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China and Madoff Fraud Parallels and How All U.S. Trade is Adversely Affected

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The New York Times October 4, 2011 editorial: The Wrong Way to Deal with China starts with the sentence, "China is undeniably manipulating its currency." If China's currency manipulation is undeniable, it follows that the Chinese economic miracle to a greater or lesser degree is a product of the perpetration of a fraud. China's currency manipulation (1994 -- 2011) is the most recent fraud, in terms of duration, to rival the Madoff Ponzi scheme (pre-1989 -- 2008). This begs the question: Why have these frauds gone on for so long?

With regard to China's currency manipulation, the vast majority of commentators are divided into two factions: those who deny that China engages in currency manipulation, and those who contend that China keeps its currency undervalued. Only a handful contend that China actually keeps its trading partners' currencies overvalued.

Madoff observers were similarly divided, with the vast majority denying any fraud at all, and others contending that Madoff was defrauding brokerage customers to enrich his investors, but not defrauding his investors. Only a handful believed Madoff was defrauding his investors, via a Ponzi scheme. The magnitude of Madoff's Ponzi scheme shook America's confidence in our financial markets to the core.

America's confidence in free trade should be shaken to its core, by China's ability to keep its major trading partners' currencies overvalued, for over 17 years. The ramification of whether a country is keeping its currency undervalued as opposed to keeping its trading partners' currencies overvalued is not inconsequential. From the perspective of U.S. exporters an undervalued Chinese currency acts as a tax only on exports to China, whereas an overvalued U.S. Dollar acts as a tax on all exports from the United States. Since exports to China are about 1/14th of all U.S. exports, an overvalued U.S. Dollar is 14 times as damaging to the American economy as an undervaluation of Chinese currency, all other factors being equal.

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From the perspective of U.S. exporters, an undervalued Chinese currency should only concern our exporters to China, while an overvalued U.S. Dollar should concern all American exporters. China's manipulation of the Dollar taints all U.S. trade, therefore priority one should be to stop China's manipulation of our currency before the United States even considers entering into any more free trade agreements (FTAs). Entering into additional FTAs before China's manipulation of the Dollar is stopped is analogous to building a castle in the sand.    

In Chapter 19 of his 1817 classic, On the Principles of Political Economy, and Taxation , David Ricardo, the father of political economics, warned that war, the removal of capital, and a new tax are destroyers of the comparative advantage which a country before possessed in manufacturing. The new tax that Ricardo writes about need not be a tax assessed within the United States. Taxes on our exports by our trading partners would suffice to destroy the comparative advantage which the United States previously possessed in manufacturing.      

House Speaker John Boehner (R, Ohio), said recently: "It's pretty dangerous to be moving legislation through the U.S. Congress forcing someone to deal with the value of their currency". It is even more dangerous for the U.S. Congress to be unresponsive to another county's manipulation of the value of our currency for over 17 years. Rep. Boehner is among the political elite, which includes most of the media that are too smart to believe in the tooth fairy, yet staunchly defend that free trade has remained untainted for almost two centuries, in spite of so many participants trying to gain an advantage, by gaming the system.

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In his book on Madoff's Ponzi scheme, No One Would Listen, Harry Markopolos describes a very typical attitude on Wall Street to go along with the unspoken industry code, namely, "If it's not my business and it doesn't affect my business, I'm not going to get involved."

China's currency manipulation, which began in 1994, initially barely affected Americans, but as it has progressed, especially since 2001, it has adversely affected more and more of us. China apologists and appeasers don't want the dots connected between China's currency manipulations and our current economic woes, just like Wall Street didn't want the Madoff Ponzi scheme's dots connected.

What these apologists and appeasers fear most, is for all U.S. exporters, to realize how adversely they are affected by China's currency manipulation. If our exporters come to realize the full effect on U.S. Trade, they will begin questioning all our FTAs - the pending ones, like South Korea, Colombia and Panama, as well as the existing ones, which the 2008 presidential candidates had differing views about renegotiating.


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A seasoned financial professional, currently providing subject matter expertise on a variety of regulatory topics, including the Dodd-Frank Act, the Foreign Account Tax Compliance Act (FATCA) and overall compliance monitoring. He has previously held (more...)

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