Steve Kamin and Mark Sobel on the Outlook of Dollar Dominance

Steve Kamin is a senior fellow at the American Enterprise Institute and was previously the director of the Division of International Finance at the Federal Reserve Board. Mark Sobel is the US chairman of the Official Monetary and Financial Institutions Forum and is a veteran of the US Department of Treasury. Steve and Mark return to the show to discuss the status of dollar dominance, the future threats to dollar dominance, the role or lack thereof that stablecoins will play in dollar dominance, the new findings in the Treasury Foreign Exchange Report, the current state of tariffs, whether we are in a second China shock, and much more.  

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This episode was recorded on March 5th, 2026

Note: While transcripts are lightly edited, they are not rigorously proofed for accuracy. If you notice an error, please reach out to [email protected]. 

David Beckworth: Welcome to Macro Musings, where each week we pull back the curtain and take a closer look at the most important macroeconomic issues of the past, present, and future. I am your host, David Beckworth, a senior research fellow with the Mercatus Center at George Mason University, and I’m glad you decided to join us.

Our guests today are Steve Kamin and Mark Sobel. Steve is a senior fellow at the American Enterprise Institute and previously was the director of the Division of International Finance at the Federal Reserve Board. Mark is the US chairman of the Official Monetary and Financial Institutions Forum, and previously, he served at the US Department of Treasury for almost four decades, including as Deputy Assistant Secretary for International Monetary and Financial Policy from 2000 to early 2015. From 2015 through 2018, he was the US representative at the IMF.

Steve and Mark join us today to discuss whether dollar dominance is waning, the Treasury Foreign Exchange Report, and whether the US has a balance of payments issue. Steve and Mark, welcome back to the program.

Steve Kamin: Thanks. It’s great to be back here.

Mark Sobel: Thank you.

Beckworth: It’s great to have you on. Now, you were on the podcast two years ago, almost exactly. It was in March.

Kamin: Yes.

Beckworth: This is exciting to have you back, and it seems like just yesterday you were here, but time has flown by, and we’re back to discuss some of the same issues we discussed last time.

Kamin: So tedious. 

Beckworth: Fun, though, because you guys are two international economists, senior policy folks. You both work in very important roles. You led the Fed. You led the Treasury. Mark, as we talked about last time, I was at the Treasury when you were there. I was just a lowly person right out of grad school. You were this big shot at Treasury doing all the big meetings and stuff.

Today, we’re going to talk about something that you were a big part of, and that’s the Treasury Foreign Exchange Report. I have some stories from that period I might share as we get into that. I want to go to a piece that both of you put out recently, in the FT. It speaks, again, this question of dollar dominance. You had a very clever title. The title was about termites eating at the foundation of dollar dominance. Should we be worried? Is our house beginning to have shaky foundations because the termites are eating away at dollar dominance?

Termites Eating Away at Dollar Dominance

Kamin: Well, I think the answer is yes. Let me start by noting that the termite-eating-the-foundation idea was Mark’s, and I give him full credit for that.

Beckworth: Oh, great, Mark.

Sobel: All the substance of the piece was, too.

Beckworth: Okay.

Kamin: That is true. I want to start by actually saying that when we were on your show a couple of years ago, Mark and I had just written an article, basically noting that while a lot of people were saying that the world was going to be abandoning the dollar, our view was that those views were overstated, and the dollar was going to remain dominant for years to come.

We also noted that if the dollar were to be dislodged, it would be not so much because of competition from Europe or China but because of bad economic policies in the US. If that were the case, then the loss of dollar dominance would be the worst of our problems. All right. Fast forward to today, and the article that Mark and I wrote recently, and I think—Mark and I haven’t actually discussed this—we would agree that the dollar will probably, in the most likely scenario, stay dominant for years to come.

Sobel: We said that in the piece.

Kamin: We said that in the piece. Thank you. In fact, the list of bad policies has gotten longer, and it’s actually happening. I think we are less confident than we were two years ago about the longevity of the dollar. In the piece, we label a bunch of policies that are being followed at the moment that are likely to damage the dollar’s standing, including policies that undermine the vitality of the US economy, notably the tariffs, but also blocks on immigration, rising fiscal debt, reduced support for research and development.

We also flag policies that might threaten the independence of the Fed, policies that threaten the safety of US Treasuries, mainly through fiscal overruns, particularly policies that undermine our allegiances with our allies and trading partners, which is crucially important, and threats to the rule of law and trust in US institutions. All those are factors that we flagged that, like termites eating away at the foundations, could end up reducing dollar dominance. Do you want to add anything to that, Mark?

Sobel: That was perfect. How could I add anything? Just to echo, what we said was that, given these somewhat shakier foundations, that we could imagine a world without dollar dominance emerging in the coming decades, but we certainly do not see dollar dominance going away anytime soon, given the size of our economy, depth of our capital markets, our financial networks. The US banks basically finance global trade and finance.

I think Steve characterized it well. I guess I just wanted to echo the point that he makes, which other commentators really don’t make, which is that sometimes people speak about dollar dominance as an end of itself. I think about it more endogenously, that it is a property of these institutions that undergird American prosperity. If we undergird those properties, we’re hurting American prosperity. As we’ve often said in that situation, dollar dominance will be the least of our worries.

