Brad Setser On Global Trade Imbalance And The Dollar

TITLE: Brad Setser on Global Trade Imbalance and the Dollar | Subtext by Zerodha CHANNEL: Markets by Zerodha DATE: 2026-06-21 ---TRANSCRIPT--- How have the drivers of dollar strength changed over time?

So, dollar strength right now is a function not of the dollar’s role as a reserve currency or demand for dollar safe assets. It’s much more a function of old-fashioned searching for yield and looking for exceptional returns. How do you see an AI bubble bursting impacting these flows and in turn impacting demand for the dollar? If the bubble bursts, I think the dollar actually has a long way it could fall. The higher you go, the more room there is to fall and the dollar is pretty high. Hi folks. Today’s guest is Brad Setser. Brad is a senior fellow at the Council on Foreign Relations, a US-based think tank, where he runs the blog Follow the Money. It is one of the most closely read sources on global capital flows and trade imbalances. And he’s an extremely well-known voice on Twitter about the same topics. Before working in the Council on Foreign Relations, he served in senior economic roles in both the Obama and the Biden administrations, including at the Treasury Department and in the National Economic Council. Earlier in his career, he also spent some time in the IMF. Thank you so much, Brad, for gracing us. My pleasure. Thanks for the invitation. I’ll start off with a simple icebreaker or a simple question. What’s your outlook on the state of the world today, the way you see it? This is a very open-ended question. Yeah, well, I think there are probably three dominant questions. I mean, probably the most significant question is what happens to the price of oil, what happens to the flow of oil through the strait. I am among those who think that the longer the strait is closed, the greater the pressure on oil markets and eventually the higher the odds that oil really decisively breaks up and that really slows the global economy. I think the second uh risk, which may not right now in the US is viewed as an opportunity, uh but the extent to which the big US technology companies have gone from being net savers to be net borrowers to fund their enormous investments in in AI and data centers is really having a profound impact on the US and the global economy. You know, sort of look at Korea’s surplus, look at this price of memory chips. You’re really seeing upward pressure on a bunch of manufacturing sectors globally because of this, you know, couple point percentage point increase in investment in the US which is a positive force for now, but it is also a risk. Um could reverse. And then I think the final big question is kind of what happens to China’s export boom? Does it continue offset anemic domestic demand? The latest numbers out of China on the domestic side were quite bad. And you know, how long can a host of countries, not just the US, but also Indian lot of European countries absorb China’s manufacturing surplus, which is only getting bigger? And so to me those are the three biggest questions. I don’t tend to do short-term outlooks. I tend to just focus on what I view as the major macroeconomic risk. Uh you have a certain view on the historical role of the dollar. There there are certain structural reasons that you’ve identified as to why the dollar is strong and those reasons have changed over time. So I wanted to know how you view the historical role of the dollar and how has how have the drivers of dollar strength changed over time? I wouldn’t say the dollar has always been strong. I mean, I think that you know, the dollar was you know, if you start back in the early 1990s, the dollar was actually pretty weak. And then the Asian crisis, the dot-com bubble led to to of dollar strength uh partially because of Asian weakness, partially because of money flowing into the US tech sector at the time. And then there was a a period of time after the dot-com bubble burst uh when US interest rates were actually lower than interest rates in many advanced economies and certainly than in many emerging economies. And the inflow into the US came from official creditors, central banks, who didn’t want to let their currencies strengthen against the dollar. Uh and that was the big driver of flows into the dollar. So ironically, dollar weakness and the unwillingness of key central banks to allow their currencies to strengthen notably China, drove flows into the US even when the dollar was pretty weak. The dollar stayed weak after the global financial crisis when US rates were low. And since 2014-2015, we’ve been in an era of relatively high US interest rates, a relatively strong dollar and a strong dollar that’s been generally maintained by private capital flows more than official flows. Now, there are times when official flows are important. They’ve been important out of China very recently. But as a general matter, most of the money flowing into the US has come from investors looking for exceptional returns. So the US is not borrowing from the world at an especially low price. US interest rates are higher than interest rates in most of the advanced economies in Asia. They’re higher than interest rates in most of Europe. And then a lot of money in the past year in particular has gone into the US looking for exceptional returns in the equity market. So dollar strength right now is a function not of the dollar’s role as a reserve currency or demand for dollar safe assets. It’s much more a fact a function of old-fashioned searching for yield and looking for exceptional returns. So I don’t view there I mean I tend not to think of the dollar as one story, it’s many stories, and I tend to focus on how the pattern of flows have shifted and what might cause those flows to rearrange themselves. On that note, Brad, how much of the new flows, like you’ve said, right, that sometime towards the mid-2010s, instead of central banks accumulating dollar reserves, private capital flows into US equities have sort of become the primary prop of a dollar demand. How much of that is being driven by AI right now is something I’m very curious about considering, like you mentioned, companies like Google, companies like Meta are borrowing lots of money. They’ve turned from net savers into net borrowers, and we are seeing a capex boom like possibly no other in history. So, I would draw a break in trend this year. I think for most of the period after 2014, through the COVID crisis, the bulk of the flow into the US was not a net flow into the the equity market. It wasn’t a flow into the stock market. Think much more Asian insurance companies, Taiwanese insurance companies, Japanese insurance companies, German insurance companies, Swedish pension funds looking for higher returns on bonds, including the returns on US investment grade bonds, higher returns there than they could get at home. And so, it was still a bond flow until about a year ago. Over the past year, there have been quite significant two, three percentage points of GDP flows on net into the US equity market, obviously chasing the run-up in the price of the the tech platforms. Um so, recently it has become a very important source of flows into the US economy. And one would expect as borrowing by these companies ramps up that