NYTimes.com Article: The True Cost of Hegemony: Huge Debt

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Thus President Bush's vision of a world recast by military force to suit 
American tastes has a piquant corollary: the military effort involved will be 
(unwittingly) financed by the Europeans — including the much reviled French — 
and the Japanese. Does that not give them just a little leverage over American 
policy, on the principle that he who pays the piper calls the tune?

Balzac once said that if a debtor was big enough then he had power over his 
creditors; the fatal thing was to be a small debtor. It seems that Mr. Bush and 
his men have taken this lesson to heart.



threehegemons@aol.com

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The True Cost of Hegemony: Huge Debt

April 20, 2003
By NIALL FERGUSON 




 

Can a global hyperpower also be a global hyperdebtor? 

Debates about the cost of occupying Iraq and reconstructing
its burnt-out economy tend to duck this question. It is as
if such costs were simply an item on the federal
government's military budget. In reality, direct government
spending on aid and reconstruction is unlikely to amount to
much. Having won the war on a shoestring ($79 billion is
less than 1 percent of the annual output of the American
economy), the Bush administration apparently hopes that the
reconstruction of Iraq will soon be paying for itself. A
trifling $2.4 billion has been allocated to the postwar
Office for Reconstruction and Humanitarian Assistance. 

Yet history strongly suggests that Iraq's reconstruction
will require a kick-start of substantial foreign capital,
particularly to modernize the antiquated oil industry. 

Can the United States provide the necessary cash, even in
the form of private-sector money? The answer is yes - so
long as foreign countries are willing to lend it to the
United States. For the fact is that America is not only the
world's biggest economy. It is also the world's biggest
borrower. Its muscular military power is underwritten by
foreign capital. 

This is an unusual circumstance. In the prime of the
European empires, when the British ran much of the Middle
East, the dominant power was supposed to be a creditor, not
a debtor, investing large chunks of its own savings in the
economic development of its colonies. Hegemony also meant
hegemoney. Britain, the world's banker before 1914, never
had to worry about a run on the pound during its imperial
heyday. 

But today, as America overthrows "rogue regimes," first in
Afghanistan and now in Iraq, it is the world's biggest
debtor. This could make for a fragile Pax Americana if
foreign investors decide to reduce their stakes in the
American economy, possibly trading their dollars for the
increasingly vigorous euro. 

Foreign investors now have claims on the United States
amounting to about $8 trillion of its financial assets.
That's the result of the ever-larger American
balance-of-payments deficits - totaling nearly $3 trillion
- since 1982. Last year, the balance-of-payments deficit,
the gap between the amount of money that flows into the
country and the amount that flows out, was about 5 percent
of gross national product. This year it may be larger
still. 

The Wall Street Journal recently asked: "Is the U.S. Hooked
on Foreign Capital?" The answer is yes, and this applies to
the government even more than the private sector. Foreign
investors now hold about two-fifths of the federal debt in
private hands - double the proportion they held 10 years
ago, according to the Treasury Department. 

At a recent press conference, Kenneth S. Rogoff, the chief
economist of the International Monetary Fund, referred to
American financial dependence on foreign investors, saying
he would be "pretty concerned" about "a developing country
that had gaping current account deficits year after year,
as far as the eye can see, of 5 percent or more, with
budget ink spinning from black into red." Of course, he
hastily added, the United States is "not an emerging
market." But, he concluded, "at least a little bit of that
calculus still applies." 

Serving as an engine of global growth, aspiring to be a
liberal empire and yet acting like an emerging market: it's
quite a combination. Is it sustainable? 

It is useful to contrast the present and the past. When the
United States sought to exercise power by financial means
with its dollar diplomacy of the 1920's, substantial
American capital was exported to the rest of the world. 

People tend to think that after World War I the United
States retreated into isolationism. In reality, American
investors lent billions of dollars to foreign economies,
particularly in Latin America and Central Europe. By 1938
the gross value of American assets abroad amounted to $11.5
billion. Having bankrolled the victors of both world wars,
the United States bankrolled the reconstruction of the
losers in peacetime, too. 

The most famous example of America's capital export was the
Marshall Plan, which did not lend but gave $11.8 billion to
revive the dilapidated postwar economies of Europe.
American lending continued to fuel the world's economic
recovery for two decades. From 1960 to 1976, the United
States ran balance of payment surpluses totaling nearly $60
billion. 

