Streetwise Professor

China is currently undergoing an “overcapacity crisis.” Due to investment booms that far outstripped demand, firms in several major industries are engaged in price wars, what at one time was referred to as “cutthroat competition.”

Presumably because of the negative connotations of phrases like cutthroat competition, the Chinese have coined a neologism–“involution”–to describe their predicament.

Involution ?? or ? doesn't have to be a hard word, but I keep seeing it misused in China commentary, e.g. this article, which I also have mixed feedback on.

Simply: Involution is the state of intense competition AND the symptoms of that competition.?https://t.co/8D4rEDylZq

— David Fishman (@pretentiouswhat) September 20, 2025

The resort to euphemisms is always a tell of a deep problem. And in fine CCP fashion, it has launched a “campaign” against it:

In prosaic terms, then, this campaign is about limiting overcapacity and ensuring China doesn’t fall into the fatal tendency toward deflation that took over Japan three decades ago. It’s also a way to combat the collective action problems that bedevil all economies.

Dressing it as a campaign follows the Communist Party’s long history of presenting major shifts in policy as popular drives against particular internal enemies. It’s a successor to Mao’s anti-rightist and anti-intellectual movements, or the anti-corruption purge that Xi used to exert control over the state apparatus after he came to power in 2012.

And it’s surely a coincidence, right, that the overcapacity is most acute in industries which the government has targeted to be world leaders, which include solar energy (40-50 percent capacity utilization, 90 percent of companies losing money, measured in the billions) and EVs? But it also extends to more prosaic sectors, like steel and coal, and even hogs. Then of course there are the glittering infrastructure and transportation projects that are dazzling, but generate far less value than their cost. And don’t even start on residential construction.

There are no coincidences, comrade.

What has occurred in China represents the largest misallocation of capital in human history. And like much of China generally, the external appearance is but a veneer that conceals a fundamentally flawed construction.

This misallocation is the direct result of the huge degree of central control and “planning” in the economy. No, it is not Patriotic Nail Factory Number 10 will produce 5 billion nails in 2025 style planning, but planning implemented through a vast array of explicit and subsidies, tax breaks, and inducements offered by local governments jumping to the central government’s “guidance” on growth targets.

What the CCP has done, in essence, is play the Sorcerer’s Apprentice, and unleashed economic forces it cannot control.

Xi and his minions are desperately trying to stem the flood by . . . exercising more central control. Specifically, by the “anti-involution” campaign, which is basically government mandated and monitored cartellization of the over-capitalized sectors.

Of course many, particularly in the West, fret that the CCP policies to stifle competition will fail because they are not stimulative. No, really.

It’s a similar situation today, except Chinese policymakers are rolling out only half the solution. While Beijing’s recent push to curb overcapacity is helping rein in the glut in steel and solar sectors, the “anti-involution” campaign is missing a stimulus spark and could hurt the economy instead of bringing inflation back.

Uhm, you think that just maybe that “stimulus spark” is the cause of the problem, not the cure? You can’t follow the logical implications of this–which was in the immediately preceding paragraph?

When President Xi Jinping faced a deflation spiral a decade ago, he not only cracked down on China’s oversupply problem but also unleashed an almost $900 billion housing investment boom.

Not to mention the Keynesian idiocy implicit in this analysis, that “bringing inflation back” is the same as bringing back economic growth. The Phillips Curve, with Chinese characteristics.

What are other alternatives for the CCP? More central direction, of course:

Options available to Xi’s government include overhauling the incentive structure for local officials so they will chase faster consumption instead of investment and production, according to Robin Xing of Morgan Stanley, as well as reforms to transfer more income to households.

They just need to pull different levers, that’s all. Throttle back the investment, juice the consumption. By command!

That always works out well. After all, these guys did so great before why wouldn’t they do great now?

I can’t even. The stupid here–within China, and the Westerners who presume to analyze the Chinese economy–is beyond measuring.

They all would be better off heeding Hayek:

The curious task of economics is to demonstrate to men how little they really know about what they imagine they can design. To the naive mind that can conceive of order only as the product of deliberate arrangement, it may seem absurd that in complex conditions order, and adaptation to the unknown, can be achieved more effectively by decentralizing decisions and that a division of authority will actually extend the possibility of overall order. Yet that decentralization actually leads to more information being taken into account

But of course they won’t.

