Odd Lots - Lots More on JD Vance and the Future of the US Dollar

Episode Date: July 19, 2024

When people talk about the special role that the US dollar plays in the global economy, that's often characterized as a privilege for the United States. It's seen as giving the government in Washington a great amount of fiscal flexibility, and it can be used as a means of punishing adversaries, by cutting them off from our banking system. But could it be that the currency dominance is actually a burden? JD Vance, the Republican nominee for vice president, has made comments to this effect that dollar dominance doesn't serve America's interests well. On this episode of Lots More, we speak with Matthew C. Klein, co-author of the book, Trade Wars Are Class Wars, which helped popularize this line of thinking. We talk about the drawbacks to the dollar's strength, how it can hurt the US economy, and what policy measures might ameliorate these effects. We also talk about trade policy more broadly, and what effects a more aggressive tariff regime might have under a second Trump administration.See omnystudio.com/listener for privacy information.

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Did you watch J.D. Vance's speech last night at the RNC? I saw some clips. Did you watch the whole thing? No, no. But I saw some clips as well. Do you think he has read Trade Wars or Class Wars? Matt, as far as you know, has J.D. Vance read the book you co-authored with Michael Pettis? as far as I know, definitely people on his staff have, and I would not be surprised if he has himself. Oh, there you go. I did a deadlift.

One, two, three. Hedgmy. Okay, go. What's the other? Gemini. Barges. This is an after-school special, except... I've decided I'm going to base my entire personality going forward on campaigning for a strategic pork reserve in the U.S.

Where's the best with imposten? These are the important questions. Is it robots taking over the world? No, I think that, like, in a couple of... years, the AI will do a really good job of making the Odd Lots podcast. And people will say, I don't really need to listen to Joe and Tracy anymore. We do have... Cha-ching. The perfect guest. You're listening to lots more, where we catch up with friends about what's going on right now. Because even when the odd lots is over, there's always lots more. And we really do have the perfect guest. We're here with

our friend, multi-time guest Matt Klein. Everyone is reading from your hymnal. Must be pretty wild. Also, listeners, in addition to reading the book, go check out his newsletter, The Overshoot, which is, you know, it's sort of like, you know how people used to subscribe to The Economist, but then never read them and they're famously piled up. That's how I am with substacks, except Matt's is one of the ones that I regularly open. I thought you were going to say, like, Matt's is one of those newsletters that I don't read, just like the economist. No, his is really good. Hey, so I don't like to subscribe. No, I appreciate that. That's very kind of you guys.

So, yeah, one of the things that is extremely trade wars are class wars, coded, so to speak. And this is one of these ideas you don't hear, discuss popularly, particularly among politicians or really anyone. But it's like, oh, you're really in the know if you make this point, is this notion that maybe the central role of the U.S. The reserve currency status is not so great for the U.S. And he has made that point in interviews. And I think even in some testimonies that, like, he's not crazy about the dominance of the U.S. dollar. Yeah, that's right. I mean, I think he asked Fed Chairman Jerome Powell about this a year ago.

So, yes, that's right. Wait, are you surprised at all that the dollar's reserve currency status has been picked up as, like, a populist talking point? I mean, seriously. I mean, I'm going to say no because he's not the first one, right? So Josh Hawley also was, you know, pettist-pilled, as it were. And I remember when the book came out, like having conversations. conversations with people on his staff. I didn't even think before the book was officially released. I mean, they somehow got some, you know, early preprint or something. So it's definitely

percolating the ideas in that segment of the Republican, right? It's obviously also, I mean, you probably saw the article that Robinson Mayer wrote and he did. There's a lot of people in the Biden administration who've also read the book and I think gotten some good takeaways from it. So this is, you know, it's interesting to see that having a really cross-part is an appeal, even if the types of people who've liked had been very different from each other and very different in their priorities for other things. But they seem to, you know, it's interesting. to appreciate the analysis we put together. I mean, one thing that is true is it seems like there's been a slight evolution or at least a

