSOE analysis for its auditor in time to file its annual report for the March 31, 2006, fiscal year with the Securities and Exchange Commission, and that its failure to file will likely result in its ADRs being delisted from Nasdaq. NEC had previously been warned by Nasdaq and had received an extension to September 25.

The company adds that its financial statements dating back to 2000 should no longer be relied upon; however, it says a restatement “is not practicable” because of the complexities involved in determining the adjustments that would be required. NEC notes that its financial statements under Japanese GAAP are current and are not affected by this announcement. It addition, the company says, it remains in compliance with the disclosure rules of the Tokyo Stock Exchange and the Securities and Exchange Law of Japan.

How great is that? Take your shares and go home, NEC. We don’t want to invest in your company, and we don’t want you to invest in us, either. Can’t figure out how to calculate revenue? You clearly haven’t found the right accountants yet, or maybe you’re just not paying them enough.

Having been in the software industry, I experienced the magic of revenue recognition and so-called “vendor specific objective evidence” firsthand. To this day, I have a tough time reading financial reports for software companies with a straight face. The system is so capricious and riddled with arbitrary complexity that the only value creation is for auditors and accountants.

Perhaps other companies will follow NEC’s lead. Between GAAP and SOX, why would you want a domestic listing?

The Financial Times has an interesting series of articles exploring the rapid growth of Sovereign Wealth Funds (SWFs). These are investment vehicles for governments to invest surplus reserves from foreign exchange. As you can see below, while these funds were traditionally the domain of oil-producing countries, China’s prowess in accumulating dollars is formidable. They’re taking baby steps towards being greater activists with their investments, allocating $200 billion for a new SWF that is still a relatively small proportion of their $1.3 trillion in foreign exchange reserves.

Why is this phenomenon interesting? Well, SWFs provide an alternative to governments’ central banks simply buying and holding U.S. Treasuries for a “risk-free” return. Looks like China is beginning to hedge its dollar exposure through this type of diversification, long practiced by our friends such as the UAE in the Middle East. It’s estimated that SWFs have $2.5 trillion currently under management, expected to grow to $12 trillion by 2015. (I wonder what a dollar will buy in 2015, though?)

So how is China going to deploy its $200 billion? Well, they started (and took an initial hit) with a $3 billion position in Blackstone Group prior to its IPO. Needless to say, all of their investments won’t be in the United States, though. I’d imagine they’ll look for opportunity where they’re comfortable looking, and where they expect growth. In any case, it’s clear that their appetite for U.S Treasury bonds is limited.

The increasing importance of government funds taking investment positions sparked a healthy debate led by Lawrence Summers here. It’s also created a bit of protectionist rhetoric, as well.

It’s interesting to consider the consequences of our government’s creating such massive amounts of debt. Without our government selling several hundred billion dollars in new debt every year, the dollars that China and other trading partners receive from foreign exchange would be either be exchanged back into their native currency, or used to purchase other dollar-denominated investments or goods. Those choices are the desired outcomes from trade and foreign exchange.

If anyone you know tries to blame China for their creative efforts to deploy their surplus reserves, just ask them who sold the bonds to China in the first place. Too bad no one ever read us the Miranda warning of international finance: “You have the right to sell debt. Any debt you sell can and will be used against you in the marketplace.”

David Walker, our Comptroller General and head of the Government Accountability Office, is taking his message to the street. Despite his ability to communicate directly to our elected officials in Washington, it appears that he’s just not getting though to our senators and representatives. Perhaps they’re too busy discovering new ways to shelter payments from their favorite lobbyists.

No, instead, he’s decided that he needs to talk to us. That’s right, we the people. The voters who elect these august leaders, and then watch their antics from the comfort of our couch.

Why is he so concerned? He understands that we are wearing a noose that is slowly tightening around our neck. You might not feel it just yet, but it’s there. The government’s own annual report shows a pretty bleak situation: as of 2006, the federal government has $1.5 trillion in assets, but $10.4 trillion in liabilities. But those are just the assets and liabilities “on the books”. Like Enron, we have lots of interesting liabilities that are not on the balance sheet. As I wrote in a discussion over at Redstate:

[The balance sheet] also does not account for the massive unfunded (and unfundable) long-term net liabilities of Social Security and Medicare. I wasn’t going to bring this up, as I didn’t want to depress you, but even the optimistic official estimates are sobering. Look at pages 46-47:

Social Security: ($6.4 trillion)
Medicare Part A: ($11.3 trillion)
Medicare Part B: ($13.1 trillion)
Medicare Part D: ($7.9 trillion)
Railroad Retirement: ($101 billion) <– what a bargain!