that will also be pulling some capital in. So, recently it’s become a very significant factor, probably financing, you know, attracting flows equal to about half or more of the US external deficit. Because you’re drawing parallels with the dot-com bubble earlier and considering that the chatter around any AI bubble has not been louder than it was 4 years ago. How do you see an AI bubble bursting impacting these flows and in turn impacting demand for the dollar? I mean, my view is pretty simple. If the bubble burst, uh there will be a big fall off in equity, new equity inflows. You’ll have a bunch of existing investors possibly hedging their existing exposure, which creates additional downward pressure on the dollar. So, the dollar will fall. I mean, the dollar right now is is quite strong. I mean, people tend to focus a little bit too much, I think, on the fall in the dollar relative to the start of the Trump’s of Trump’s second term, which was an incredibly strong dollar. And that that liberation day did dent confidence a bit, but we’re still at levels of the dollar that are the same as the level of the dollar on a broad basis that were last seen in the dot-com era, where it hit historically strong dollars dollar levels against the yen, against the won on an inflation-adjusted basis, against the Taiwan dollar, on a relative basis, against the Chinese yuan. So, for most of Asia, it’s an incredibly strong dollar. And I think if the dot-com bubble burst, that reverses. Dollar starts to weaken, and then it just becomes a question of when do some of the traditional volatility smoothers, i.e. Asian central banks, come back into the market. Uh if the bubble burst, I think the dollar actually has a long way it could fall. Hot you know, in some sense, the stronger you go, the higher you go, the more room there is to fall. And the dollar is pretty high. You had mentioned the Strait of Hormuz crisis. Obviously, that’s on everyone’s minds. One of the things that I think has become a fairly mainstream narrative now is that at least over the last few years, the world is in a structural phase where there’s an oil glut, like a structural phase of oil oversupply. And of course, the Strait of Hormuz is obviously a crisis where the exact opposite is happening. But because of um the shale oil revolution in the US, people discovering reserves in other countries, obviously oil as a source of sort of accumulating more dollars, that power has reduced. How do you think about the Strait of Hormuz crisis in that context? Do you think it’s a temporary blip? Do you think it’s a more permanent structural break in the oil markets as a whole? For now, it’s too early to say. You know, there’s a probability distribution, and one possible outcome is the destruction as if the war resumes of a large part of the oil export infrastructure on both sides of the Gulf. And that would be a structural break. There’s a a bit of a trend break even if the strait reopens because so much inventory has been drawn on that we’re going to be in a period of time when inventory has to be rebuilt. Uh but then after that period ends, if we really go back to an open flow through the strait, uh I do think that competition among the GCC countries, the UAE saying they’re not going to be part of OPEC anymore, uh possibly much more Iranian supply, you could go back to a oil glut once you work through uh the accumulated deficit in inventories. Um but it’s a very bimodal possible distribution if the straits straits closed or if there’s a big flurry of military activity and a lot of infrastructure gets damaged, the the the tight oil revolution in the US, other sources of supply matter at the margin. They’ve added a few million, I mean, US more than a few million uh barrels a day to the global output, but they haven’t replaced the the Gulf as the source of, you know, ballpark 20% of the world’s oil. And there isn’t an alternative outside the Gulf. So, it’s a very bimodal distribution. If the Gulf comes back online with a lag, oil prices go back to being low and there’s not going to be much uh dollar accumulation in the oil exporters. If oil prices if the Gulf stays closed or uh its infrastructure is damaged, uh oil prices will be high, but the Gulf countries which traditionally generate a lot of petrodollars won’t be the source won’t be won’t have the oil and it’ll be the non-Gulf oil exporters that are going to have the windfall. Uh as a general matter, when oil was at 70, spending in the oil exporting countries had risen, particularly in say Saudi Arabia, to the point where there weren’t big structural surpluses except in Norway, except in the UAE. And in the UAE, that was more a function of investment income. So, at oil at 70, you don’t see big petrodollar accumulation, but if oil goes to 140, 150, you will. Um, it just won’t be in the GCC. And, you know, the biggest winners from higher super high oil prices will be the, you know, the the oil guys in Texas and the oil guys in Alberta, Canada. Uh and they’re North American, they’re going to accumulate dollars, but they’re not going to be offshore dollars. So, it’s a bit of a new environment. Uh a little hard to analyze, to be honest. How do you view the UAE leaving OPEC? What do you think it means for oil prices in general? I’m asking this question in like a tough time where things are tense, but this is obviously something that is the product of a lot of structural forces including the rise of renewables. So, I’m wondering how you view this in a geopolitical context and a trade context. Well, I mean it’s definitely part of a a broader split between two structurally very similar countries, the Saudis and the Emiratis. Uh the Emiratis more or less I mean the tension in their relationship with Saudi Arabia over a host of questions uh has spilled over and they’ve sort of said, you know, we’re not going to be part of OPEC, which is essentially led by Saudi Arabia as an effort to manage oil prices by taking oil production off the market when there’s a glut. And it’s always been difficult for OPEC when there’s a glut and you have to decide who loses production, who loses revenue, who takes their oil off the market to support price. And in simple terms, the UAE was thinking that they were on the short end of the stick. They were they’d added to their capacity and they weren’t being allowed to use it because of you know, lags in adjusting OPEC quota. So, I think you know, it’s a function of a breakdown between Saudi Arabia and UAE across a number of fronts. It’s a function of tensions within the oil exporters around how to allocate production costs when there’s a glut and I think it signals that you know, there’s a higher probability of a bit of a price war where all the GCC countries produce all out and in that world, oil is low and some of the higher cost producers in North America are driven out of the market. But I mean, we’re a long ways from that world. We’re in a world where it doesn’t really matter whether the UAE is in OPEC or out of OPEC. The UAE doesn’t currently have the export infrastructure to get all of its oil to the market. It has a pipeline that delivers half of what it used to do. And Iraq, Kuwait, Qatar are basically shut out of the market. I mean, they can pay some fees to the Revolutionary Guard