In sum, China is dizzy with success! It called forth massive investment, and its call was answered. Answered far too well, in fact.

The dizzying success is leading to a pullback, a tactical withdrawal like Stalin’s in 1930. But the fundamental communist mindset of direction from the top has not changed. Meaning that they won’t repeat the same mistakes. They will make new ones instead.

News flash (irony intended): the news media are idiots with the memory of a mayfly.

The most recent example, the breathless coverage of the supposed gas deal between Russian and China announced with great fanfare during Putin’s visit to Xi.

Vladimir Putin's apparent breakthrough on a pipeline deal with China may redefine Russia’s energy future and the global gas trade, writes @SStapczynski https://t.co/asJNGUTKaG

— Bloomberg (@business) September 2, 2025

A new Russia-China gas pact could reshape global energy markets https://t.co/kbIeiAy2b3 | opinion

— Financial Times (@FT) September 4, 2025

“Apparent breakthrough.” “Could reshape.”

Uhm, if you have paid attention, or if you do some actual research, you will know that there have been multiple announcements of the same effing thing over the last 20 effing years. I wrote about these contemporaneously, and always in a tone of hilarity. As I will do today.

Why hilarity, you ask? Because they would make these announcements, and then say: “we’ve agreed to everything but price.” Minor detail!

And of course, the price was never right for both, so the deals always faded away, only to be resurrected to serve some political purpose, like proclaiming Russia’s status as an energy powerhouse, its ability to spurn Europe if the Euros failed to meet Russia’s price terms, or to testify to the deepening relations between China and Russia.

And so here we are. Again. Like Groundhog day.

And like in Groundhog Day, the same thing is happening. It’s a “binding deal,” but

Depending on the details, most of them yet to be hammered out, today’s announcement could connect Russia and China for decades to come. It also sends a message to Washington about a counterweight to US political power — and to American gas. [Emphasis added].

So I guess “most” of the terms aren’t binding, because they haven’t even been negotiated.

Even better:

The Russian-Chinese memorandum formalises intent but defers substance. The real negotiation over the gas supply agreement will rest on four key parameters: price, take-or-pay obligations, financing and timing. [Emphasis added].

Yeah. Everything is set in stone. Except price, quantity, financing, and timing. Other than those trivialities, take it to the bank!

The only reason why this deal might–eventually–happen is that now Putin has no options. Once upon a time, his contract kabuki with the Chinese mainly served to generate negotiating leverage for Putin with the Europeans. Now Europe is dead to him. Gas export revenues are minimal. Russia’s financial situation is dire, so he has more motivation to make a deal.

But of course Xi knows that too, and therefore knows that he can demand an extremely low price, one that barely covers Russia’s costs.

In other words, due to his strategic genius, in this instance launching a war that resulted in the loss of his biggest gas export market, Putin put his balls in Xi’s hands. And Xi is holding a pair of pliers, a la the 1:11 minute mark of this:

(The media is doing a good Gene Wilder impression BTW).

Well, maybe Putin will be able to bioengineer some new goolies.

But back to the media. It’s not as any of this should be news. You have to know this history to be qualified to write about Russia, and Russian gas in particular. But obviously the MSM is not qualified. Note even remotely. Instead, they are Charlie Browns, who never learn and always end up making fools of themselves.

Video of those who believe in Russian and Chinese announcements about gas pipeline deals. pic.twitter.com/0N7dXpJovx

— streetwiseprof (@streetwiseprof) September 2, 2025

Trump’s ongoing war against Harvard is fascinating. As is typical, I largely agree with his choice of target (the “objective” in military parlance), and find his tactics over the top. But these tactics are typical of him. As with tariffs, immigration, and pretty much everything else, he is making maximalist demands, for a variety of reasons.

One reason is that the process is the punishment. Forcing Harvard to fight on many fronts is draining, financially and psychologically, and inevitably creates intense tensions within the university. This sets up a battle of wills that Harvard is not well positioned to win.