Add those up… over $38 trillion in long-term liabilities that are not on the balance sheet.

Of course, there are those who try to put things in perspective. Various commenters then tried to reassure me that the balance sheet doesn’t include significant assets, as well — namely the value of land owned by the federal government, and the assets owned by the American people.

OK, so if our government owns a few $trillion in land, and the total wealth of our citizens is estimated at $55 trillion, how does that help us fund these entitlements? I guess we can just sell off the National Park System, and confiscate the majority of private assets and sell those as well. But who will buy them? Perhaps the Chinese? Good plan. I feel much better.

Seriously, check out the presentation U.S. Financial Condition and Future Fiscal Briefing, available at the GAO’s Web site. Or just watch David Walker’s 60 Minutes interview below:

While his message is a wake up call, I actually think he’s too optimistic regarding how much time we have. You see, he’s focused solely on our government’s out of control spending. He’s not considering the impact of our fiscal policies on our place in the global economy. Having spent time in China and seen firsthand the impact of their rapidly-growing middle class, it is clear that China is transforming over the next 4 to 10 years from a low-cost producer and exporter to the world’s most voracious consumer.

We are the world’s largest debtor nation with a population of 300 million, and we will soon be competing for food, energy, natural resources, and manufactured goods with China’s 1 billion consumers. Also consider that China is, slowly, allowing their currency to appreciate. As their middle class grows and domestic consumption expands, their domestic market will become more valuable than export markets. At that point, the People’s Bank of China won’t need to keep their currency artificially low relative to our dollar. So not only will we be competing with their billion consumers, we’ll be competing with a currency that is significantly weaker than it is even today.

Unless we can reign in our government, and again make our nation attractive for investment, it’s going to be a rough ride. Perhaps we the people will wake up in time to realize that we actually do have the power to change the equation.

If there’s any truth to reincarnation, given the current environment, I’d love to come back as a multinational corporation. While I’d read about the tax minimization strategies of large corporations, it never really hit home until I saw it firsthand.

I recently transitioned from a small technology startup company to a large multinational corporation. As part of my orientation to the new environment, I had a great opportunity to meet folks throughout the organization, and learn about the tremendous corporate resources at our disposal. One of the most memorable conference calls occurred with my introduction to the corporation’s overseas subsidiary. I’d done enough reading to know the purpose for this entity, so when the director on the call asked if I knew what they did, I figured I could show off: “Sure, you’re an intellectual property holding company that upstreams income for tax efficiency.”

(In English, that means that the businesses operating in the United States and other high-tax jurisdictions sell their products as “intellectual property” to this overseas subsidiary. Then, the U.S. operating business pays a handsome royalty to the overseas subsidiary for using/selling their product every year. Thus, the net income of the U.S. operating business is minimized, since the royalty payments to the overseas subsidiary are subtracted from revenue. Since tax is calculated based on net income, the corporation can then deliver more post-tax income to its owners.)

Judging from the prolonged silence on the other end of the phone, I thought something might have been lost in translation. The response, while delayed, was emphatic: “Uhhh… You can’t say that.” You see, the IRS takes a dim view of companies that set up corporate structures just to minimize taxes. (I don’t understand why, though. Why shouldn’t a person or a corporation act in its economic best interest?) So while there is widespread acknowledgment that this technique is being used, the IRS generates work for lots of accountants and lawyers to show conclusively that these sorts of overseas subsidiaries are not just passive intellectual property holding companies. Instead, they need to be operating companies that direct strategy and operations for the business units located in the high-tax jurisdiction.

As you can imagine, there are lots of late-night discussions as to how one might “prove” or “show conclusively” that an offshore company is really calling the shots and not just sitting there generating huge tax savings. You’ve clearly got to hire people over there, and those people have to be busy. They have to create Excel spreadsheets, PowerPoint presentations, have conference calls, and put cover sheets on their TPS reports. It also helps if they travel and interact regularly with their colleagues in the United States as well. Isn’t that a wonderful system?

Over time, I began to realize that I was incorrect with my initial response. This overseas subsidiary did not just collect income, it really did play an active role in operations. But is that a good thing? When you have highly-specialized, nuanced products serving folks in the U.S. market, is it good business sense to have to balance the input from “corporate” half a world away? How does that serve the customer? How does that help make the organization more agile and responsive to challenges in the marketplace?

Hint: it doesn’t. Overall it hurts the company’s competitiveness. But it still enhances the after-tax profitability of the company relative to just earning the income in the high-tax jurisdiction.