and get some cargoes out, but that’s a trickle. So, right now we have enforced production cuts in key parts of the Gulf. The Saudis also can’t get as much oil out even though they got the East-West pipeline as they used to, and that’s supporting price independent of OPEC. Once this crisis ends, we’re we’re in a different world. We’re in the world of inventory rebuild. We’re in an in possibly in a world of much more uh less price cooperation amongst the oil exporters. Coming back to the idea of dollar strength and dollar dominance, right? It’s of obviously often explained as a network effect. Everyone uses it because everyone else uses it. Uh you have a very particular view on this is that it is driven by um countries that run large trade surpluses, right? Countries that export a lot of uh goods, manufactured goods to the US, which is obviously a huge importer of those goods. And in that framework, you’ve identified countries like China, Germany, Japan, uh South Korea. Could you explain that argument? Could you explain how the mechanism works? I generally think of the dollar’s global role as a bunch of different roles that sometimes get rolled together. Uh one role is as a reserve asset as as a you know, a source of you know, as the currency of denomination of a bunch of bonds and deposits that are held as reserves in central banks around the world. Uh those reserves haven’t been growing, uh but there’s a lot of them because they did go up a lot between 2002 and 2012. Another role is as a vehicle for global payments. So, when Brazil wants to trade with Africa, it generally will just uh both both parties are quite happy to accept the dollar, and their network effects are indeed important. Everyone accepts the dollar cuz everyone accepts the dollar. Uh it can be used everywhere, not just for trade with the US. You know, the euro can play that role to a degree as well, but the Chinese currency cannot. Then on top of that, there is sort of the question of, you know, who is adding to their dollar portfolios? Not necessarily their dollar reserve portfolios, but their cross-border dollar portfolios. Uh and thereby financing the long-standing US trade and current account deficit. And the answer to that in recent years, back before the Iran war, before oil prices surged, but it, you know, so far it hasn’t changed. If oil’s at 100, it doesn’t change that much. The answer there was basically increasingly the big manufacturing economies of Asia, and particularly Northeast Asia. So, China’s running a $1.2 trillion trade surplus. Korea and Taiwan, with a run-up in chip prices, are going to run a surplus, you know, if oil stays at 100, they’re going to run a surplus of $400 to $500. These are big, big numbers. Japan and Singapore are living off investment income. They’re in a bit of a different position. And so, those countries have been the biggest source of dollar accumulation in the global economy. Now, in the Chinese case, that comes through the banking system. Sometimes it comes through exporters holding dollars offshore. In Korea, the dollars generated by the chip companies are financing a huge flow by Korean day traders into US equity markets. And in Taiwan, it’s historically been a flow through the life insurance sector into uh US bonds. But there are a lot more dollars in these manufacturing exporters, DRAM dollars, chip dollars, Chinese unwillingness to let your currency go up dollars, than there are petrodollars. Uh and that is basically going to be true until oil goes above 130. Then you start to see some more material changes in global flows. So the question then is, you know, how are these flows supporting the US external deficit? We know how it happens with Taiwan. We know how it happens with Korea. But the flow out of China is a bit more of a mystery. Because you’ve said the DRAM dollar, the chip dollar, I think for India the easiest possible parallel is probably IT services dollars, if I’m not mistaken. Well, but you guys you guys spend them all on imports of Chinese goods. So you guys don’t have a surplus. You have a deficit. So yeah, you don’t you don’t generate the flow into global markets from your services sector that East Asian manufacturing powers generate. Yeah, I mean gross flows, not net flows. But yeah, that makes sense. But countries like China, countries like Japan back in the ’70s, ’80s, they pursued a strategy of export-led growth where they would grow their economies by exporting to advanced economies like the US, the Europe. And that is how they began accumulating dollars, which is somewhat of a chicken and egg problem, so to speak, at least in their view. How does What were the incentives back then for them to accumulate dollars? And what are those same incentives now? Like how have those incentives changed? And when does the accumulation of dollars become a problem? Well, the big problem is that the accumulation of dollars hasn’t been a problem that’s been big enough to convince some of the big surplus countries to change. I mean, you look at a country like Taiwan, which has roughly 200% of its GDP invested abroad, reserves relative to its GDP, you know, maybe 80%. Now those have come down cuz GDP is up because of the chip price boom. And then, you know, huge accumulation of dollars in the insurance sector where, you know, like 2/3 of the assets of Taiwanese that Taiwan has for the retirement of Taiwanese workers are invested in foreign bonds. I mean, that’s a crazy high number. And then now TSMC is just accumulating dollars on its own balance sheet. So, the one problem is that there’s not really a clear upper limit. The the upper limit is not likely to come from we can’t accumulate more dollars. It’s more likely to come from other countries saying we can’t keep running these kinds of trade deficits. We can’t continue to deindustrialize. That’s certainly been an issue becoming an issue now in Europe. The incentives haven’t didn’t really change. The incentives are you grow through exports, investment in exports lets you upgrade the technology technological capacity of your economy. It generates the profits that allow you to move up the value chain. And it allows you to make up for you know, a weak internal demand. Now, it’s unclear if weak internal demand is a byproduct of the policies that are designed are put in place to keep your exports competitive or if weak internal demand leads to weak currencies and thereby compels you to export. It’s a bit of a mix of both. But, there’s sort of more consistency than change. The period when things were a bit different was when you know, during the 10 years after the global financial crisis when you know, the US economy wasn’t generating a lot of demand and then when Europe’s economy was on its back after the Eurozone crisis. China did throw a lot of money at its property sector at building out its infrastructure. And the property boom and infrastructure boom created domestic demand and made China a little less export dependent for a while. But, then when the property bubble burst, China has pivoted hard back to export reliance. Taiwan never changed. And with Korea I I think you would put more a little more emphasis on and how aging led to weakness in demand, policies to lead to build up the assets of the national pension fund, and that