clarification in Trump's approach to the dollar. So do you remember, like, in the early days of his administration or when he was running, he used to talk about like, oh, a lower dollar would be better for U.S. trade, but then he would also talk about how, you know, how great the dollar was in the sense of its position in the international financial system. And so it always felt like there was a little bit of tension there. But I guess as time has gone on, he's sort of migrated towards clearly like this idea that actually the reserve currency status isn't that great for the American economy. Yeah, I don't know if I can, I don't feel comfortable saying what Trump's actual views are on this because it is sometimes part of the words. But yeah, I mean, I think at least it would be more coherent to say, say the way sort of the advances laid out that the use of the dollar outside the United States. and its popularity as a place for foreigners to save money in dollars,

that that has harmful effects to the United States because it makes a dollar relatively more expensive than otherwise would be. That at least is a coherent point. If you can disagree with it, but it's coherent, as opposed to saying we want the dollar to be cheaper and it's great that the dollar is reserve currency. Wait, so full disclosure, I have probably in my life in conversation said something like, well, did you know that the dollar reserve currency status is not a privilege or a burden? but the only reason I said that is probably because I read it in your book or saw it in one of your tweets.

And I actually don't even really remember the argument. I was just trying to sound intelligent and heterodox. No, I'm full disclosure. You're a smart guy. So if you believe something, I'll just probably accept it on faith. But why do you remind us, what is the gist here of why maybe it's not so good? Sure. So basically, I mean, first of all, you know, people talk about the reserve currency, and that's a little bit of a misnomer.

Like the reason people are about the dollars. Right. Right. I mean, the dollar is significant just because the United States is really big, right? There are other countries where their currencies are outside, like the UK is a really good example. Switzerland is a good example. France in some ways. But in general, what it means is that your financial system, your domestic financial system has evolved and adapted to meet the needs of foreign savers and borrowers at least as much as people in your own country. And that means that what people outside your country want to do can potentially have big impacts on your domestic economy because that's where the adjustment ends up happening. And that can be good or can be be bad, depending upon, or at least it needs to be, it should be managed. If it's not managed in some way, it can lead a lot of real problems. So in the case of the United States, what this has meant is that over the past 40 plus years or so, the overall preference of foreigners has been they want to spend less than they earn and save the difference by buying financial assets. And what that is meant is that Americans have to be on the other side of this and borrow more selling financial

assets to them in exchange. That's what has happened to been the case of the past four. 40 plus years. And what that's meant is that Americans have been borrowing more than otherwise they would. That means more debt. And it also means some combination of either incomes being lower than they otherwise would be or spending being higher. Now, whether this is good or bad or how it translates into, you know, what American living standards and the rest of the world, that depends on a lot of specifics. And that's where it's important to get into kind of the nitty gritty and say, well, we don't necessarily want to just, you know, close the trade deficit by any means necessary. One way to do that, of course, is you just impoverish Americans so they spend less. That's not good. Right. Which, by the way, used to be sort of the orthodox view of people, oh, well, if you don't like the current account deficit, it's because the federal budget deficits too big. So we need to raise taxes and cut spending, which is essentially saying that because other people in the rest of the world, for whatever reason, are choosing to live below their means. And in the words, spending less and consuming less than they're producing, that therefore Americans have to live worse off. And that doesn't make sense. Obviously, it would be better if people in the rest of the world live better. And that would encourage a healthy rebalancing in the U.S. where we would generate more income selling to foreigners. But that's, you know, if that's not to happen and the question is what do you do about it and uh you know we wrote in the book most of the book is just sort of explaining all this in more detail providing some historical context showing it across different countries and time periods but you know the conclusion we did say okay well well you've read all this hopefully you understood it and taking it in like what is that what are the implications for a country like the united states and you know michael and i had a bit of a you know discussion about how to put that

writing the conclusion was very hard to sort of synthesized different points of view and and i think we came to a good of sort of constructive synthesis here and basically saying if you think that foreigners are not going to change their behavior and they're just going to continually be this net inflow of finance in the United States and the corollary being that people in the rest of the world are producing a bunch of things are not using it for themselves and selling it to Americans, then there are things that the U.S. can do to make that as beneficial for Americans as possible. The first thing is if someone is going to be borrowing, because someone in the U.S. is going to be borrowing to offset this. It should be the federal government because, you know, their ability to service the

debt and not face runs and so forth is going to be much better than a private sector. The private sector borrows, even if people still want to buy dollar assets and not always want to want to buy those private assets and that create real problems. That's what happened in the 2000s, right? There was never a situation where foreigners stopped wanting to hold dollars. They just wanted to stop holding particular types of dollars and that created all sorts of runs. If the federal government, it's less likely to be an issue. Okay, so that's one thing. That's like step one. Then step two is because you want to make sure your private sector is not being unreasonably, you know, burdened by this.