Kamin: In our earlier writings, we went through the different advantages that a dominant dollar offers to the United States. There are a fair number of those, but we don’t regard them as really of first-order importance. Obviously, the prominence of the dollar means that folks all over the world are holding dollar cash. The fact that they’re holding dollar cash rather than US Treasuries means that the US government is saving on interest payments. That amounts to less than a quarter of a percentage point of US GDP per year, so not a big deal.

Probably a more prominent advantage of the dominant dollar is that the US Treasury pays lower interest rates on its bonds than other governments, but nobody really knows how large that advantage is. There’s actually a little bit of a cottage industry in economics on that topic. Looking at things from a more practical perspective, our interest rates, both nominal and real, tend to be higher than those in Japan and in Europe. It doesn’t seem like the advantage in interest rates conferred by the dominant dollar can be all that great.

Kind of like toting up those advantages, we don’t see them as great. Again, if the dollar lost its advantage, its dominance, more because of prosperity and financial innovation in the rest of the world, that wouldn’t be that bad a thing for the US government.

Sobel: There’s one point, though. The dollar goes up and down in markets. That is a different question than what we’re talking about. On the exorbitant privilege issue, I agree with Steve. I think Americans are shielded from foreign exchange risk, which is also an advantage. One thing that increasingly is a consideration, that wouldn’t have been several decades ago, is what they call the “geonomics,” the economic statecraft value of having dollar dominance. That can be a plus. I totally support the freezing of Russian assets.

You could also argue that the increased resort to financial sanctions over time will erode a bit a country’s willingness to hold dollars or to seek greater diversification. I just wanted to flag that. I’m totally with Steve. Basically, exorbitant privilege, it’s a net plus.

Beckworth: Overrated.

Sobel: Yes, this notion that one hears from all over the world that the US has some exorbitant privilege is overrated.

Kamin: Just to amplify on Mark’s statement. In our earlier writings, we flag that the loss of geopolitical power through sanctionings might actually be the most important loss to the US associated with a loss of dollar dominance. Since the dollar is the world’s number one transactions currency, and since almost all of these transactions have to go through the United States, in particular the New York Fed, if we decide that certain countries or companies basically are off limits, we can make them off limits.

Now, to Mark’s point, if the loss of dollar dominance basically led to a situation where we needed to cooperate more fully with our European and Japanese allies in order to monitor and enforce the global financial system, from our standpoint, that would not be so bad. I think we both prefer a more cooperative international approach to imposing sanctions on bad actors than a unilateral going-it-alone approach on the part of the US government.

Beckworth: Just to illustrate that, when President Trump, in his first administration, came in, he was very much against the deal with Iran that the presidents before him had signed. He campaigned on it, even. He comes in, and he completely revokes it. What was interesting to see is that we had come together with the Europeans, and we had signed this deal, and many European firms had invested big amounts of dollars in the country. We said, “No, you can’t. We’ll impose primary and secondary sanctions, so banks and firms—” They were livid, right? They were—

Kamin: Yes, they were.

Beckworth: —very upset, but there’s nothing they could really do about it. We had this advantage, which is one of the advantages of dollar dominance, is being able to use that lever. The concern is, if you use that lever too much, that lever breaks down. People don’t want to use the dollar.

Kamin: Exactly.

Sobel: Double-edged sword.

Kamin: Double-edged sword.

Sobel: Double-edged sword. Yes.

Kamin: Indeed. Exactly. At the risk of hijacking your agenda, I wanted to highlight another aspect of the article in the Financial Times that Mark and I wrote,—.

Beckworth: Yes, please do.

Kamin: —which focused, actually, on the extent to which, over the last year or so, the dollar actually has lost dominance. This issue is prompted by events that happened after Liberation Day, which was April 2 of 2025, when, as you may recall, President Trump announced sweeping tariffs as high as 50% on all regions of the world, including some that were uninhabited.

That event shocked global markets and global investors, who were basically taken aback by the capricious and anti-productive nature of these announcements. The interesting thing that happened after April 2 was that the dollar, which previously had always been a flight-to-safety currency, rising during times of financial turbulence, actually fell instead. That gave rise to a widespread view that maybe Trump’s actions had already dislodged the dollar from its dominant position.

We’ve done some research on that that’s described in the article, and more thoroughly in some writings that I’ve released over the last year in working papers under the AEI label, as well as an article actually in VoxEU on that topic. Basically, we estimated a very simple mini-model of the dollar against advanced economy currencies where the level of the dollar is related to our interest rate differentials between us and other advanced economies, as well as the level of the VIX. The notion being that when the VIX, which is a measure of volatility, rises, the dollar, as a flight-to-safety currency, would rise as well.

With that in mind, right after Liberation Day, the actual dollar plunged well below the predictions of the model, consistent with the view that maybe something new and different was happening in terms of the dollar losing its status. Moreover, when we used the model to track the specific response of the dollar to changes in the VIX, in the four years before Liberation Day, on average, the dollar had always risen in response to increases in the VIX. For several months after Liberation Day, that sensitivity turned negative.

Beckworth: Interesting.

Kamin: When volatility went up, the dollar fell, making the dollar less like a safe haven currency and more like an emerging-market-style risk-on currency.

Beckworth: That’s sobering.