all generated a bit of a return to a more export-oriented point of view. But, you know, I think I think all of Asia has generally leaned in that direction to varying degrees. And what’s unique now is the extent to which China is back to relying on exports. How it’s different when an economy as big as China’s relying on exports. And how Chinese automotive exports have gone from nothing to two times more than Japan ever did at the peak of Japanese automotive success in like 5 years. And how that’s really putting pressure on a whole bunch of other countries. And then now, in a sense, how the Taiwan has become big even though it is a small economy. Uh and you know, you’re reaching rather unprecedented levels of surplus, you know, 20 30% of GDP. Uh those are the kinds of things oil exporters would show when oil prices shot up to 150. It’s sort of new to have that happen in the chip exporting world. You mentioned a lot of different things about surplus countries and their high savings rate, so to speak. Uh for China, you’ve mentioned their internal demand. For South Korea, you’ve mentioned aging, which I believe would also be true for Japan. For Germany, in your research, you’ve noted fiscal conservative conservatism uh and some amount of wage suppression. Does it Do all these distinctions matter? Uh or is the high savings rate of these countries uh the high surpluses of these countries the benchmark to follow? Do any of these distinctions in how they accumulate um surpluses matter? Well, I think they do matter cuz sometimes policies do change. Germany uh, is doing a fiscal expansion. It’s called a defense build-up and it’s financed off budget, but it is a it is a fiscal expansion. Uh, and that is offsetting weakness in German exports. So, I think uh, you know, you you you can’t change the fact that you have a big accumulated surplus, a lot of assets, and thereby some investment income, which is true of Germany, which is true of true of Japan. Uh, but you can change other policies. So, I do think it matters to know what is driving the surplus because sometimes the policies that drive the surplus do change. Uh, what’s been significant to me is that the Chinese haven’t changed. That she has been pretty consistent in not wanting to provide a lot of a lot of uh, support for Chinese households, fiscal support for Chinese households and consumption. He’s preferred to subsidize investment. And he has maintained, you know, a pretty thin at the national level social safety net. And he’s financed that with taxes on consumption and taxes on low-wage work. And that combination keeps consumption low. Uh, so but I think it does matter because he could change those policies. The Koreans are reconsidering how much money the National Pension Service is investing abroad, or at least how much is invested abroad unhedged because Korea is now worried that the the Korean won is too weak. So, I think uh, the policies that drive surpluses are important and they can change. That makes sense. Um, you mentioned China’s tilt towards investment, [snorts] uh, where China tends to subsidize investment rather than balance out their internal demand or consumption, right? On the other hand, you’ve also mentioned about China’s attempts to devalue their currency to keep their exports competitive. Do you view these two problems as separate? They are separate. So, when China invests more, it has less need to keep its currency undervalued. There’ll be higher interest rates, there’ll be more pressure for appreciation. Uh so, I think investment and exports have traded off. Uh now, there was a period before the global financial crisis when China had very rapid investment and very rapid export growth. Uh and that led to a sort of a a thought that they were part of the same thing. And they’re both possible in large part because China has a very high savings rate. But, during most of the period of the last 15 years, they’ve actually traded off. Periods of strong investment have been periods of less reliance on exports. And now, the current period of much weaker investment, driven by property, has been associated with more reliance on exports. The constant is low levels of household consumption and very high levels of of household and national saving, including a lot of business saving, which allows very high levels of investment to be financed internally. And it means that when investment falls, there’s a shortage of demand and a potential for a big external surplus, a big pivot towards exports. But, I do think they actually tend to trade off. What would you say is something China should do to adjust those imbalance like that imbalance? Let its currency get stronger. I mean, China tends to The market at times pulls the yuan down, and then China resists pressure for it to go back up. Stop resisting. Right now, the market wants a stronger yuan. Let the market pull the yuan up. Set the fixings. Get a stronger yuan. Bigger central government financing of social support. The central government of China has a relatively strong balance sheet. The local and provincial governments have relatively weak balance sheets, the central government has like debt to GDP of 25-30% and a similar amount of financial assets. It is actually in a strong position. All the fiscal weakness is outside of the center. So, you need to use the fiscal strength of the center to finance a cleanup of the property sector, something the IMF’s been recommending for a while, and to support a bigger budget deficit that allows you to put more money in households’ pockets and take less money through this regressive tax system. Over time, more national social insurance, much higher basic pensions for everyone, including farmers and workers in rural areas, a national system of unemployment insurance, and much less regressive taxation to finance it. Low-wage work is taxed very heavily. Consumption is taxed very heavily, but high levels of income are not taxed that heavily. The individual income tax only generates 1% of GDP in revenue, less than China gets from tariffs. That’s a US could say 8% of GDP. It’s just an incredibly thin amount of of progressive taxation, which means that there’s not much uh the central government doesn’t have as much capacity over time to support consumption of low-wage workers and and broader households. So, I think those are all important and they’re pretty fundamental changes in China’s political economy. Apart from the currency, which, you know, is pretty easy to do. The PBOC controls the market. It just has to set the fix at stronger levels and flows support that. China’s trade surplus is often mentioned in terms of their automotive sector, obviously solar panels, a huge debate in India. I think lately semiconductors might also become a thing, but there’s a paper by Arvind Subramanian, the Indian economist, and Soumitra Ghartati, who recently did a paper on Um continuing to occupy low value manufacturing and that’s squeezing out efforts to industrialize by other middle-income countries. What’s your view on that? Because there’s a debate that seems to be going on in China on whether China should hold on to these low value manufacturing sectors uh because they feed into the high value manufacturing sectors. Uh but obviously they’re also increasingly becoming