Consider this: when a country’s tax system is so punitive that companies who can afford it will create entire divisions overseas, is that country likely to create a lot of new entrepreneurial ventures as well? In the world of Internet-based businesses and global competition, the answer is increasingly no. While there still are certain industries where the advantages in the United States outweigh the high costs, new ventures are increasingly creating jobs and wealth outside of this country.

This data is a bit dated, but it gets the point across. As recently as 2005, we’re squarely in the middle of the pack, and behind China and India. So I’ll ask the question again, when will our government stop strangling the goose that lays the golden eggs of domestic entrepreneurship and job creation?

While attending Monday’s Gaston County GOP Straw Poll, I had the pleasure of meeting Bill Graham, who is running for the Republican gubernatorial nomination in 2008. Bill addressed the crowd for a few minutes, and made an interesting point about jobs and economic growth in North Carolina. To paraphrase, he said that North Carolina needs a governor who will sit in a CEO’s office, and not leave that office until the CEO has made the “right decision” about bringing business and jobs to North Carolina.

That seemed an interesting way to characterize the governor’s role in economic development, so when he opened the floor for questions, I raised my hand (the following is paraphrased, but I believe I captured the essence of the dialog):

BJ: “Mr. Graham, I don’t know that I’m comfortable with the image of a governor twisting a CEO’s arm to bring jobs to North Carolina. Are there better ways to encourage companies to locate here voluntarily?”

BG: “Oh, no — what I mean is that North Carolina needs a governor who is a cheerleader for the state. CEOs need to know what a great place North Carolina is for business.”

OK, that sounds good. But personally, I didn’t think Mr. Graham was giving CEOs enough credit. If the arguments for locating a business in North Carolina were unambiguous, nondiscriminatory, and not dependent on special government handouts for business “recruitment”, it seems that CEOs would be beating a path to the state without even being invited by the governor. So I persisted:

BJ: “So what steps can you take to stop capital and job flight, and make the entire state of North Carolina a magnet for investment?”

BG: “We need all our counties to have a diversified portfolio of industries. We’ve seen the problems that result from anchor industries such as textiles and furniture leaving, and the economic devastation that results in those counties.”

OK, so that’s a desirable end goal, but how do we get there? And what about small businesses and entrepreneurship? Why should we depend on recruiting “foreign” corporations from outside the state? How can we start and grow businesses among the people that are already here? So I persisted further:

BJ: “So in addition to recruiting companies from outside the state, how do we encourage entrepreneurship and small business inside the state?”

BG: “Cut taxes, and focus on greater local control of resources for transportation and education.”

Wow. That was good. Shocking clarity. I sat back in my chair without anything else to say. What would life be like if he makes good on that goal?

North Carolina is already a pretty good place for business, at least relative to some other parts of the country. We have lower tax burdens than the Northeast and far West, easy access to DC, NY, and Chicago, and a cost of living that’s allowed some to play “geographic arbitrage” and finance retirement selling a house in California and moving here (well, that worked until a couple years ago… but I digress). But we still have one of the highest tax burdens in the South, and no one would rightfully characterize North Carolina as a “tax haven”.

So what is a “tax haven”, anyway? At one point, my mental image of a tax haven was a luxurious offshore place where rich guys sat around and discussed how much they were paying their lawyers and accountants, but that it was still worth it to avoid paying any taxes. There’s more to come on this topic, but suffice it to say that my view has changed dramatically.

Imagine that you’ve just sold a company that you started several years ago. You were privileged to work with a talented and dedicated team of people, you created significant value in the marketplace, and you and your investors were compensated through an acquisition. Now what happens? People start showing up to sell you access to tax havens. But wait! I’m not like those guys! I’m someone that likes to do… to create… to build value in the marketplace!

Regardless of how idealistic you are initially, you begin to realize that once you have some (indeed, any) capital to deploy, you spend a great deal of time thinking about how to most efficiently deploy it. If you’re going to start a company today, where would you go? Or if you’d rather just invest in existing businesses, will you invest domestically, or through a life insurance vehicle located in an offshore trust that can grow tax free?

Ironically, it appears that the Kennedy family has chosen to domicile much of their wealth in Fiji. This citation is not to pass judgment, and I haven’t personally read the book cited in the link. It’s just an important illustration of an immutable law of monetary physics: money flees from taxes, just as surely as water spills downhill.

Our founders wisely gave us the concept of autonomous states, within the limits of the Constitution, so that competition among states could help make the nation as a whole more competitive. But in recent years, this idea of competition has taken on an unhealthy and perverse twist. The idea that governors, or governments, should be bidding, enticing, and recruiting in a selective, discriminatory fashion distorts the economic environment and hinders overall economic growth.