Kamin: That behavior tended to confirm a lot of blather in the financial press about the dollar losing its dominant position. What happened as financial markets calmed, as the stock markets in the States and around the world started rising, and as volatility, as measured by the VIX, fell back to more normal levels, is that, in fact, the dollar, in level terms, returned to alignment with the model.

The econometrically estimated response of the dollar to the VIX reverted back to positive territory. That has remained true all the way, including through a couple of days ago when I had my research assistant re-estimate the model to take into account the events of the Iran War. Again, the response of the dollar to the VIX is positive, indicating its safe-haven currency status is still there, and the dollar now looks within a whisker of its prediction.

The point of all that long-winded description is that it’s going to take more than a few crazy policies on the part of the administration to dislodge the dollar’s dominance, just the way if you first notice that in your basement your house has termites, that doesn’t mean your house is going to collapse tomorrow. It could take years and years.

Beckworth: We saw a glimpse of what it might look like, though, for a few months if indeed we did permanently lose dollar dominance. We got a teaser, like a movie trailer. “Oh, this is what could happen. We could see the dollar actually fall when there’s increased volatility as opposed to the opposite case,” which is what we normally experience. Now we’re back to safe-asset status.

Now, on the list of developments since we last talked that you brought up, you mentioned we have an administration that’s added some uncertainty and has a strained relationship with allies. At some point, there’ll be a new administration, right? There’ll even be a midterm election here this year. Things could ease up on that margin, but we still have other issues in that list. What would you rank as probably your top concern over the next decade, next five years for the threat to dollar dominance?

Future Threats to Dollar Dominance

Kamin: Probably the same threat that we identified a couple of years ago when we were here, even before the new administration took power, which is the fiscal. Right now, federal debt in the hands of the public to GDP is around 100%, which is historically high in peacetime for the United States, although it’s roughly similar to what you have in Europe.

The projections are, given current and future fiscal deficits, for debt to GDP to go up to 150% or higher by the middle of the century. Nobody knows what the trigger point is in terms of debt to GDP. Japan has certainly gone higher, but I think that would be our main concern.

Sobel: I agree with that. Well, one issue is that’s going to be 6% of GDP fiscal deficits. That’s going to cause some—

Beckworth: It’s huge. Yes.

Sobel: —market volatility. I also worry about a creeping fiscal dominance scenario where the Fed comes under pressure to keep rates low, as Trump has basically said he wants. The poor fiscal policies can become associated with the tax on the Fed, would be very bad. Then I have to say, as Steve basically just said it, we’re multilateralists at heart, and I think that when the US is behaving unpredictably around the world and hurting our allies and our trusted partners, I think that’s my second-biggest concern.

Kamin: I would note that in my metric of dollar dominance, which is the dollar safe-haven behavior, its response to the VIX, during the few days that President Trump was in Davos recently threatening to invade Greenland, that sensitivity of the dollar to the VIX dived south again.

Beckworth: Again, another glimpse of what could be. 

Kamin: Exactly. It went away once Trump went away from Greenland.

Beckworth: That’s so fascinating. Yes, the forecast of primary deficits as far as the eye can see, no appetite by either party to really address what’s really needed, entitlement reform, which I understand as a politician you don’t want to go there, but we need to go there. That undermines, at the end of the day, what you said, Mark. We don’t care about dollar dominance as an end in itself, what it represents or what it symbolizes, that we have prosperity and we’re thriving. We’re flourishing as a nation. Prosperity. We want economic growth. Those are the things that we do.

Stablecoins and Dollar Dominance

Let me go into that space a little bit more about fiscal policy. One of the motivations, not the only motivation, but one of the motivations given by this administration for something that I’m excited about, and that’s dollar-based stablecoins—and I should be careful. There are still challenges with it. It’s not a panacea for anything. Dollar-based stablecoins, the argument has been made, could increase the demand for T-bills, whether it’s a net gain or not is another question. What role do you see it playing in this dollar dominance conversation? Any, if at all?

Kamin: I think that directionally, that argument makes sense. As Treasury Secretary Bessent has explained, dollar stablecoins, they’re called that because they are cryptocurrencies whose value is stabilized because they are pegged to dollar assets. Those are usually US Treasuries. As I mentioned before, people throughout the world hold US cash. In Argentina, they keep it in safe deposit boxes in banks and under the mattress.

Obviously, a very fluid stablecoin would be a more convenient and more transactions-positive way of holding dollars. You could imagine dollar stablecoins making some considerable inroads. Yes, you could imagine that bolstering the demand for US Treasuries, and in so doing, bolstering the dominance of the dollar. The question really comes down to magnitudes. How big will the demand for these dollar stablecoins be? How does that compare to the universe of relevant dollar assets?

Taking these two parts in turn, let’s start with the demand for dollar stablecoins. Obviously, nobody has a clue as to how large that demand is going to be, but investment banks are paid to come up with unpredictable forecasts. They have. Right now, dollar stablecoins in circulation amount to somewhere in the neighborhood of $300 billion. Different estimates for five years from now, 2030, point to a range going from not much more than $300 billion to as high as $4 trillion.

Let’s take that $4 trillion number. Of that $4 trillion, of course, a lot of that is not going to come from nondollar. It’s actually going to come from other dollar assets held in other forms. Moving from those forms to stablecoin isn’t going to do anything for the demand for Treasuries. However, according to estimates consistent with the $4 trillion, maybe something like $2.6 trillion of that amount could come from other currencies going into dollar stablecoin. That’s $2.6 trillion in demand for US dollar assets that didn’t exist before. Hold that thought.