Another is that like almost all legal confrontations, this one is a framework for negotiations. And Trump’s negotiation style is to make myriad maximalist demands not in the expectation that all will be met, but that enough concessions will be extracted that he will be satisfied, even though his apparent concessions will lead to idiotic TACO taunts.

As for the substance of the demands that have been made and sanctions that have been imposed, there are deep ironies. One irony is that like the rest of the elite, Harvard harrumphs about Trump trampling the rule of law, but the justification for Trump’s assault is that Harvard flouts the law. In particular, the Supreme Court ruled that Harvard nakedly engaged in Constitutionally barred discrimination on the basis of race in admissions, but continues to engage in discrimination in other policies. Another legal issue is whether Harvard is in compliance with laws and regulations regarding disclosures about foreign funding and foreign students.

Substantively Harvard is on weak grounds on these issues. Whether the sanctions levied by Trump will survive legal challenge is doubtful, but again the mere litigation of these issues is very problematic for Harvard.

Another irony, which has received little attention, is that the richest educational institution in the world, with the richest endowment and richest group of alumni, and which is institutionally a big proponent of redistributive policies, as is the vast bulk of its almost uniformly leftist faculty, somehow thinks that it deserves billions of funding wrested from the US taxpayers. That is, Harvard and its acolytes are outraged that Trump is trying to stop taking from the poor to give the rich. How dare he!

And Trump very cleverly has cast a bright light on this hypocrisy by threatening to provide the funds taken from Harvard to trade schools.

Harvard of course frames this contest as one over academic freedom. But this argument only betrays Harvard’s sense of entitlement. It is entitled to government money, and how dare the piper call the tune!

Harvard and its defenders also decry the great advances in knowledge that will be sacrificed if it is denied these funds. I for one am skeptical about the return on many of these grants, especially given the large overhead allocations that go to funding administrative bloat, and to subsidizing the leftist indoctrination that pervades the university.

So rather than being served up a dog’s breakfast of anecdotes, we would be better served by a rigorous, scholarly evaluation of the knowledge bang we’ve gotten for the taxpayer buck.

Amusingly, Harvard’s pose as a bastion of the pursuit of truth is rather seriously undermined by a recent anecdote, namely, the defenestration of star researcher Francesca Gino, whose research was proved to be fraudulent. (NB: Gino’s salary was a cool $1 million).

Harvard revokes tenure of Francesca Gino, once a star faculty member—a severe and rare penalty in academia https://t.co/6Vg3JnNq1R

— The Wall Street Journal (@WSJ) May 28, 2025

The treatment of another star–this one legitimate, in contrast to the fraud Gino–Roland Fryer, also gives the lie to Harvard’s pose as being the defender of the pursuit of truth regardless of where it leads.

Targeting grants that may well support beneficial research serves a tactical purpose, related to the internal tensions mentioned earlier. The rigorous faculties and researchers have a tremendous incentive to rise up against an administration dominated by non-rigorous ideologues.

The battle over funding points to a larger issue, specifically, the problematic nature of the codependence between science and the government, an issue that Eisenhower pointed out before I was born.

The most recent Trump fusillade relates to foreign students. But this matter demonstrates that Trump’s war on Harvard isn’t just on Harvard. It is on American academia.

Hard on the heels of the restrictions on Harvard specifically, Secretary of State and acting National Security Advisor Marco Rubio announced a pause on the granting of all student visas, to prepare for a far more inquisitive (not to say inquisitorial) vetting process. Moreover, he announced that Chinese applicants would be subject to special scrutiny, and that those connected to the CCP, and those planning to study sensitive subjects (i.e., scientific disciplines, rather than fluffy ones) would not receive visas.

To which the CCP lost its shit, claiming that this targeting was discriminatory.

Well, yes, yes it is! And justifiably so. Discriminating between friends and enemies is essential to survival. China is (by its own declaration) an enemy of the US, and uses students as soldiers in its asymmetric war against America. Specifically, the CCP uses students as a major component of its expansive espionage and IP theft efforts in the US. (This article in the Stanford Review about Chinese espionage there is quite interesting, but not necessarily that revealing–such espionage is an open secret).

So cry more, CCP. The more you cry the more you reveal that this hits you where it hurts.

Trump’s attack on foreign admits at Harvard is therefore not a one-off. It is part of a broader agenda. And as I’ve written before, with Trump it’s all about China.