A simple example will clarify my point. The fantastic barbecue we enjoyed at the Straw Poll was hosted at Alfred & Charlies BBQ House. The founder, let’s call him Alfred, started this restaurant about eight years ago, and it has grown to be a fixture in the community. Let’s say that there’s an aggressive barbecue chain out of Atlanta called the Sweet Jesus Second Coming BBQ House. The owners figure that expanding into the NC Bible belt is a great idea, and they want to open a regional distribution center to support their growth. Naturally, the NC governor wants the SJSC Distribution Center and its 375 new jobs. He visits the CEO along with several county representatives, and they pitch a proposal of tax abatements, utility rate guarantees, and various other incentives until SJSC makes the right choice.

Sounds like a great thing, right? There’s a press release, a groundbreaking at the construction site, and a few years later there are SJSC BBQ houses popping up all over the place. And thanks to the economic incentives provided by NC, the cost savings given to SJSC are either retained by the company for reinvestment to better compete against natives like Alfred & Charlies, or perhaps they pass the savings on to the customers, and Alfred can’t figure out how these new guys are undercutting his prices and costing him business. Additionally, although Alfred was hoping to open up a new store or two, he’s just not been able to quite get there. Between payroll taxes, insurance costs, and utilities going up, he’s managing cost challenges on a number of fronts. Too bad he didn’t get sweet deal that we gave to Sweet Jesus.

The point is that selective incentives to recruit business are incompatible with a free market, and have unintended consequences. They are not given to small businesses, who have to grow against the odds without receiving any favors. They are typically given to large corporations who can make a large enough investment to deserve “special treatment”. This government favoritism to corporate interests is at the heart of what we all see as a “class struggle” that tears this country apart.

Simply speaking, corporations are not inherently evil because they are big. But when government gives any company an unfair advantage over its competitors… well, that’s evil. Finally, lack of an obvious competitor to a company receiving “corporate welfare” doesn’t make the handout any less damaging. The presence of government support may be the barrier that prevents a new company from entering the market and offering a better customer experience.

I’ve already commented on our international competitiveness, but imagine for a moment the combination of a President committed to ending taxes on productivity (that’s taxes on income and capital gains) and a TRUE free market Governor. Suddenly our nation becomes a global tax haven, and North Carolina leads among the states as one of the best places to start and grow a business. Such an environment would encourage entrepreneurship, family businesses, and put little guys on an equal playing field with large multinational corporations. (If you don’t believe me, read this.) So my final question to Bill Graham, and all gubernatorial candidates, is as follows:

How will you make North Carolina a domestic tax haven to encourage entrepreneurship, grow local businesses, and attract new businesses in a non-discriminatory fashion?

Regarding Democratic challengers, they will need to step out of the shadow of Governor Easley’s record. Anyone want to give money to a tire company in North Carolina?

Fellow seeker criminyjicket wrote:

The Chinese would love to see [Ron Paul elected President]. Ron Paul’s free trade stance would make the deep water ports they are building in Mexico a cash cow when our Southern border becomes as porous for Chinese goods as it is currently for illegal immigrants. Free Trade is the new Chinese mantra. The use of slave labor, ignoring International environmental laws, and incredibly lax quality control standards on exported goods make them the world leader in death exportation, and they are doing it with an aplomb that would make Kruschev jealous. Unchallenged by our current leaders, their trade practices would be encouraged by a Ron Paul administration.

My responses to his post were really too long to be Comments, so I’m using them to kick off this spiffy new blog. Here goes:

If anyone wants to understand what China is doing, and why, you really should read these insightful essays. They take you on a deep and well-documented dive to understand the “why” and the “how” of what China is doing vis-a-vis the U.S. in its managed currency float and export-driven growth. Additionally, it explains what factors can/will change this trend over time.

Basically, it explains that China is artificially keeping its currency (RMB) low to drive economic growth through exports. It does this by limiting purchases of RMB, and fixing the price at which RMB are exchanged for USD.

Practically speaking, when an exporter in China sells plastic trinkets to Wal-Mart and is paid in USD, the People’s Bank of China (PBC) forces the exporter to exchange those USD for RMB at the fixed rate. The PBC then “sterilizes” those “inflows” by selling a bond for an equal amount of RMB as is given to the exporter. That bond is typically bought by a Chinese bank or insurance company. Simply put, the bond buyer exchanges existing RMB for a bond that pays a (low) interest rate, and that bond goes on the books of the bank as a reserve asset. The result of this sterilization is that the conversion of incoming USD into RMB received by the exporter does not result in new net RMB in the monetary system — thus reducing the immediate inflationary impact of continuing to receive all of our paper dollars.