Now let’s go to the universe of all relevant dollar assets. What I’m going to count as relevant is the $30 trillion in Treasury securities, and then I’m going to add into it another $5 trillion for the monetary base. That gives you $35 trillion. Then let’s expand that with GDP and prices out to 2030, giving you around $43 trillion. We’ve got an extra demand for dollar assets from stablecoins of $2.6 trillion compared to a total universe of $43 trillion, which means that additional incremental demand is in the neighborhood of 6%.

Is that a lot or a little? It’s material. I think it does add to the demand for Treasuries. It does add to the demand for dollars, but it’s not huge. In a context where our termites had been working diligently on the foundations of the house of dollar dominance, leading it to become precarious and crash, it’s unclear that stablecoins would be the dollar’s savior. 

Beckworth: Wow. It’s getting dark here. 

Kamin: Well, turn on the lights. In this adverse scenario, where the dollar is becoming more precarious in terms of its role, and we look to stablecoin for rescue, at that point, stablecoins themselves might be a very viable entity in financial markets. People would presumably stop pegging them to the dollar and start pegging them to other currencies.

Beckworth: Good point.

Kamin: Bottom line, stablecoins can be helpful, but they’re not a panacea.

Beckworth: Mark, do you want to add anything to that?

Sobel: Steve and I, we haven’t talked about this one, but usually we see eye to eye.

Kamin: Oh, no. 

Sobel: I think we’re getting to the same point. He was a sophisticated Fed economist, PhD economist. I was just a Treasury guy. I have a much simpler perspective on it. I don’t see major additionality from stablecoins. To me, in the United States, a dollar is worth a dollar. Why would I abandon a money market fund or a dollar deposit that’s paying interest for a stablecoin, which, so far as I know, isn’t going to pay interest? The money market funds are already into the 2a-7 requirements. Basically, that’s Treasury’s holdings to a significant extent, so that’s not additionality.

I’m not sure Europeans need a dollar stablecoin. China bans stablecoins, as I understand it. Let’s say I’m a rich Latino in the Argentine episode, the person he just mentioned. I already got my money in Miami in dollars. Basically, I can imagine stablecoins being very helpful on the remittance side, but that’s not a store of value function. That’s just a pass-through function, it seems to me. If country X’s citizens start buying stablecoins right and left, and that has adverse consequences on the monetary sovereignty of the country, is the country going to say, “We ban stablecoins”?

Basically, when I put it together, I don’t see additionality. Also, I see stablecoins basically as a pass-through mechanism for crypto. Crypto, to me, is about criminality, money laundering. Tether is the largest stablecoin in the world. It’s in El Salvador. Who knows what it’s invested in and whatnot. I think this could end unhappily.

Beckworth: Wow. Okay. This didn’t go where I was thinking it would go. Let’s talk about that. This is interesting.

Kamin: My argument was benign but unhelpful. Mark says “pernicious.”

Beckworth: Pernicious. I like this. This is good. Let’s start with, I think, what we would all agree on, that it seems unlikely to be large net effects that, even if you get this $2.6 trillion, it’s really small. It’s a drop in the bucket relative to the total amount of marketable Treasuries out there. Let’s concede that.

Also, the Europeans not being affected by this, that makes sense to me, Mark, but if you listen to ECB officials, they sound terrified by this. I’m puzzled because I think, too, why would European retail users—there’s wholesale euro dollar markets already, but this would be more of a retail asset, right? Do you have any sense, either of you, why the European ECB officials talk about this so much, why they worry about it if it’s not going to be a problem?

Kamin: They are obsessed with what they call monetary sovereignty. It probably reflects long, bristling resentments at the dominance of the dollar. I would note that I had the dubious pleasure of working on—I believe it was a G7 working group, when Facebook first floated its idea for the Libra stablecoin back in 2019.

Beckworth: Oh, yes. Good times. 

Kamin: Yes. That got many members of the G7 very hot and bothered, very concerned. I contributed to a piece on the monetary and macro implications of a stablecoin, but with a view that there are issues, there could be problems, but they weren’t first order. Several of the other countries involved, particularly in Europe, were very concerned. As I say, I think this is like a knock-on reflection of their longstanding focus on exorbitant privilege.

Beckworth: It’s almost personal, even if it’s a small effect. It becomes blown up in their mind because this has been a longstanding issue for them.

Kamin: Right. The idea, again, of monetary sovereignty is one of the reasons why the European Central Bank and others have been pushing the idea of a digital euro, a central bank digital currency. Whereas, in the United States, we being much more confident in the supremacy of our currency, no interest or much less interest in a CBDC.

Beckworth: We don’t need a CBDC.

Kamin: That’s correct.

Beckworth: Yes, I know. I’ve looked closely at this issue because I went to some presentations of Luis Garicano from—I think it’s London School of Economics. He’s a former European member of parliament. He’s also an economist. He used to be at Chicago. He gave this really fascinating talk where he said the Europeans are shooting themselves in the foot because, on one hand, they have overregulated or highly regulated the space where one could issue a private euro-based stablecoin, so no one wants to do that.