unprofitable. Well, I mean they’re also having trouble getting profits at the on the high end, you know, there’s so much supply of panels and wafers and batteries and now EVs that profits are getting squeezed there, too. I think profits are squeezed, to be honest, everywhere not just on the low end. Uh but it is true that uh as Arvind has argued that you’ve seen China become this enormous exporter of high-end goods, panels, clean tech, now autos, uh without any real reduction in its market share on the more labor-intensive um traditional uh East Asian manufacturers. Uh and that does pose uh issues for those who have to compete with China both at the high end and the low end. I don’t do a strong differentiation between the different products. China’s managed to be competitive at both. Uh that’s partially because China’s used a lot of technology and automation in some of the low-end manufacturing sectors, so they’re no longer as low end. And that’s in part because China’s a very diverse economy. Uh the interior has wage levels that are not at all comparable to the coast. And so you can move inland rather than move abroad. But it is an issue because, you know, China’s overall surplus in manufacturers is just gigantic and getting bigger. Uh it’s masked a bit by changes in chip prices, uh but it’s getting bigger and China wants to kind of squeeze out uh the remaining high-tech imports, semiconductor, semiconductor equipment, aircraft, aircraft engines, and become a very like technologically self-sufficient economy. It doesn’t rely on trade for technology, but it also wants to supply the world with technology and products. That’s a difficult mix for a lot of countries. I do think it is significant though, as Arvin has said, that you know, you just the success at the high end hasn’t meant moving out of the low end. So, everybody who tries to do manufacturing, whether you’re at the low end in South and Southeast Asia or at the high end in Europe, you’re feeling squeezed. I was saying that you’ve most likely read Danny Rodrik’s latest article on how he’s become a manufacturing skeptic after obviously advocating for industrial policy in manufacturing for most of his career, where he says that he does not see the viability of low-middle income countries manufacturing their way in out of poverty and into development anymore. How much of that do you think is because of factors outside of a given country’s control? Like for example, he’s mentioned Ethiopia, he’s mentioned Mexico, but when you talk about external factors like China potentially squeezing out manufacturing by occupying the low end. How much of this problem that Danny Rodrik outlines do you think is because of those external factors? The global environment does matter. There’s no doubt about that. I think his case is still to be proven that you can achieve significant gains in development without first going through a manufacturing assuming you don’t have an a natural resource that can push you up income levels up very quickly. I think it’s an interesting hypothesis, but it hasn’t been proven. But particularly for small countries, you are constrained by the global environment. And if China’s going to support his manufacturing with a really weak currency, you would have to have an even weaker currency in order to compete. And you know, that means you know, in a sense even poorer living standards for your own people. So, it’s a difficult trade-off. I understand why he is thinking more carefully, but it is It is a challenge at the low end, no doubt. It’s a challenge at the high end to maintain living standards when you’re, you know, your export markets for say autos are disappearing. It’s a challenge for Thailand, which used to supply low-end autos to much of the world, and now those are coming from China. I think it’s a challenge for everyone in different ways. All right. What do you think this means for the future of the export-led growth model, so to speak, right? Does it have a future? And do export-led growth models usually involve some sort of demand suppression? Um is that the norm? Uh the reason I’m only asking is there’s a paper by some Barcelona School of Economics uh professors, Luca Fornaro and co-authors, written a paper on this idea of industrial policy creating global trade imbalances in the world. And they don’t say that industrial policy in itself is bad, but they say that when you combine it with some form of demand suppression, you are very likely to create global trade imbalances. Uh how do you think the future of an export-led growth model then exists, especially considering the success stories that we have had? It’s hard to say there isn’t an export-led growth model when the world’s second biggest economy is growing on the back of exports. It’s hard to say there isn’t an export-led growth model when Taiwan is growing at, you know, 5% plus entirely on chip exports. There is still a model. The question is whether anyone outside of East Asia can get themselves into that model. And then that depends on whether East Asia, you know, if your biggest export economies are still growing on the back of exports, then there’s less space for others. So, I I think to me that is the issue. I do think, you know, when you think about industrial policy, there’s been cases when industrial policy is very domestically oriented. It’s basically import substitution, and it doesn’t lead to globalizing your success. And part of the formula for some of the East Asian countries is that they’ve combined targeted support to move up the value chain, to go into advanced manufacturing with undervalued currencies that have enabled them to turn industrial policy successes into global export successes. But that’s a function of a particular policy mix where industrial policy is combined with currency policy. That is not always the case. So, I think it’s useful to analytically both to think of them as distinct policy tools and it is useful to realize that they can be correlated. And when they two correlate, you can get these kind of amazing transformations. You know, where China goes from being a clean tech importer to a big clean tech exporter in 5 or 10 years. Where China goes from being a net auto importer to a bigger auto exporter than Japan or Germany has ever been by big factor in 5 years. You know, in order to get those outcomes, you needed industrial policy creating the battery sector, creating the EV sector. Initially, those were domestically oriented sectors. But then once you succeed domestically, once you’ve mastered the technology, a competitive currency lets you export it globally. So, I think they’re they’re different tools, but they can be correlated. And the issue in a sense is that when the world’s second biggest economy, first biggest manufacturer is increasing its export orientation, that has knock-on effects for everyone. And I think that’s to me is the basic issue. I mean, China’s trade has been growing at two to three times global trade. That just mathematically means someone else is has their trade not growing. In and you know, when you you can do that when you’re small. When you do that in your big, you start to see bigger knock-on effects. What do you think of various countries simultaneously pursuing industrial policy in today’s age, which is also