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The head of Canada’s central bank, David Dodge, says the world risks an “outright recession.” And, Claude Trichet, who is the president of the European Central bank, believes the world economy will have to “pay a price.”

Both men point their fingers at the same problem - the U.S. trade deficit. And, both men are scheduled to exercise their fingers again soon, this time at Ben Bernanke - when he shows up at the G-10 meeting this week.

The U.S. trade deficit is running at an annual rate of about $800 billion. In rough terms, it means that Americans spend that much more each year, on the world market, than they earn. You could talk to a plumber or a haberdasher and get a sensible opinion on the subject: “I guess the U.S. should stop spending so much,” he would likely say. The matter is really pretty simple. When you spend money you haven’t got on things you don’t need, you’re bound to run into trouble. Even the aforementioned central bankers can see that.

But, if you asked a top U.S. economist - say, Ben Bernanke himself - what you’re likely to get is a confused and preposterous answer.

The deficit is really pretty simple. It takes years of expensive formal education to not understand it. Ben Bernanke, along with most of the economists who work for Wall Street or the federal government, believes the trade deficit poses no problem. To the contrary, it represents a very felicitous and even flattering situation: They make; we take. They sweat; we think. They save; we spend. The ‘they’ includes many millions of people overseas, but the most prominent among them are the Chinese. While we Americans operate an economy that is 71% consumer spending, the Chinese only spend 50% of their GDP. The rest is saved - an amount equal to $1.1 trillion dollars.

Taken as a whole - including business, government and private households - Americans also save, but only 13% of GDP, or about $1.6 trillion. And at the household level, the difference becomes even more pronounced between ‘they’ and ‘we.’ They save 30% of what they earn. We save less than nothing...with a household savings rate of minus 0.4% last year. The last time we saw such a low rate was during the darkest years of the Great Depression, when families had no choice but to draw down their savings in order to pay their bills.

Ben Bernanke sees nothing to not to like in these numbers. The Chinese are lucky we spend so much, he is likely to remark. What else would they do with their savings, if they could not lend them to us? He might add: what else would they do with all that junk they’re producing if we weren’t prepared to go into debt to buy it?

“They’re both mad,” said a colleague yesterday. One spends money it hasn’t got. The other sells to people who cannot pay. Maybe China and the U.S. represent equal and opposite delusions: One over-spends. The other over-saves. But while the delusions are opposite, they are not equal. There is a great Exodus of power and money from West to East. There is a big difference between being on the prospering end of that passage as opposed to the losing end. China’s working class is getting richer; America’s is not. China’s treasury piles up credits; America’s piles up debits. China’s consumers have savings that they could spend, if they wanted to. America’s consumers have only credit...made available to them at present rates only so long as it accords with the whim of the market and the will of lenders. The Chinese are owners...Americans are becoming renters. The Chinese are free from debt; Americans are chained to it.

More news from our currency counselor...

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Chuck Butler, reporting from the EverBank world currency trading desk:

“The Jobs Jamboree on Friday saw job creation jump to 243,000, with last month's 193,000 revised down to 170,000 and the unemployment rate tick back up to 4.8%. But, the dollar bulls basked in the sun anyway!”

For the rest of this story, and for more insights into the world currency markets, see today’s issue of

The Daily Pfennig

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Bill Bonner, back in London with more views...

*** “China keeps buying the dollar to defend the yuan's peg...There are many reasons for this, but one major consideration continues to be the perception of China's dependence on an export driven economy. That may not be the case much longer,” writes Chris Hancock, a regular contributor to our editorial e-mail threads.

“There's a good article in the FT today highlighting Long Yongtu, Chinese diplomat who worked on the WTO entry, and is comments that China's economic development is driven more by domestic demand than many realize. That could either be diplomatic smoke blown at the US or a typical Chinese style warning that a policy change is on the horizon. Meaning, they might seriously consider stop buying the dollar.

“As of February '05, Japan and China hold approximately a combined $900 billion, or 46 percent of foreign Treasury holdings.

“Something like a mere 20 percent increase in the value of the yuan against the dollar would reduce the value of China's $710.973 billion by more than $140 billion - or roughly 9.7% of China's 2004 GDP. I think China will start buying gold to help offset that loss.

“I was in Hong Kong last week and a friend that works for Reuters tells me that China hasn't made any real progress cleaning up the NPL situation. It's estimated that up to 80% of loans are still non-performing...Consequently, you won't see major currency reform anytime soon.

“However, I think they'll start slowly moving their dollar reserves into gold. China's gold reserves are miniscule when compared to other industrialized nations. China's first priority is and always will be stability. John Ing said, ‘To achieve a level of the Europeans at 15 percent of reserves (which is not too much), China would need to consume all of the gold produced in the next two years.’ And the chairman of the PBOC recently made a public statement encouraging citizens to invest in gold. Hong Kong is now considering a gold exchange much like Shanghai's.

“China moves gradually, so I don't think there will be any sudden impacts on the bond markets.”

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*** History keeps dragging itself out of the sick bed Dr. Fukuyama put it in. It seems reluctant to die.

You remember, dear reader, that with the fall of the Berlin Wall, the American empire was the only superpower left standing. There was nothing stopping American democratic capitalism. It seemed a cinch that the whole world would doff its cap to the U.S. imperium.

There seemed to be no better way. For, the nice thing about capitalism and democracy - as we pointed out last week - is that they make history unnecessary. There is no more need for revolutions, wars, upheavals, mass murders and economic depressions. We have no further need of revolutionaries; we are able to put Che Guevara on T-shirts and sell him at a profit! Democracies value dissent and change while dictators suppress and stifle them. Free markets set prices with the guiding genius of the ”invisible hand,” while centrally managed economies brush aside the “invisible hand” and set prices with the iron fist. Naturally, that leads to monumental mistakes, which can then only be undone by depression and revolution. That is what happened to the Soviet Union and that is what eventually destroyed Soviet socialism.

But, in our modern American-style system, everything evolves peacefully and productively - and always gets better. If people don’t like the direction their government is headed...well, they just elect a new one. If one business doesn’t produce profits, investors scout out a new one. History comes to an end; or it becomes so boring no one pays any attention to it.

That at least is the theory of it, and it sounds reasonable enough on the surface. But who could ever believe such a dreamy proposition? And if people don’t believe it, are they likely to go along with it?

The Iraqis, for instance, don’t seem to have gotten the message. With the help of American forces, a vote was staged in the country, but the Iraqis don’t seem to like the outcome. Instead of voting again, they seem to want to blow each other up.

And the same goes for are all those students in France who took over the venerable old Sorbonne to protest a proposed change in the law that would allow employers to fire new employees if they weren’t doing a good job. (Even our own son, Jules, product of the French school system, thought it was outrageous that capitalists could get away with such a thing: “Why should young people have to pay for the government’s mistakes? The problem is too much unemployment in France, but that’s not the fault of people graduating from college. Why should they get less protection than other workers?”)

Even if Jules had a point, why make a big fuss? Don’t these students know that they can just vote in a new administration?

And then, there is Iran. The present government was duly elected. The people spoke. But along comes the United States of America declaring itself hot and bothered about what they said. So, now the democrats in the U.S. are threatening the democrats in Iran. In politics, history has come back to life in a hurry. Will it soon revive in markets, too?

More tomorrow...