And then you say, okay, well, we should figure out useful things we can do with the money, right? I mean, if the government has been borrowing a lot more than otherwise would be, we might as well find things that are constructive. So one thing you could do, which I think would make sense is say, okay, well, obviously, you know, you have a society with some people are poor than others. Some people are more financially constrained than others. Some people are more indebted than others. If we can, you know, to a certain extent, increase overall incomes and living standards

for people, that would be constructive, right? people would have more money, they'd be more financially secure, less precarious, they could buy more things. That would be good for jobs and incomes and well-being and social well-being and so forth. That's one thing you could do pretty straightforwardly. Another thing you could do is you could say we have a lot of unmet investment needs. We know what they are just because of various reasons, you know, where there have been backlogs, we haven't done them or the things we think we're going to need in the future. And you can say we can borrow, have the Treasury borrow at, you know, relatively lower rates than

otherwise would be the case and support the financing of these investments. That would be productive and hopefully, again, make people's living standards higher in the future. And then the last thing that I think would make sense in this context is to the extent that foreigners are consuming less than you'd otherwise expect based on what they're producing and they're creating relative to that in excess of production and selling it, you just want to make sure that America's ability to produce things or whatever country we're talking about here, it doesn't have to be the U.S., could be the U.K., is it unreasonably displaced. There are reasons why it's good to have a sufficiently large, diversified complex manufacturing sector in your country for productivity reasons. for national security reasons, and you want to be able to preserve that and not have it unreasonably. Obviously, if there are technological changes

or whatever, things like that happens, you know, doesn't necessarily make sense for the U.S. to have a huge, like, T-shirt manufacturing industry, but you don't want to have a situation where because of people's savings preferences, which are totally unrelated, that, like, the U.S. manufacturing sector or for other countries that supplies,

is not unreasonably demolished. And so some, it makes sense in that case that have some government spending set aside to make sure there is always demand, for American manufacturing. And if you had this perspective, which is what we laid out in the book, you can, I think, reasonably say that in many ways, a lot of what we've seen in the past three years has really been consistent with that, that kind of policymaking.

I think that's been constructive. The one thing, well, there are a lot of things that I don't get nowadays, but one thing that I really don't get is, like, Trump, the Trump administration, like, insofar as they've laid it out so far. They seem to want, like, disparate and conflicting things. So, you know, a weaker dollar, a change in the dollar's reserve status, maybe, a reduction in the trade deficit, lower interest rates, and lower inflation. Yeah, lower inflation seems to be like the big contradiction here. And I also feel like you could make a very strong argument that if we've learned anything from the past few years in terms of Americans' economic preferences, it's that Americans hate inflation a lot.

more than they seem to like full employment, right? So, like, how does all this come together and actually impact prices? Sure. Well, so these are all great questions. First of all, I'll say, we wrote the book before it became apparent that people hated inflation more than they hated full employment or under-employment. So, you know, that's our fault, I guess. I still think it's better to have a full employment and a little more inflation than the other way around, but, you know, mileage may vary. But, yeah, I agree that it is contradictory. I mean, I think you could plausibly put together a sort of a reflationist agenda, the kind of thing that we're going to, we're would have made a lot of sense in, say, 2009, 2010.

But does that fully make sense now? Or if it does make sense now, are people prepared to accept the full consequences of that? And I think the answer is probably no, right? I mean, first of all, compressing the trade deficit, there are two sides of that, right? You can lower imports. You can raise exports. If you do it by lowering imports, then, again, I mean, one way of doing that is you somehow manage to make more things domestically, and so you have less need import stuff.

Okay, fine. or you do it by just buying less stuff domestically because you're poor or you're just buying less stuff. So again, there's like all these different layers of how this plays out. Also for exports, by the way. You can increase exports because you're selling less stuff in your home market, but you're able to sell it somewhere else. Or because you're just producing more and as a consequence, you know, whatever shares exported goes up. So there's four different possibilities there. You can have different combinations.