going to lead to something that you’ve also covered, which is where does globalization stand? But do you fear that when so many countries in an attempt to create their own value chains within their own borders, do you ever fear that this clash of industrial policies could create a potential race to the bottom? I mean, I do worry about that. I also worry that if you don’t have an industrial policy, you’re just going to accept dependence on China in today’s world. And you know, China has shown that it can weaponize that kind of dependence pretty effectively. So, I I do think we’re in a world where there’s a lot more what you might call defensive industrial policies, policies to avoid full dependence on China. Some people also talk about avoiding full dependence on the US tech companies in in different sectors. Um but I think that is a feature of the world. Uh it will lead to some fragmentation, but I prefer a bit of fragmentation to unbalanced integration and full dependence on a country like China. But yes, there there are going to be costs to that. Uh I think we’ve learned there costs to relying on China, including the need to politically appease China in order to get access to their intermediate goods when they establish a dominant position like in the rare earths. On that note, uh I’d love to sort of talk about globalization as a whole. I know that you’ve written a lot about deglobalization hasn’t I mean, it isn’t hasn’t really happened with all the tariffs that have happened since liberation day. But what do you think is the future of global trade, right? Like your research shown that Trump’s first term tariffs sort of failed to reduce US dependent on Chinese production because Chinese firms just moved to Southeast Asia, right? And in the second term tariffs, of course, the tariffs were more blanket where they were applied to a broad list of countries. Uh do you do you think there’s a coherence to US policy mix currently in how they’re trying to depend on China or reduce their own trade deficit? there is no coherence in US policy right now. Uh you can’t reduce your trade deficit if you’re going to run a 6% of GDP fiscal deficit and you’re in the middle of a massive and import-intensive investment boom in the AI and related sectors. The tariffs initially were higher on China. Now the tariffs on China are pretty much the same as the tariffs on everyone else. There’s some legacy tariffs from his first term that are still higher, but there’s not a clear bias against trade with China anymore. Now because the tariffs on China were much higher than tariffs on others in the first year, there was a reorientation of assembly to move assembly out of China. Uh but I I would I don’t think there’s any any real coherence. Uh it is simply the case that the tariffs to date have not reduced the US trade deficit nor have they led to a deceleration in global trade. Uh global trade did just fine last year, and when you lengthen supply chains, when China has to export to Southeast Asia, so that Southeast Asia can do the assembly to export to the US, there’s in a sense more trade, not less. It’s you’re not going to have any real deglobalization, in my view, until China’s not as reliant on exports. When the second largest economy is trading more every year, when exports are growing faster than GDP, that economy is in a sense globalizing. But it’s unbalanced because imports are growing less fast than GDP. And so that’s to me the the core issue. It’s unbalanced, what I call unbalanced globalization, but it’s not deglobalization. And then we haven’t talked about it, but there’s an awful lot of global trade, which is simply tax avoidance. Uh not India’s services trade, but when you look at, you know, what US services trade, look, we export a ton to Ireland, and that export is clearly IP because we moved to Ireland so they can benefit from a lower lower tax rate. There’s no other purpose to it. And the US imports a ton, particularly of pharmaceuticals, from Ireland. Why? So that pharmaceutical companies can book profits in Ireland rather than the US. You know, there’s a part of globalization that was pure tax avoidance, and we haven’t cracked down on that either. So I think Trump, if he really was serious about changing the nature of globalization, needs to kind of fundamentally rethink his tax policy, didn’t change these incentives, needs to do more than just tariffs. He’s He’s shown you can raise revenue from tariffs, which I think is important. But he didn’t use that revenue to reduce the deficit cuz he cut other taxes. And now we’re going to you know, we’re going to have to spend more on defense. So I think, you know, you there there needs to be a little more coherence and a little more strategy. Uh we’ve gone from super high tariffs on China to the same tariffs on China as on everyone else. We’ve frequently fought trade wars with countries which we have a surplus with Brazil. With Canada, we have pretty much balanced trade and a surplus in manufactures. There hasn’t been the kind of coherence I would have liked, the kind of strategy I would have liked out of Trump’s second term. I liked his first term trade policy actually a lot better. You’ve discussed somewhat the possibility of approaching China’s state surplus uh by building sort of a coalition of allies, especially Europe. But with what has gone down in the World Economic Forum, where you have uh someone like Emmanuel Macron or someone like Mark Carney saying that the world order is dead and effectively saying that they don’t consider the US a very reliable ally anymore. How serious do you think that possibility still exists? It is dead for the Trump administration. It was a It’s a good idea, but the Trump administration wasn’t interested in it. Look at the warm diplomacy with China now compared to the coldness towards traditional allies. And you know, our America’s traditional allies are increasingly They don’t trust the US on security matters for good reason. I mean, we sort of said we’re not reliable. We threatened the territory of a NATO member. And they no longer are as willing to kind of make concessions on the US for security reasons in the economic realm. The Europeans are sort of regretting the Turnberry trade deal cuz it didn’t buy them trade peace, and it didn’t buy a US security commitment to NATO. And then frankly, the US is not showing much interest in joining Europe when Europe’s taken a tougher turn towards China. So, we’ve been asynchronized. When the US was willing to be tough on China in Trump’s first term and the first few years of Biden, the Europeans weren’t interested. They said, “Yeah, we’re still doing fine. The only problem we see is that you guys aren’t sticking by the rules, the WTO rules.” Which is sort of true. The US moved away from the WTO rules, and Europe stayed with them. Now, Europe is more inclined, having suffered from this latest wave of Chinese exports, Germany in particular. European politics have changed. Europe is wants to be tough on China. And the US when it wanted to be tough in the first 6 months of Trump, it wanted to be tough on everyone. It didn’t just want to focus on China. And it basically turned down the opportunity to try to have a more coordinated approach to China cuz the president wasn’t willing to give