A WEAKENED U.S. GOES TO THE G-20 / THE WALL STREET JOURNAL OP EDITORIAL ( A MUST READ )

OPINION

JUNE 25, 2010.

A Weakened U.S. Goes to the G-20 .

By GEORGE MELLOAN

Behind the power panoply at the G-20 summit in Toronto this weekend there also will be high anxiety. European leaders fret over the future of the euro at a time when bond buyers are wary of government red ink soaking the continent's southern tier. The Chinese are facing an asset bubble similar to the one that collapsed and scuttled Japan's economic miracle 20 years ago. The Japanese still are mired in economic stagnation dating from that event.

Barack Obama and his aides, however, will be taking the Alfred E. Neuman approach: "What, me worry?" That was evident in the pre-summit article on this page Wednesday by Treasury Secretary Timothy Geithner and National Economic Council director Lawrence Summers. At a time of credit market jitters over rapidly rising international levels of government debt, the chief policy makers for a nation-state currently running a $1.5 trillion federal deficit are counseling their peers to be cautious about cutting back on spending.

Since the U.S. dollar is the world's pre-eminent reserve and trading currency, that strange advice is a legitimate cause for concern. The economies these folks govern account for more than 80% of world production and trade.

The American leaders are under the illusion that their Keynesian spending and easy money policies actually have worked, 10% unemployment notwithstanding. They cite the weak recovery that has been underway in the U.S. since last summer as proof.

But what should trouble them is the fear that by borrowing hundreds of billions a year abroad to support spending excesses, the U.S. is rapidly tapping out its international credit card. Of some $5.5 trillion in marketable Treasury bonds outstanding, nearly $3 trillion are owned by foreigners, which makes the dollar subject vulnerable to international investor mood swings. It doesn't reassure when U.S. economic policy makers say, in essence, that we can't get off this merry-go-round without risking another recession. Cutting spending, it seems, is not an option in Washington's view.

Ironically, it was only the European debt crisis that saved the U.S. from a dollar flight late last year. In an article recently published by the New York Council on Foreign Relations, University of Virginia economist Francis E. Warnock observes that at the end of the Federal Reserve's crisis-driven direct purchases of Treasury securities late last year, the yield on 10-year Treasury bonds jumped 50 basis points to 3.75%. The dollar was sinking rapidly in foreign-exchange markets. But then Greek bonds came under attack and the euro crisis erupted. Foreign governments—China in particular—became fearful of the euro's future and came scurrying back to the relative safety of the dollar. The dollar rose again and U.S. bonds stabilized.

The euro crisis was revealing about the decline of U.S. economic influence. Secretary Geithner's late-May, confidence-building tour of the continent only served to illuminate the dollar's problem. His attempt to provide reassurance suffered from one notable defect: America's borrowing habit is at least as corrosive as that of some of Europe's worst debtors. And whereas the European miscreants are at least paying lip service to fiscal restraint, the U.S. Congress and presidency are showing little heed for the dangers inherent in massive government deficits that have to be financed by either foreign borrowing or excessive, potentially inflationary, money creation.

Mr. Geithner nonetheless was little inhibited from offering Europe a helping hand. The help consists mainly of U.S. backing for his former employer, the International Monetary Fund. The IMF bailout specialists promised $317 billion as their share of a putative $1 trillion bailout fund to restore market confidence in the sovereign debt of profligate states like Greece. The U.S. share of the IMF credit line, based on its IMF quota, would be something over $50 billion.

Why did the European bailout make so little impression on the markets even at what once would have been regarded as an astronomical cost? For one thing, the U.S. Treasury doesn't really have $50 billion, free and clear. Its demands on the global credit market dwarf those of Greece. Instead of the U.S., it was the Chinese who saved the euro. When China assured the Europeans at the end of May that it had no animus toward their currency, the euro stabilized. In Toronto this weekend, summiteers will be courting China, not the U.S., as the world's pre-eminent source of dollar financing. The reason is clear: The Chinese central bank owns $2.5 trillion in foreign exchange, mostly U.S. dollars. The Chinese trust the dollar more than the euro but how long that will be true is an open question.

It surely must have occurred to some Europeans that lectures on fiscal rectitude from the Americans display a modicum of hypocrisy. The German Bundestag is hearing the same sorts of voter complaints about bailouts that the American Congress is hearing. The concept of a huge debtor nation, the U.S., offering to help a bunch of smaller debtor nations solve their sovereign-debt problems seems a bit incongruous. But it doesn't seem to trouble the Obama administration or the Democratic majority in Congress.

It is, however, eroding U.S. international prestige. Russia, Turkey and Brazil, all members of the G-20, have lately made unfriendly gestures toward the U.S. by cozying up to Iran. On a visit to Beijing early last year, Brazilian President Luiz Inacio Lula da Silva picked up on China's anxiety over the dollar's management by opining that world trade should no longer be conducted in dollars.

This is mostly hot air, of course, since there is very little alternative to the dollar at this point—particularly after the euro crisis. But it does reflect global dissatisfaction with U.S. economic policy. Mr. Obama may have trouble selling the Alfred E. Neuman approach to global economic policy in Toronto this weekend. The truth is, with debt levels where they are, he's got a lot to worry about.

Mr. Melloan, a former columnist and deputy editor of the Journal editorial page, is the author of "The Great Money Binge: Spending Our Way to Socialism" (Simon & Schuster, 2009).

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