You have to go through a bank to really be a stablecoin issuer. The banks are competitors, so shut out any competition from private space. The CBDC, on the other hand, is a watered-down version. He said there’s caps, there’s limits, and they’re doing all this to protect the banks in Europe. They realize they’re doing this, but they also realize it opens a big hole, a vacuum that could be filled by dollar-based stablecoins. I guess that fear of losing sovereignty on top of that is just driving them wild.

Now, to the dollar-based stablecoin issue, I guess what I had been wondering is what would it truly displace? We talked about there’s lots of physical dollars out there already. In my mind, that would be a substitute for the physical currency in Latin America, maybe parts of Africa. The question is, how much net additional demand would there be? New dollar, create substitution out of other currencies. I hadn’t heard that $2.6 trillion number. That’s pretty large, relative to what I was expecting.

Kamin: Yes. If you take the totality of monetary holdings in the world—

Beckworth: It’s small.

Kamin: Well, I’m just saying if you look at just the total amount of basically wealth people have in monetary forms around the world, it’s gigantic. My point is that estimate is actually conservative in terms of a guesswork—well, I don’t remember the actual numbers, but let’s say that there were $200 trillion in complete and total wealth around the world. Then you say, “Well, how much—?”

You only need a teeny percentage of that to be turned into dollar stablecoin in order to get some pretty big numbers, like $2 or $3 trillion. That said, we really don’t have a clue as to what the takeout would be. In particular, to build on a point Mark made earlier, right now, stablecoins are used almost exclusively for cryptocurrency transactions. In order to get the take-up that we’re talking about, stablecoins have to move from that restricted sphere into actual holdings by households and firms. We just don’t have a good idea of whether that would really take place or not.

Beckworth: Yes. There’s a lot more we could talk about here, but I want to get to the Treasury FX Report. I’ll just say that as someone who follows the Fed, as you guys do as well, one implication for the Fed is if, in fact, dollar-based stablecoins displaced all physical currency in the limit, and that may be an extreme case, but that would really undermine the Fed’s currency franchising. It’s a really cheap source of funding. That would actually have a bearing on the Fed’s operating income versus losses. That’s something the Fed, I think, is thinking about as well, that you don’t have that liability on the balance sheet that pays 0% interest compared to reserves. I think that’s an issue for the Fed to think about. 

Treasury Foreign Exchange Report

Let’s go to the Treasury Foreign Exchange Report. Mark, you’re the perfect person for it. It just came out. You worked on this. I remember working on my little part. I was in the Office of Western Hemisphere Affairs, so Latin American countries. Tell us about what is this report, why do they do it, and what are the legal implications if there’s certain findings of currency manipulation?

Sobel: Well, you’ll recall going back to the ’80s, the dollar soared and soared and soared, reflecting an imbalanced US policy mix, to put it politely. This had the effect of hollowing out manufacturing, it was said, and you heard the term in those days, “Rust Belt.”

As a result of that, in 1988, Congress put in place legislation mandating the Treasury, twice a year, produce a foreign exchange report and look at US economic developments, but basically, do other countries manipulate their currencies to gain unfair competitive advantage in international trade? We began producing this in the late ’80s. To be honest, it was toothless. It said, “Well, if you find manipulation, you have to go negotiate on an expedited basis with the country to solve the problem.”

Beckworth: That was in the law, right?

Sobel: That was in the law, and it’s kind of in the law, but there weren’t really sanctions of any meaningful teeth and still aren’t. That, within the ambit of the legislation, there aren’t meaningful enforcement actions within the ambit of the legislation. Treasury has produced this.

In the 2004 period, humongous frustrations in Congress that Treasury didn’t find China a manipulator. There was a case for doing so, clearly. I will say what I think. I think Secretary Paulson’s view was I’m on the phone with him every day. I have set up these joint US-China dialogues with him. I am pushing them all the time. In his period, the RMB did rise substantially against the dollar. That would have been the outcome he would have wanted from a negotiation. Declaring them a manipulator might have irked them and caused them to take their marbles home. He didn’t go there. One can debate it. He didn’t go there. That’s my interpretation of why. This persisted, these concerns about China, even after its current account surplus tanked. 

Congress remained concerned, and in 2015/2016, the cusp thereof, rewrote the foreign exchange legislation or augmented it on how Treasury would write the report to focus it much more clearly or quantitatively, perhaps I should say, on bilateral trade balances, which economists don’t pay too much attention to, current account surpluses as a share of GDP, and foreign exchange market intervention. If you said to me, “How would you go about ferreting out if a country is manipulating its currency?” You would say, “Well, do they have a large current account surplus and are they intervening to keep their currency low?” That’s where those criteria came up.

I would say in the subsequent 10 years to that 2015 legislation, the Treasury report was somewhat of a check-the-box approach with respect to the three criteria. At one point, Trump declared China a manipulator, not because they violated the three criteria, but he was mad about the RMB. Then there was a case where Switzerland and Vietnam checked the three boxes, and Treasury declared them both manipulators. It was absurd because Switzerland, small, open economy, macro, Vietnam was getting huge inflows because of outsourcing from China and whatnot.

I think what I’d mentioned to you is that the latest report I thought was interesting. It bores the heck out of everybody. In Washington, they just go, “Is China a manipulator?” “No.” Then they throw it in the trash can. There are maybe 100 people in the world that read it and look at it as an analytic piece. Being one of those 100 fools, I thought the last one was interesting because there was a lot of discussion in it, particularly with respect to Asia area, about lack of transparency in foreign exchange practices.