up his trade war with Europe. So, it’s dead, done. It may come back if there’s a new president. You’d say the window is closed permanently. At least for Trump. No, I’m saying it’s closed it’s closed for the next 2 and 1/2 years. Yes. Wow. I think by the time this video is this podcast is published this might be an outdated question, but Trump and Xi Jinping recently met and they’re trying to figure out a deal together of some sort. How do you view the leverage each side has in a deal like that? Well, I mean sadly she has the upper hand right now. He took the tariff punch, absorbed it, absorbed it better than expected. China was ready. Chinese firms were ready. They knew how to set up assembly operations in Vietnam. Uh and China’s global trade didn’t suffer when the US did these heavy tariffs. The US by contrast has suffered when China stopped buying agricultural exports, soybeans, beef, pork, chicken, corn. The US’s you it finds alternative markets for the grains and for the soy, but at a cheaper price. Doesn’t farmers don’t like it. Uh the US has suffered when China doesn’t order aircraft. You you have to sell to China’s state airlines. So, there’s no way of doing third-party assembly or anything like that. Nor is that efficient for a good like aircraft. And then the US discovered it was really dependent on China for some critical minerals, the rare earths that go into permanent magnets, but other critical minerals used in chip production and the like. And China’s supply controls have been effective. So, the US is is kind of negotiating from a position of weakness. Trump didn’t leverage US demand as effectively as he thought he could. It turns out 100 150% tariffs don’t give you pressure on the other guy if they can reroute trade around them and they create pressure on you because when your guys can’t get around the tariffs and they have to pay them, it’s a bit of a problem for your economy. So, I think Trump didn’t play his hands well and because he didn’t play his hands well, China has the leverage and I think you’re seeing that. The deals that came out of the summit in boost in Beijing were pretty minimal. Uh you can compare phase one on agriculture to what was agreed last week and phase one was more ambitious. Uh the Boeing deal is smaller than the deals that China has given Airbus in the past couple of years. So, there’s just um No, I mean obviously there’s multiple summits and there’ll be more concessions. Uh but the US is until Trump figures out a way to put pressure on China’s export machine uh or the US finds alternatives to China’s uh supply in key sectors, uh I think US leverage is pretty limited. Now, I think the US should find those that leverage. It can if it reconsidered its approach to allies, it could. Uh and I think, you know, we’ve we’ve overestimated dependence on rare earths cuz we haven’t been willing to fight back as hard as we could. Uh but all these things take a bit of focus and I don’t think that focus is coming from this administration. They take a willingness to reconsider your trade policy towards allies and your security posture towards allies and that’s not the view of this administration. How would you view Trump’s latest industrial policy efforts on that front, right? For example, making investments I think making the investment in Intel like one of the big signs of uh sort of the return of the US state uh in terms of industrial policy. They’re doing a bunch of things on the rare earths front as well. Uh but how would you view those overall efforts, especially in comparison to something like say the CHIPS Act under Biden? Yeah, I mean the administration doesn’t describe these as industrial policies. Uh and the Intel investment didn’t give Intel any new money. Uh it was just changing the terms of the money that Intel got uh under the Chips Act. I think the Biden administration approach was more consistent with US policy tradition or sort of industrial policies, but it didn’t involve direct state stakes in firms. It did involve big tax credits for investment in preferred sectors. And then you know, what the Trump administration has gotten rid of was the support for clean technologies. They’ve sort of pivoted back to fossil fuels. And they’ve sort of changed the terms of support for semiconductors. Now, what the Trump administration has been willing to do is use the threat of tariffs to coerce importing firms like Apple, like Nvidia, you know, it exports IP but it imports all of its chips cuz its chips are most basically made in Taiwan and others to basically commit to buy the output of chip fabs that are set up in the US, whether set up by TSMC, the Taiwanese company, or Intel. You know, that’s may work, may not work. It’s, you know, very coercive in its structure. But since most chips are imported by a small set of firms, those guys buy it building out data centers, Apple, few others, it’s possible that it works. What they’ve not been willing to do is sort of nurture a broader battery and associated of sectors because a lot of the demand for those kinds of advanced products comes from the clean technology side and they’re just against that. Now, where they have pivoted is that in those parts of the rare earth critical mineral complex which are defense critical, they’ve thrown more money at it than the Biden administration did. In part because they’ve been hurt by reliance on China pretty severely. They learned the leverage that China has and I I think I hope that those efforts succeed. You can debate the particulars, but I fully agree with the basic policy thrust there. Uh you mentioned Apple, Nvidia, which obviously gets its GPUs made uh with the help of TSMC, Foxconn. How much does their leverage the leverage of companies like Apple and Nvidia, considering that they’re multinationals, considering that they’re like Apple for instance is actively diversified into India, and a quarter of all iPhones are made or assembled at least in India. How much of the leverage that well not Tim Cook now, but Jensen Huang and the new CEO of Apple, how much does their leverage matter in something like this when Trump decides how to do industrial industrial policy? I mean they’ve got leverage. I mean we know we’ve seen uh Nvidia lobby pretty aggressively to get uh export license for sales in China. Uh Apple has pretty consistently gotten tariff exclusions, although the threat of tariffs and like they they were not excluded from the fentanyl tariff, which kind of pushed them to do final assembly in India. Uh but they’ve gotten favorable deals on a lot of other tariff-related decisions. And they clearly have leverage, and Trump clearly cares about their stock market valuation as well as their role as sort of symbols of American technological excellence. Uh so certainly they have leverage. This is this is like I am still thinking about all of these moving parts. I think moving on from worldly matters, uh I’d love to ask about you your work, especially as a policy maker. What’s it like uh translating the kind of analysis that you do day in and day out, right? And like I think everybody on Twitter finds your rate of output extremely impressive, uh to say the least. What does it mean to translate that kind of analysis into actual policy making at say the Treasury, I’d say the National