They all have different implications for living standards, for potential interactions with how much spare resources are available and what that might mean for inflation. And so, you know, it's dangerous to oversimplify these things and just say like, oh, we want to have a narrower trade deficit. I mean, what you should care about is things like financial stability, things like full employment, things like making sure that, you know, you're having a diversified, you know, sophisticated, you know, domestic production base. That's tricky. But, I mean, that's kind of, I think, how it would make sense to prioritize things. Right. A lot of this is about are you addressing the symptom or the underlying issue? Right.

If the dollar were less central in the global economy, would that constrain foreign policy insofar as sometimes we seize the dollar assets of other countries? Or we cut off individuals, companies, and countries from banks that have access to the dollar system. Does that have a constraining a national security effect? Potentially. If you look back historically that some of the people who were most in favor of maintaining the status quo, have been people in the national security establishment who look at from that perspective. So that's a potential issue. The flip side, though, is like what are the other currencies that play a larger role potentially?

I mean, one, I think obvious one, which nobody talks about anymore for reason they don't understand, but it would be the euro, right? Like, the European economy in the aggregate is very large. It is sophisticated. It's got a lot of stuff. The European financial market in the aggregate is, again, large. It's open. But there's a lot of issues they have in terms of fragmentation, in terms of legal regime,

in terms of just weird ideological biases against government borrowing, particularly, again, encourage the fragmentation. And so that basically, they're really punching below their weight. I mean, that's sort of the most obvious one. You can also talk about Yuan, which is a different story, but Europe's an obvious one. And so from foreign policy, like,

there are situations where sometimes you have disagreements to the U.S. and Europeans about foreign policy, but on the really big stuff that's happened recently, there's been locks up. And same thing with Japan and Switzerland. And so you could have a more, diverse pluralistic regime of financial systems. And nevertheless, you know, for when things matter, I mean, you talk about sanctions and banks. Like there's an element where cutting off banks is important,

but also what it is is like you are being cut off from a real economy as well. And so the extent that the real economy of the U.S. and allies writ large is still very large relative to the global total and very, very large when it comes to, you know, certain sort of essential high-tech components. You'd be able to swing a big stick if you wanted to, even if that were not the case. I think that people shouldn't, they should not be so afraid of that outcome that they, you know, ignore what's good, you know, policy. And by the way, I should also add that sometimes you hear people make an argument that sanctions are bad because it undermines the reserve status, which is, I mean, that's just circular, right? Like, the whole value of reserve status or being

popular is that you can do sanctions. Then you can't do same. Like, I mean, that doesn't make sense. So, again, you have the threat of sanctions. That's always there. You can get the news whenever you want it with Bloomberg News Now. I'm Amy Morris. And I'm Karen Moscow here to tell you about our new on-demand news report delivered right to your podcast feed. Bloomberg News Now is a short five-minute audio report on the day's top stories. Episodes are published throughout the day with the latest information and data to keep you informed. Yes, there are other products like this from a variety of news organizations. But they usually rerun their radio newscasts throughout the day.

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Listen to the latest from Bloomberg News Now on Apple, Spotify, or anywhere you listen. This might be a kind of weird question, but you know, you talked about the conclusions in your book and the idea of, okay, well, we can't really force foreign countries to necessarily change their behavior. And so if the U.S. really wants to reduce the dollar's role as a reserve currency, then like here are some things that the U.S. could do. I guess my question is, like, is there anything more, like, aggressive that a Trump? Yeah, I, absolutely right. And so, so actually, you're absolutely right. So what I laid out to you was, if we assume that nothing is going to change on the outside world, world, here's how we can adapt U.S. policy to be as beneficial as possible. The alternative,

which we also discussed in conclusion, this is where, again, Michael and I were kind of trying to figure how to put all this together in a way that was coherent is you say, you know, screw that. We're just going to, we're just going to, you know, it's their problem, right? And basically what you would do is you have some kind of, you know, capital controls or what the IMF now calls capital flow management measures, I think, is the term they came up with like 10 years ago. But, you know, if it's literally the case that foreigners cannot buy U.S. financial assets or you make it prohibitively expensive for them to do that, that would have all sorts of other effects. And basically, that would be very chaotic, or could be very chaotic, could be very anarchic,

