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U.S., China trapped in mutual financial reliance

The U.S. and Chinese economies have become intertwined, locked in a kind of co-dependency that neither side thinks is particularly healthy, but which neither will move to break.
/ Source: a href="" linktype="External" resizable="true" status="true" scrollbars="true">The Washington Post</a

The U.S. and Chinese economies — the world's largest and the fastest-growing major economy, respectively — have become inextricably intertwined, locked in a kind of co-dependency that neither side thinks is particularly healthy, but which for the moment neither will move to break.

As President Obama begins his three-day visit to China on Monday, he finds himself in a country that depends largely on the United States as the most important market for its cheap goods. America, with growing budget deficits and a huge national debt, depends on China as the main holder of U.S. Treasury securities, with Beijing's stockpile officially estimated to be nearly $800 billion.

The arrangement has created what many have called a modern economic version of the old Cold War doctrine of mutual assured destruction: Either side could wreak havoc on the other, but would be guaranteed to scuttle its own economy in the process.

"We are in a fairly advanced stage of economic mutual interdependence," said Kenneth Lieberthal, a China specialist with the Brookings Institution in Washington. "I think the Chinese can pull the rug out from under our economy only if they want to pull the rug out from under themselves."

Some U.S. economists and members of Congress have expressed alarm about a loss of economic sovereignty, and about America's being "in hock" to China. Beijing could try to wreck the American economy by dumping U.S. Treasury securities, they warn, or move to influence U.S. policy on sensitive political issues, like Taiwan, with the threat of dumping securities.

But some of their Chinese counterparts fear that the large holdings of U.S. debt amount to a financial tether, making China "a prisoner" of the U.S. dollar.

"We are really put in a corner," said Yu Yongding, an economist with the Chinese Academy of Social Sciences. "China will not take any irrational action. We don't want to hurt you — because if we hurt you, we hurt ourselves first. It's a kind of synergy."

Nicholas R. Lardy, a China expert with the Peterson Institute for International Economics, agreed that the Chinese government has little incentive to begin any large sell-off of U.S. securities, and probably could not find a market to buy them even if it did. "If it was known they were beginning to sell their holdings, prices would come down and they'd take bigger losses. They'd be shooting themselves in the foot," he said.

"They're in the dollar trap," Lardy said. "There's no easy way out of it."

Lieberthal said the fact that China holds so much U.S. dollar debt makes it "extremely cautious" of any actions that might hurt the American economy — and damage its own considerable investment. But unlike the Cold War, he said, the current economic version of a stalemate is not necessarily antagonistic; both sides benefit.

"I think it is neither of our interests to see that unravel," Lieberthal said. "If we can find ways to manage our differences and cooperate where we can, we both win. If not, we both lose."

Thousands of closed factories
China's dependence on the U.S. market for exports is perhaps most strongly felt in Guangdong province in the south, and particularly in the industrial city of Dongguan. There factories churn out shoes, clothing, machine parts and Christmas toys, most destined for American cities and towns.

With the United States spiraling into recession last year, thousands of factories in Guangdong closed or cut production, and hundreds of thousands of migrant workers from other provinces went home.

The Q-Bay Cartoon & Animation Development Co., for example, produces action figures of American sports heroes as well as Disney characters. Sales dropped 20 percent last year as demand from the United States fell. But after a dismal year, the factory is hiring more workers to meet the rush demand for Christmas orders.

Also in Dongguan, the Huajian Group shoe factory exports 90 percent of its shoes to the United States, including name brands such as Kenneth Cole and Marc Fisher, and some pink, blue and gold high-heeled strappy numbers for the Paris Hilton brand. Last year, the factory's orders dropped as much as 15 percent compared with the year before, and profit was cut in half.

This factory, like others in Guangdong province, is seeing a slight uptick in orders — a sign of the nascent economic recovery in the United States. But factory officials said buyers are a lot more cautious, placing smaller orders and giving the factory much shorter — one-month — turnaround times.

Despite the interdependence and the mutual benefits, many in both countries remain deeply suspicious of each other's intentions.

"At this point, no one can say China and the United States are friends," said Yan Xuetong, director of Tsinghua University's Institute of International Studies. "It's better to say we are competitors, like McDonald's and Burger King are competitors," Yan said. "McDonald's wants to open more shops, not destroy Burger King and in the process destroy itself. Why would we be so silly as to hurt ourselves?"

There are signs that the interdependence may ease slightly on its own, without either side making any dramatic moves. One consequence of the prolonged recession is that Americans are saving more — and putting more money into mutual funds that buy U.S. Treasurys — so the need for the U.S. government to sell securities externally is gradually being reduced.

Similarly, China's trade surplus is gradually coming down. And while there has been no sell-off of Treasurys, there were reports here over the summer that China sold a small portion, about $25 billion worth, and sought to diversify its foreign exchange reserves.

One concern voiced by critics in America, and by human rights advocates in this country, is that the growing economic links between the countries — and the U.S. dependence on China financing its debt — is causing the Obama administration to mute its criticism of China on human rights issues. U.S. officials dismiss the accusation.

"The Americans need to not just concentrate on economics," said Mo Shaoping, a Beijing lawyer specializing in human rights and press-freedom cases. "Many dissidents are disappointed that since Obama entered office, he only talks about economic and climate-change issues with China, even though there are a lot of human rights problems. . . . Obama is trying to avoid these issues."

Yan Xuetong of Tsinghua University said much the same thing — and gladly so.

"The Obama administration needs China's money," Yan said. "When he wants to borrow Chinese money, he will say something nice, and not talk about human rights."

Researchers Liu Liu in Beijing and Zhang Jie in Beijing and Dongguan contributed to this report.