But then the PBC has to do something with those USD that it just bought at an artificially high price from the exporter. It’s easiest to buy our Treasury bonds. Lather, rinse, repeat a trillion times… and China has a massive foreign exchange surplus comprised largely of our debt.

But what’s the endgame? Since our Federal government is proving incapable of living within its means, EVENTUALLY we will overwhelm our trading partners’ (in this case China’s) appetite for our bonds. China knows they will not be able to keep their currency pegged this low forever — they’re already fighting inflation despite sterilizing inflows, as those bonds they issue become reserve that allow banks to make loans and further increase their money supply.

When you read the paper above, you’ll see that China’s goal is entirely pragmatic — they have a few hundred million people who are un/underemployed (imagine 2/3 of our country just sitting around with nothing to do…), and they need to turn them into productive, taxpaying citizens. So for the moment, the selective and highly managed application of foreign direct investment (FDI) allows them to develop more mature capital markets and the management and technological skills to use that capital effectively. Additionally, by keeping their currency artificially low, they prolong the amount of time that FDI can profitably exploit their people — thus maximizing the overall number of jobs created and the acquisition of intellectual capital.

What is resulting over there is a tremendous growth of their middle class. Within the next 4-10 years, the growth of this middle class as a domestic market will eclipse our importance as an export market. As that happens, China will be gradually less concerned with supporting the export business, and currency controls will be further relaxed.

As the Chinese middle class begins competing with us for goods, and as the RMB strengthens against the USD, China as an exporter of cheap goods will turn into China as a voracious consumer. Everything we need to live (food, energy, and plastic trinkets) will be more expensive, because we will be competing with 1.3 billion consumers *and* competing with a weaker currency in global markets.

Like it or not, this is our current trajectory. It has absolutely nothing to do with Ron Paul, Barack Obama, Hillary Clinton, or Mitt Romney. It has to do with China, in its totalitarian government’s rational self-interest, encouraging the prolonged exploitation of its un/underemployed people in order to maximize job creation and growth of their tax base. In other words, if China DIDN’T aggressively manage its currency, and DIDN’T aggressively manage foreign direct investment, the huge disparity in labor and other manufacturing costs would have disappeared in a manner of a few years at most… and fewer net jobs would have been created. Again, don’t just take my word for it… read the above paper and additional references, and draw your own conclusions.

Ironically, some analysts smugly think we’re “winning” as we trade our paper dollars for China’s manufactured goods. It seems like a free ride, but in the end, the joke is on us. You see, the intellectual capital and know-how we’re exporting along with our foreign direct investment is fair compensation for the declining value of China’s dollar reserves. If it wasn’t, why would China continue willingly down this path?

So where does Ron Paul come in? Short of a military or trade war, we can’t change what China is doing. But isn’t this situation serious enough that we should consider a war, if only a trade or economic one? Indeed, some folks in Congress who don’t understand this situation are agitating for a trade war right now. What these august leaders don’t realize is that if we start a trade war, we will lose. Badly.

In a trade war, China has two retaliatory options: stop purchasing U.S. treasuries, and selling its existing dollar holdings. If China stops purchasing our debt (which our government keeps selling to the tune of $1-3 billion per day to fund operations), the Federal government won’t be able to fund its operations and interest rates will increase. If China actually starts selling, the situation is even more severe — not only does the dollar plummet, but interest rates will go through the roof. Mind you, China is not incented to initiate these hostilities — after all, their retaliation would make their dollar holdings worthless, and disrupt their growth — but we’re currently living in situation that’s best described as mutually-assured (economic) destruction.

But if we even want to TRY and change what China is doing with respect to the environment and human rights, our government’s inability to live within its means and the continued debasement of our currency further weaken our position in trade and diplomacy. A sound, and strong, currency with a free market economy is the only way to slow the capital flight that’s moving jobs and opportunities overseas. If we embrace the entrepreneurial spirit that encourages equal competition domestically as well as internationally, stop having a government that serves corporate interests, and radically reduce our tax burdens, we won’t be worried about job growth. People will be more empowered to become owners, as opposed to just employees, and instead of worrying about job growth, we will be worried about finding workers.

Having such an economy will give us a powerful platform for diplomacy to advance the cause of freedom and human rights. What better way to stand for freedom than to have an economy strong enough, with so many jobs and opportunities, that we can open the door to appropriate LEGAL immigration, and again become a refuge for huddled masses yearning to breathe free and create value?