could end up leading to an overall poor world. Certainly, I think, then the one where we have a kind of constructive approach, but if your view is foreigners are never going to change and you don't want to do the things we laid out, because to be clear, the alternative path that I mentioned earlier, that does come, I think it's overall beneficial, but it does come with one specific cost, what is that federal debt would probably rise to GDP. I think overall that's not a problem, but that is like one specific thing you could point to. And if you for some reason really don't want that, then the alternative is to say, look, you have this, you know, you, the rest of the world collectively produce more than

you use. You can't sell it unless you sell to us. So now we're saying you can't sell to us, good luck, figure it out. Now that's going to hurt Americans initially at first, but it's going to hurt other people more probably. And so that's where that is the alternative. I mean, you can sort of see, I mean, the extent that there have been people and across the political spectrum feeling receptive to what we wrote in the book, I mean, you can see that as being a divide, like, which approach you prefer. I mean, I think you can tell from what I'm saying, what I think makes more sense. Obviously, another really good thing would be, you know, the places that have these sort of persistent

periods of under consumption, you know, Europe and China most obviously, but not exclusively. If they, you know, increase their own living standards, that would also be very helpful. increasing consumption and investment were appropriate. But if that's not going to happen or you're not sure it's going to happen, then it's, okay, well, you can really try to force them to try to figure it out. Or you say, okay, we're just going to take advantage for ourselves in a relatively constructive, positive some way. So there was a great interview this week. Trump sat down with our colleagues over at Bloomberg Business Week and talked a bunch of things.

And I know, I mean, this is sort of obvious. He loves President McKinley. He called him the tariff king. McKinley made this country rich. Can you give like the 30 second, 60 second summary of McKinley as trade policy? And what would it mean in practice or what would the impacts be if we brought out the McKinley playbook today? Oh, man.

Well, you know, it happens to be the case. I just actually finished reading a book, a history of the Gilded Age and ended with the election of McKinley. So unfortunately, I didn't quite get to McKinley. But I will say the big increase in tariffs preceded McKinley. And that was, it was, I'm going to embarrass myself. They preceded McKinley, and in fact, there was an election before where the Democrat won, I guess Garfield was against the tariffs, but they didn't, and managed to repeal them.

So you had a big increase that was, you know, from, I'm going to butcher my memory. Anyway, but the point is, the tariffs had been raised in the 1880s, a very early, very early 1890s in state high. The thing that arguably was really helpful for McKinley specifically is you had big discoveries of gold reserves, in the late 1890s and exploitation of those reserves and that eased global monetary conditions after a long period in which gold supplies were dwindling relative to, you know, financial needs. And so that probably more than anything else was significant. That wasn't obviously helpful just for the United States, helpful for everyone. And so if I were to sort of pinpoint something specifically, that would be, you know, if you have a big campaign about the gold,

I mean, that's partly also why, you know, like the Bryan campaign kind of fizzled. It was like, okay, well, you're talking about how gold is so restrictive, right, at the time when gold supply is going up like nobody cares. Huh. And so that I think was definitely a helpful tail end for McKinley. More broadly for the U.S., I mean, it really goes back to the Napoleonic Wars, you know, a long time earlier where the U.S. has just cut off, you know, against its will from trade with Europeans.

You know, that was a very extreme trade bar and that forced the development of indigenous industry. And then ever since then, you had obviously with some fluctuations over time, but support for various kinds of protective tariffs that lasted basically until the end of World War II with fluctuations up and down. Well, what would happen, regardless of what happened with McKinley, we know Trump likes tariffs. He imposed tariffs on China. Biden has continued and increased tariffs. And we also have like tariffs on other countries too. I think there's some European tariffs. But let's say we had like a much more

aggressive tariff regime. What happens if we try to implement some of these policies that you hear people dream about is like, oh, we don't even need an income tax anymore. We could just do it all with tariffs. Like what happens if we get like true hardcore tariffs around the world? Like how does that Yeah. In your view. So, arithmatically, I don't think it's possible to replace income tax with tariffs. I mean, just it's sort of rough ballpark here. Imports are something like 10% of GDP.