Do we really know the size of the Chinese current account surplus? Do we really know how China’s foreign exchange system operates? Questions about whether pension funds and sovereign wealth funds, where state-owned commercial banks could be doing the bidding of governments and that could be de facto intervention and whatnot. Treasury said that they were going to focus a lot more on these issues and they were going to take them into account into their assessments, which I thought was more or less fair. I thought that was interesting. Also, the report was more qualitative. It even suggested that maybe America’s fiscal profligacy has something to do with our current account deficit.

Beckworth: Wow, it said that, huh?

Sobel: It did. You have to find it, very carefully, but there was a sentence in there. I’m sure the person who wrote it is going to get fired. I guess the one other sentence that caught my eye, and it was 59 pages long, so this is very impressive, was a suggestion upfront that in cases of manipulation, Treasury could suggest to USTR that they start 301 currency investigations. I don’t like this idea.

Beckworth: What is a 301 investigation?

Sobel: It would be unfair trade practice. The currency undervaluation is an unfair trade practice. Sorry, we speak in Washington speak. We should clarify these things. Again, in Trump 1.0, there was a 301 currency investigation that was begun against Vietnam, as well as a countervailing duty currency undervaluation case brought against Vietnam, as well as one that started against China. In essence, this is using currency policy as a trade tool.

I don’t care much for this. Why? Steve and I will say, “A currency is undervalued and whatnot,” but Steve and I both will admit there’s no precise way to estimate how much currency is undervalued or not. When we do, Steve and I are probably thinking about the trade-weighted currency. For a bilateral pair, the idea of bilateral equilibrium exchange rates is ridiculous. Think of China. Should the US be in trade balance with China, or is a $100 billion deficit is okay? That would probably have ramifications for what you thought the equilibrium exchange rate was between the dollar and the RMB, for example.

Then exchange rates reflect macro forces, which are much broader than trade flows. Gross capital flows are much bigger than trade flows. Then think about a two-currency world—the dollar and somebody else. Let’s say the United States starts running bad policies. Let’s say we run these very expansive fiscal policies that push up rates and the Fed is tightening because of inflation, for example. What’s going to happen? Dollar goes up, would be my guess.

Now, let’s say we have a very strong dollar, a strong overvalued dollar. In this two-country world, if the dollar is overvalued, the other currency, by definition, has to be undervalued. Is that because of the country’s currency practices, or is it because of US imbalanced policies? Then, being a good bureaucrat that I was—well, I’m flattering myself, but anyway, some people would say—

Kamin: He was. In fact, he was our favorite Treasury bureaucrat in the International Finance Division of the Fed.

Sobel: Is that good or bad? It’s a good thing I left the Treasury before that became public knowledge.

Beckworth: When I worked there, Mark, we viewed you with high esteem. You were this senior figure who knew a lot about everything.

Sobel: Enough flattery. The point I’m making about the bureaucracy is that USTR administers 301s, Commerce administers CVDs, and neither department has any responsibility for or expertise or domain on monetary or FX policy or even fiscal policy, which to me are the major determinants of exchange rates. They should not be getting involved in such issues.

Kamin: This is really an interagency squabble.

Sobel: With very profound economic complications. Then, what my next line was going to be, to take the sting out of Steve’s last remark, is that these are in the domain of Treasury and Fed. Even though the Treasury nominally has responsibility for FX, we know that foreign exchange rates respond very fundamentally to monetary policy. In a way, this is why Treasury and the Fed cooperate very closely, in fact, on FX policy, or as Steve once put it to me, “Mark does FX policy, I do monetary policy.”

Anyway, I guess I’d stop there. Countries do follow bad, harmful practices at time, but on balance, I just think using trade tools to tackle currency perceived woes is a sketchy idea.

Beckworth: That is the question I’ve had reading those reports and listening to you is, “Well, even if you wanted to respond in a meaningful way, who’s going to do it?” There’s all these different agencies. The Fed has its power. The Fed’s independent. The Treasury has this little fund it can use, the exchange stabilization fund, but can that really do much? There’s interesting questions there on implementation.

Tariff Policy

Now, I want to use that to briefly segue for a few minutes onto the latest round of tariffs. How will they be implemented? As you know, the Supreme Court shut down the original use of law. Now, the Trump administration is going with section 122 of the 1974 Tariff Act. To do that, it has to be motivated by a balance-of-payment crisis. Help me understand. Does that even make sense in the world we’re in today, and why not if that’s not the case?

Sobel: Steve and I talked about this earlier, and I was going to take the lead on this.

Beckworth: Do it.

Sobel: I have a long-winded answer in regard to this, almost like Steve on dollar dominance and the VIX and whatnot.

Beckworth: Go for it.

Sobel: Section 122 of the 1974 Trade Act can be invoked whenever. “Fundamental international payments problems require special import measures to, one, restrict imports to deal with large and serious US balance-of-payments deficits; two, to prevent an imminent and significant depreciation of the dollar; or, three, to cooperate with other countries in correcting balance-of-payments disequilibrium.” That’s what it says. I had to actually look it up.