Then things began to change, most noticeably in the Reagan
years, though the "current account deficits" - a
comprehensive measure of the net flow of goods and services
between the United States and the rest of the world - that
he ran up look piddling today. 

Some economists argue that this transformation from
creditor to debtor is nothing to worry about. Capital flows
into the United States, they say, simply because it is a
great place to invest and foreigners want a piece of the
action. In any case, the foreign investors seem ready to
settle for markedly lower returns when they invest in the
United States than the returns Americans get when they
invest overseas. That is the only way to explain why the
United States consistently receives higher investment
income from its investments abroad than it pays out to
foreigners who have put their money into American assets. 

This might lead to the conclusion that Mr. Rogoff of the
I.M.F. has little to worry about. But while being a
hyperdebtor may not matter in economics, it can matter in
the realm of strategy. 

When the last great English-speaking empire bestrode the
globe a hundred years ago, capital export was a foundation
of its power. From 1870 to 1914, net capital flows out of
London averaged from 4 to 5 percent of gross domestic
product. On the eve of World War I, the capital flows
reached an astonishing 9 percent. This was not only an
extraordinary diversion of British savings overseas. It was
also a remarkable attempt to transform the global economy
by investing in commercial infrastructure - docks, railways
and telegraph lines - in what we now call less developed
countries. 

From 1865 to 1914, nearly as large a proportion of total
British savings went to Africa, Asia and Latin America as
remained in Britain. Critics of colonialism may carp about
the wickedness of empire, but the one undeniable benefit of
British hegemony was that it encouraged investors to risk
their money in poor countries. 

It also gave the British real leverage over the rest of the
world. British rule in Egypt did not begin with military
occupation in 1882. For years before, British investors had
been building up their holdings of Egyptian assets (most
famously the Suez Canal). 

This could prove a crucial difference between the days when
Britain wielded power in the Middle East and today, when
the United States aspires to recast the region. First,
little in the current geographical distribution of American
overseas investment suggests a natural predisposition to
sink dollars into the desert. More than half of all
American foreign direct investment is in Europe, compared
with a paltry 1 percent in the Middle East. 

SECOND, there can be no guarantee that foreign investors
will be willing indefinitely to put such a large chunk of
their savings in American government bonds and other
low-risk securities. Right now they seem to be content with
the prospect of a third year of disappointing returns on
Wall Street and the lowest yields in Treasury bonds since
1962. But will they stay content? 

Not so long ago, from 1984 to 1987, dollars were being
dumped on the currency markets. Another crisis of
confidence is not impossible to imagine, especially if all
those foreign holders of bonds worry about the Bush
administration's combination of increased military spending
and decreased taxation. 

Since the creation of the euro, investors have a whole new
range of securities in which to invest. European bonds
might look attractive if foreigners, and not just
Americanophobic French millionaires, start to think of the
euro as safer than the dollar. Al Jazeera recently ran a
cartoon of Uncle Sam weeping as the euro was run up a
flagpole in place of the once-mighty dollar. 

There is, however, a glimmer of comfort. The good news is
that in the past one great empire did rely on foreign
loans. The bad news is that it was czarist Russia, which
depended on a succession of huge foreign loans - largely
from French investors - to modernize its military. 

The only catch was that Russian dependence on French
capital led the czarist government to heed advice from
Paris - for example, about how many rail lines to build
from Moscow to the Prussian border. Look where that ended:
Russia was the first European empire to collapse - first
militarily, then politically - as a result of the costs of
World War I. You might call being a debtor empire the
Nicholas II method. 

Thus President Bush's vision of a world recast by military
force to suit American tastes has a piquant corollary: the
military effort involved will be (unwittingly) financed by
the Europeans - including the much reviled French - and the
Japanese. Does that not give them just a little leverage
over American policy, on the principle that he who pays the
piper calls the tune? 

Balzac once said that if a debtor was big enough then he
had power over his creditors; the fatal thing was to be a
small debtor. It seems that Mr. Bush and his men have taken
this lesson to heart. 

Niall Ferguson, the author of "Empire: The Rise and Demise
of the British World Order and the Lessons for Global
Power" (Basic Books), is a professor of history at the
Stern School of Business, New York University, and a senior
research fellow at Oxford.

http://www.nytimes.com/2003/04/20/weekinreview/20FERG.html?ex=1051982799&ei=1&en=ece4c74ab12935d4



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