Economic Council, at working with the US Trade Representative? What is And what is that experience teach you taught you? Well, it really depends a little bit on your your role. When you’re uh a think tank fellow, at least in my case, I’ve been lucky enough to have a lot of freedom to range across different issues. Uh when you’re in government, you’re in a much tend to be in a much more defined role. And you know, I’ve never actually been in the role of making policy. I’ve been in the role of advising those who make policy. Uh but when you’re in a government role, you’re sort of expected to focus on the issues where your department has the lead unless you’re at the White House. And when you’re at the White House, you’re generally you know, I mean it it it isn’t true with always, but you’re expected to sensitize the advice of the different agencies. So, you know, in a sense, working in government, you have to be a little bit more specialized unless you’re at the very top than I am in my public role now. But you know, the trade-off is that in some occasions, you do get direct influence over policy outcomes. You don’t just get to put you know, say your piece on X or on Twitter. You actually get have some some influence, some responsibility. The other, you know, thing about government, uh probably was more so when I was at um Treasury than at USTR, uh is that, you know, your sometimes your inbox is pretty interesting. You don’t control it, but sometimes you you’re asked to work on issues that you otherwise might not have. And sometimes those are are of great interest. So, my work on emerging market debt led me to work on Puerto Rico’s debt, uh work on financial flows led to work on financial sanctions. You expand your sets of expertise quickly uh when you’re in a role in government where you have to give advice on a bunch of different questions. But I mean it’s it’s it’s a mix of broadening, new issues come up, you got to come up with a view, give advice on them, and narrowing because you know, when you’re at USTR, you’re not supposed to comment on currencies. Right, makes sense. And I’m not sure if you’ve done that in the course of your work, but what’s it like interacting with policy makers in China, policy makers in Japan, where you know that what’s at stake is something that people might consider domestic issues, but really impact the whole world or multiple countries in the world and billions of people? All you can do is give people a lecture and people other countries don’t necessarily like getting lectures from Americans. Sometimes you actually are negotiating, but most of the time it’s more of a discussion. You know, in general, I would say, maybe this has changed, discussions with Chinese counterparts could often be a bit frustrating. Um I think I’ve had more enjoyable conversations with uh representatives of other democracies which have a tradition of dialogue and where you’re not, you know, literally expected to reiterate the party line. One last question, uh which probably is a more fun question. At markets we usually have like a saying which is trade is like water, it just flows wherever it finds an outlet and it’s not very difficult for trade to find an outlet. There’s an article of yours or there’s an interview of yours that I read where you spoke about China putting tariffs on US chicken paws, if I’m not mistaken, and US chicken paws flew through Hong Kong instead to reach Chinese consumers. Have you seen more creative ways of how trade gets re-routed when it gets faced with tariffs across countries, of course? Uh I know you’ve done it for uh obviously finding out how countries and the central banks shift dollar reserves and report them, but I’m just wondering because this was this is really interesting and I’m wondering whether you’ve seen more crazy interesting ones. I mean, nothing is quite as clear-cut as as that one. Chicken paws or chicken feet, dragon claws in Hong Kong, and they’re popular in southern China. Uh and yeah, you just sort of saw one-to-one replacement of import US exports to China with US exports to Hong Kong. You You actually don’t see that in a lot of other goods. So, with beef, the market was not a market that you could just kind of run through Hong Kong. And when China stopped importing US beef, there wasn’t like magically found its way in. Aircraft don’t magically find their way in. They either go to the state airlines or they don’t. Uh, soybeans didn’t magically find their way into China. Now, China buys more from Brazil. Brazil’s has less to sell to some other markets. And you do see some reorientation of trade. But I think yeah, I think the most interesting for me example of that is it’s not really like trade finds its way to flow around a barrier. It’s more that countries have gotten very creative about how to manage currencies without appearing to manage their currencies. Uh, so, you know, Taiwan getting rid of hedging requirements in the the life in life insurance sector and basically welcoming an open position, which usually you wouldn’t just seems like it’s telling your insurers to take on more risk. But it solved the currency issue. So, Taiwan changed its regulations in a very strange way. Now, you’re not seeing any foreign exchange accumulation, a little bit in past couple of months, on the balance sheet of China’s central bank. Yet, there’s clearly a lot of foreign exchange being accumulated in the broader state sector, in the state commercial banks, in the policy banks, in some of the sovereign wealth funds. So, trying to figure out what China is doing, where you find the evidence. And then, you know, one of the fun things I found was like on the financial flow side, it looked like China was not buying US agency bonds. May agencies are bonds which are implicitly backed by the US government, typically mortgage-backed securities with a a US government agencies credit guarantee. Very important part of the US capital market. Way Americans finance homes. A lot of those are bought in Asia. For a while, a lot of those were being bought by China Central Bank. And then holdings went from 250 billion to 150 billion. It looked like China wasn’t buying them anymore. And then you look more closely and guess what? You know, Canada all of a sudden is buying a lot of holding a lot of mortgages. Luxembourg’s holding an awful lot of mortgages. And no one who I talked to said the there was a Canadian investor who really was interested in agency-backed mortgages. Certainly Luxembourg is just a custodial center. So being able to find where the money was flowing, where it was showing up in the US data. I do find that kind of fun. I can only imagine you feel like a detective doing a lot of this research and trying to find out what’s really going on. And like I think the Taiwan life insurance piece was really an eye-opener to me. I was completely blown away by that this sort of thing also happens in the world. And on that note, thank you so much Brad for doing this. This was an incredible conversation. I hope you had fun as much as I did because I certainly did. And I will be thinking about a lot of these very connected dots that have never not really connected in like a grand way before. Uh a lot. I’ll definitely a lot. So thank you so much. Uh thanks. Always good to talk.