I had three immediate reactions when I saw this. First, what’s a balance-of-payments deficit? Because the balance of payments, by definition, always balances. Am I allowed to be really long-winded and tell you why I think that?

Kamin: Yes.

Sobel: I was sitting once when I was really young behind a Treasury official testifying to Congress on Japan issues. He was on a panel. I think it was Beryl Sprinkel. He was on a panel with William Niskanen. There was a break for the congressmen to vote. I was talking to Niskanen. He said, “I don’t know why we keep BOP data. We know the BOP balances, so what’s the point?” Anyway. We can slice and dice the balance of payments. We can look at trade balances. We can look at current account balances. We can look at the basic balance. We can look at the official settlements balance, among others.

I mention the official settlements balance, which is a dinosaur-era measure that Steve may have heard of, but nobody these days has.

Kamin: I might have heard of it. I have no idea what it means.

Sobel: The reason I cited is that there was a Jason Furman X tweet thread, whatever, that basically said that it was the intent of the 1974 legislation. Basically, that involves reserve drawdowns when a currency is under pressure. Let’s think about an emerging market crisis. You have an adjustable or a fixed peg. Pressures emerge on the currency. Nobody has confidence in policy, the country draws down reserves to fight it, and the currency crashes anyway. That is not so applicable to floating rate regime, but you could imagine a somewhat similar set of phenomena happening under floating rate regime if you think about the dollar in 1978, for example. I’m going way back in history, Steve.

Kamin: I was in high school then.

Sobel: Let’s look at America and the financial situation today. The dollar, as Steve outlined, has been fairly steady since Liberation Day. On a trade-weight basis, it’s still strong. Stock market’s done well. Ten-year Treasury yield was coming down recently. Inflows were continuing. There’s no crisis. I don’t know in today’s context what is meant by large and serious balance-of-payments deficits. That’s one problem with the legislation. 

Second, there is no definition that I know of for a fundamental international payments problem. Most people focus on large current account deficits these days. Before the Global Financial Crisis, the international community has held many discussions about excessive global imbalances. We may come back to this, but in short, it basically means the US runs large deficits, and the Chinese and Europeans run large surpluses. We are not innocent, nor are they, in contributing to global imbalances.

As you know, the current account gap equals the difference between national saving and investment. Steve can tell you the math if need be. Why is US savings low? A key reason is our huge, unsustainable, and irresponsible fiscal deficits that we’ve constantly talked about here. They are not a fundamental international payments problem as far as I’m concerned. They are a fundamental domestic payments problem. We should tackle this fundamental problem to be sure, but we should do it through sane fiscal policy. I wouldn’t include tariffs as sane fiscal policy.

Now, the third thought I had was around this language about preventing significant dollar depreciation. In fact, the administration, through its misguided Mar-a-Lago Accord chatter and other behavior, arguably has wanted a significant dollar depreciation. Not to prevent it. Again, since mid-summer, the dollar has been steady, and post-Iran, it’s gone up. There’s no reason to assume a significant imminent depreciation.

All that said, I’m not a lawyer. With the IEEPA tariffs, my first reaction was, “We’ve had deficits for 50 years. There’s no emergency here.” I just told you there was no fundamental international payments problem. I just went through how the market functioning right now is inconsistent with the language of 122, as I think about it. To me, why isn’t 122 on its face ridiculous and out of bounds?

I know some trade lawyers, and they keep telling me that the Supreme Court tends to defer to presidential determinations, especially given the unitary executive theory. Hence, the IEEPA ruling wasn’t about why there’s no emergency. It was about article 1 versus article 2 and major doctrines questions, and things like that. Thus, my trade lawyer friends may be right when they tell me that what I’ve said about section 122 and the meaning of a balance-of-payments deficit and fundamental international payments problem could be gibberish to the Supreme Court.

Now, the Court of International Trade said that our trade deficits are not an emergency. Apparently, the DOJ said during the IEEPA litigation that section 122 has no obvious application with respect to the concerns the president identified in declaring an IEEPA emergency, as trade deficits are conceptually distinct from balance-of-payments deficits. Anyway, a big muddle.

I assume there’ll be litigation. I assume by the time the litigation sees the light of day, it’ll be well past the 150-day limit of the 122. I would expect the courts to uphold section 122, but how they rule is beyond me because I’m not smart and clever enough to be a lawyer to able to mold economic issues into a set of reverse-engineered, abstruse, and extraneous lawyerly interpretations.

Beckworth: Fantastic. There’s a lot there to chew on. Just briefly to reiterate this last point you made, it only can be used for 150 days. This will be challenged in court, but Trump will get his 150 days, and maybe he’ll move on to some other legal justification. The bottom line is there’s no economic justification for invoking this, but legally, apparently, lawyers say you can get away with it.

Kamin: My interpretation is that the 122 actually is broader in terms of what it allows the president to do for 150 days than the IEEPA was. The Supreme Court overturned the IEEPA tariffs on technicalities, major question issues, et cetera. They’re not going to have that opportunity this time, and they probably will defer for the upcoming 150 days. The point is that the 122 basically allows the president to do whatever he wants with tariffs.

Beckworth: For 150 days.

Kamin: For 150 days.

Sobel: No more than 15%.

Kamin: I think, with the unstated, perhaps original intention that if the administration were to do anything truly crazy with that order, that a dutiful and conscientious Congress would move to correct it.

