With the world economy struggling to recover from a recession that was nearly a depression, what's the stupidest thing we could possibly do now? Simple. The stupidest thing we could possibly do now is to repeat the same mistakes that got us into the Great Depression of the 1930s.
That's just what we might be doing. It's a huge risk to the economy and to the stock market -- but it may present some opportunities, too.
Here's the story. The stock market crashed, famously, in October 1929. But by early 1930, just months later, it had recovered more than half the losses. It looked like everything was going to be OK. Not!
What went wrong? What turned a recovery into the Great Depression? Congress enacted and President Hoover signed into law the Smoot-Hawley Tarriff Act. If put heavy import duties on goods coming into the United States from overseas, on the theory that it would discourage competition and help domestic industries and workers. It backfired because other countries retaliated with their own tariffs and duties. Pretty soon no one was trading with anyone, and the Great Depression was born.
Now Sen. Chuck Schumer (D., N.Y.) wants to revive Smoot-Hawley. Literally.
On Tuesday he introduced legislation in the Senate that would allow the Smoot-Hawley Tariff Act to be used to punish with penalties and high tariffs countries that the Treasury designated as "manipulating" their currencies. It's aimed specifically at China, who Schumer claims is deliberately keeping its currency -- the yuan -- undervalued relative to the U.S. dollar by 25% to 40%.
Schumer believes that this makes Chinese goods artificially cheap in the US, so domestically made goods can't possibly compete. Even if he's right, I don't see the problem. When's the last time you complained that stuff you want to buy was too cheap? Sounds like a good thing, to me.
Let's say Schumer's bill is enacted. And let's say China wants to avoid the punishment, so it revalues the yuan. Or let's say that China revalues the yuan right now, hoping to keep the bill from being enacted in the first place. What would happen? That's an easy question to answer, because the exact same thing happened in 2005.
Then Schumer and fellow senator Lindsay Graham introduced a similar bill. At that time Schumer claimed that the yuan was 15% to 40% undervalued. To avoid the bill being enacted, China started in July 2005 a gradual program of yuan revaluation versus the dollar. Three years later, the cumulative revaluation was 22%.
It made no difference at all to the competitiveness of Chinese goods in the United States. The proof? Over the three years of yuan appreciation, our trade deficit with China didn't shrink one bit. In fact it grew by 39%!
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