So even if you, I mean, the amount you'd have to tax those imports to offset the income tax revenue, which is, you know, about 10% of GDP. It's pretty high. So that's, and that assumes, of course, that we would, you know, import the same amount of stuff. So I'd be skeptical of that. In general, what you would expect to happen is that if you put tariffs on things, then it means is that because the price is more expensive to import from abroad, that you encourage production of that thing in the United States. I don't know if you do it for everything, then it moves a lot of stuff.

Now, what that does with the trade balance is ambiguous, because presumably that creates an incentive because the U.S. is a large domestic market to invest in the United States to be able to produce those things. Oh, yeah. Now, maybe you say that's the gold policy, but that doesn't necessarily mean it's going to have an impact on the trade balance because you still have to import all the stuff to invest. I mean, not importing everything, right, but there's going to be a degree, you know, you're building up your capacity.

unless you're squeezing consumption some other way, right? Like something has to give. And so that's why, I mean, usually what ends up happening is the textbook thing is that your currency will appreciate if you put on tariffs. That's how it's sort of supposed to work. I mean, maybe it doesn't always do that. But by the way, that's why the textbook answer is that tariffs hurt your exporters. It's not because that, like, retaliation, although that is certainly a factor,

it's because the currency effect means that your imports are the same and then you export less. That's the sort of traditional argument. Now, you can argue that there's specific cases where that might not be the case. It depends on whether it's revenue unusual. Right. If you have a 10% tariff on all imports and you don't offset that with some tax cut or spending increase elsewhere, which is not what anyone's suggesting, but like just hypothetically, that's something like a fiscal tightening of around 1% of GDP. And obviously, and that skewed towards in many ways consumer goods. So like that might reduce the trade deficit insofar as it reduces income and spending power. But that's not something that makes you, I mean, that's not to say a good thing. It's just a form. It's like a weird way of doing like a sales tax or something in that kind of. The other broader picture is if you are focused on shifting the composition of economic activity, which is what you're essentially trying to do with a sort of universal tariff, you're saying, you know, we actually do want to make more T-shirts in the United States versus import them.

And assuming you're already, and this is a big assumption, but assuming you're already at sort of full capacity in terms of your labor and material and capital resources that are available in your country, then that means that people are going to be doing, there's going to be some shift for people doing, stop doing things they were doing that presumably now people think are valuable to switch to doing other things that we need that we, you know, because we're, you know, we're cut off. Now, 10% tariff probably's not going to do that. So it's like small percentage terms, like a 100% tariff or whatever. Like that, there's a point at which that would happen if we just sort of stretch out, you know, and think about what this means in theory. And that's the argument

for why, you know, it makes people worse off and why it impoverishes you over time. Because the thinking being like if you used to be going from making some valuable software, health care thing and now you're doing, you know, T-shirt assembly or something. I mean, this is like, you're going to be poor as a society. And so do you want to do that? And like, the argument normally is no. Now, that's different from talking about the tariffs that we actually have right now, you know, both that Trump did and that Biden have done are much more targeted on specific countries and industries. So it's not really equivalent to that. And you can argue that's for national security reasons as much as anything else. And so that's like more complex.

But I mean, if we're talking about it's like the conceptually broad-based tariffs, like that, I think is the way to think about it. Since we're talking books, and since I asked earlier if you thought J.D. Vance had read Trade Wars or Class Wars. Have you read Hillbilly Elegie? I've not. Oh. I read it. Matt, I thought you would have read it. I mean, it has that whole, like, hollowing out of the Rust Belt kind of theme, supposedly.

No, I know. It does. I don't know. This is, you know, shameful in my part, but I only have so much time to read books. I like reading, you know, history books more than anything else. So I'm not, I've not read it. You know, I've read articles about it. Haven't we all? Yes. Lots more is produced by Carmen Rodriguez and Dashel Bennett with help from Moses Ondom and Kail Brooks. Our sound engineer is Blake Maples. Sage Bauman is the head of Bloomberg podcasts. Please rate, review, and subscribe to Odd Lots and Lots more on your favorite podcast platforms. And remember that Bloomberg subscribers can listen to all our podcasts at free by connecting

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