Beckworth: We have the midterms coming up. Either way, midterms, 150 days, this will come to an end, it seems like.

Kamin: I’m skeptical that this is going to be adjudicated through voting, but we’ll see. It’s a fairly esoteric issue.

Second China Shock?

Beckworth: It is. We are running low on time, but I want to end on one last issue here. Joe Gagnon at the Peterson Institute for International Economics has this provocative essay out, saying there’s a second China shock. I question the interpretation of the first one. His point is China is going to be running large surpluses. It is already. We’re going to continue to run, in the most likely scenario, a large current account deficit, given what we’ve been talking about. The central theme has been fiscal deficits, as well as the AI investment boom.

I guess my question to you guys is, why are we in this predicament? Why is it the case that we seem to be back in a world of large surpluses coming out of China and these large deficits? Is it just simply fiscal policy, or is it more than that?

Kamin: I think it’s probably more than that. First of all, on the fiscal side, the US government’s very large fiscal deficits are certainly a factor here that have been pushing up our trade deficits. I think there are a number of factors going on the China side that are gathering increased attention over time. First of all, their housing bust has led to even weaker consumption of GDP than has been usually the case. On top of that, under President Xi, there’s been a very concerted move toward increasing both state-owned enterprise activity and manufacturing activity.

I think there’s a goal of basically increasing, to the maximum extent possible, China’s manufactured exports around the world. That has led to some headline indicators, like their very large trade balance surplus last year hit $1.2 trillion.

Beckworth: Wow.

Kamin: That’s a lot. I’m actually not that worried about global imbalances or China’s trade surplus. I don’t think that’s the major issue. If you think about it in terms of percent, their trade surplus is a fraction of global GDP. It’s around 1%, which is not nothing. It’s only gone up maybe a quarter of a percent from a few years ago. In terms of a subtraction from the aggregate demand of the rest of the world from that trade surplus, it’s not great.

I think the issue that’s much more concerning is that their large manufacturing exports—and China is the number one global exporter, accounting for 15% of global exports—that has the threat of a second bout of de-industrialization, which is concerning to a lot of countries. The United States is now somewhat protected from that by our tariff barriers, but there is a concern that those tariff barriers are now pushing China to export more to other countries. Europe’s very concerned about this. Other Southeast Asian economies are very concerned about that as well.

I guess skipping to the punchline, I think this poses two big issues for the future, especially for emerging market and developing economies. Ordinarily, the path toward development has been through industrialization, but now, if China basically establishes itself as a supreme global manufacturing and manufacturing export power, that may make it much more difficult for Asian economies and African economies in particular to follow that route to development. India is already facing those challenges.

Then, for advanced economies, like in Europe and the States, there’s a question, first of all, of how much we want to rely on China for manufacturing that’s relevant to our national security interests. Also, how much a manufacturing base is needed in order to do the sophisticated technological innovation that’s needed to drive even a knowledge economy. These are the range of issues that are posed by China’s increasingly aggressive manufactured export stance.

Beckworth: All right. Mark, you get the last word on this.

Sobel: I actually see the last 25 years of Chinese economic development as a series of rolling shocks. In the early aughts, massive current account surplus, undervalued currency. Along comes the GFC to replace the demand. China ratchets up investment, current account surplus comes way down. That’s reflected in major expansion in infrastructure. 2015/2016, growth scares in China. The next thing you know, the Chinese are replacing the lost demand with a housing boom. That has now petered out. We have this economy, which is facing falling growth, high debt, deflation, low confidence.

Now, to replace the lost demand, or to compensate in part for the lost demand in housing, you have this phenomenon that Steve just described. You have the credit from the state-owned commercial financial sector going into state-owned enterprises, which keep producing manufacturing exports that can’t be absorbed domestically, so net exports go up. That’s how I think about the Chinese economy.

Further, this manufacturing wave, 10% of GDP manufacturing surplus, is being supported by a very weak RMB. If you look at the real graph of the RMB, it’s fallen 15% since 2022. They’ve been letting it rise a little bit up against the dollar lately. I don’t think they’re going to let it rise anywhere near enough to really eat into their exports and whatnot. Basically, the Chinese leadership is not ready to pursue a major reorientation of fiscal policy to support consumption and services and the social safety net. It’s still banking on investment, I think.

Basically, I expect large Chinese current account surpluses to continue. I expect large US current account deficits to continue, as we’ve suggested, because of our fiscal policy. Whether this is China shock 2.0, 3.0, 4.0, or 1.0, I don’t know. I do expect these huge, whopping Chinese surpluses to continue and whopping US deficits to continue.

Beckworth: On that note, our time is up. Our guests today have been Mark Sobel, Steve Kamin. Thank you both for coming back in and joining the podcast.

Kamin: Thanks.

Sobel: Thanks.

Kamin: It was very interesting and exciting to be here.

Sobel: Thank you.

Beckworth: Macro Musings is produced by the Mercatus Center at George Mason University. Dive deeper into our research at mercatus.org/monetarypolicy. You can subscribe to the show on Apple Podcasts, Spotify, or your favorite podcast app. If you like this podcast, please consider giving us a rating and leaving a review. This helps other thoughtful people like you find the show. Find me on Twitter @DavidBeckworth, and follow the show @Macro_Musings.