60% of US deficit debt is with China - $22.1 Billion

On Friday, as President Obama crossed the Pacific to begin his first trip to Asia, the Census Bureau released its monthly trade tally.

The headline was that the U.S. trade deficit grew to $36.5 billion in September, more than forecasters expected and the biggest such figure since January.

Incredibly, the really dramatic number was that 60.5% of the deficit, or $22.1 billion, was with just one country: China.

Obama arrived in Beijing Monday, but experts don't expect anything to get resolved. The U.S.-China economic relationship has become far too complicated and contradictory to benefit from simple solutions.

Within the U.S., the imbalance is mainly seen as the product of protectionist policies by China, in particular China's refusal to let its currency, the yuan, appreciate against the dollar.

It's universally agreed in all countries, except China, that a freely floating yuan would be worth significantly more than the 15 cents it currently trades for. By keeping its currency's value artificially low, China makes its products cheaper in the U.S., thus encouraging and maintaining the imbalance in trade.

History shows us that when China linked its currency to the dollar in the early 1990s, it was not out to create trade surpluses but to establish a bit of stability in the turbulent global currency markets.

During the emerging-market currency crises of 1997 and 1998, China's success in keeping the yuan fixed at 8.3 yuan to the dollar was applauded in the West as a major contribution to averting financial chaos.

Since 2005, China has been willing to allow the yuan to appreciate a bit (the current exchange rate is 6.8 yuan to the dollar) but only on its own extremely conservative terms.

Meanwhile, in China, it is fashionable to blame U.S. trade deficits on the debt-addicted ways of American citizens and their government and there may be an element of truth to this.

If the U.S. borrowed and spent less, its trade imbalances would be smaller but China has been enabling this profligate behaviour for years by buying trillions of dollars in U.S. government debt and mortgage securities as part of its long term strategy and continuing efforts, to keep the yuan from appreciating against the dollar.

It's a bit reminiscent of the seemingly endless wrangles in the late 1980s and early 1990s with Japan, which accounted for the bulk of the U.S. trade deficit in those days. The trade deficit with Japan never shrank much in dollar terms, but it became smaller as a share of GDP starting in the mid-1990s, and was eclipsed by the trade imbalance with China in 2000 (in September the U.S. trade deficit with Japan was $4.1 billion, compared to $22.1 billion with China).

The issue was never resolved, but it ceased to seem so important. The question now is whether the same could happen with China?