And in fact the entire assault on Harvard is not about Harvard per se. It is pour encourager les autres. Making an example of Oberlin would hardly make a ripple outside Ohio. Making an example out of Harvard gets everybody’s attention. Meaning that this is a highly, highly leveraged battle.

It is a battle in a wider war. American academia is an isolated, elitist enclave largely out of step with the country as a whole. Indeed, it is not hyperbole to say that American academia–especially in the social sciences and humanities–is at root anti-American. And Harvard is the prime example of isolated, elitist, anti-Americanism in academia. By fighting Harvard Trump is trying to wrench academia into the mainstream, or at least closer to it.

So like pretty much everything Trump does, the purpose and ramifications go far, far beyond the policy specifics that attract virtually all the attention. Those are just tactical elements in a far broader, and in fact socially revolutionary, strategy.

The tariff tremor has subsided, though the aftershocks linger. Again, most of the discussion is off-point because it is framed in strictly, or at least primarily, economic terms when in fact this policy is first and foremost an economic weapon in a much deeper great power conflict, one between the US and China/the CCP.

It is not correct to say that Trump started this war. The reality is that he has decided to fight back in a struggle for supremacy that China has been waging quite openly for years, especially during the Xi years. All the blather about Trump destroying the “American dominated rules based international order” is utterly ridiculous because China (seconded by Russia) has been quite blunt in its expressions of dissatisfaction with that order, and its intent to overturn it.

The genius behind the CCP strategy is that it has used, judo like, the order’s institutions against it. Most notably, it has ruthlessly exploited the WTO to advance its geopolitical objectives. It is quite sickening to read what the uniparty said about China’s ascension to the WTO. It was gonna make China all open and democratic, dontcha know. When admitted to the trading system, they would become just like us! Kumbaya! The End of History!

Wrong.

The desolation of industries outside of China, rampant IP theft, aggressive actions in Asia, Covid, and (if anything) an increase in domestic repression is what the gauzy sentiment about the “rules based international order” actually achieved. Perhaps too late, Trump is fighting back.

Then why not just tariffs on China then? Why impose punitive tariffs on the rest of the world, including our alleged allies, the Europeans?

Trump wants to isolate China and stem, and indeed reverse, the inroads it has made around the world, most notably Europe. The threatened tariffs on Europe (and other countries) are a way of forcing them to choose to cooperate in countering China, or kowtowing to it.

The Europeans, morons that they are, are leaning towards kowtowing. Even though they recognize that an avalanche of Chinese goods heretofore destined for the US will descend on Europe.

Lenin said that capitalists would sell communists the rope by which they will be hanged. The Europeans say: “That’s nothing! Watch this! We’ll buy from the communists the rope by which they hang us!”

All that said, I don’t think all of the measures Trump is adopting make sense. One about to go into effect is the special fee imposed on Chinese built and/or operated ships visiting US ports. The alleged purpose for this is to restore US commercial shipbuilding. As I wrote some weeks ago, this is a forlorn hope, and US efforts should focus on fixing its dysfunctional military shipbuilding rather than diffusing its resources with little (or no) chance of success.

Another downside of the monomaniacal focus on China is that it means that other areas that have greater potential to rejuvenate the American economy may be slighted. Two stand out.

The first is the T Rex in the living room–the budget and the national debt. The administration has made some encouraging moves in that direction, but those efforts appear to be slipping, and such as they were, they strike at the edges of the problem at best.

Musk promised that DOGE would save trillions. He has since faded those promises, and recent indications are that the realized savings will be 10 percent or so of those initially promised.

That’s so Elon. His business MO from Day 1 has been to overpromise and underdeliver. Remember the Solar Roof? Yes, Tesla eventually sort of caught up to his hype, but years after the promised delivery date. The lesson is–and I should have heeded it myself: always discount Elon’s promises.

I further remark that Musk’s prominence has faded noticeably in the last couple of weeks. No doubt there are multiple reasons for this. One is likely not wanting to be called out on his overpromising. Another is that his Face of DOGE routine unleashed hell on Tesla and he wants to tamp down those fires. Another is that he has no doubt tread on many toes and bruised many egos–including Trump’s.

Even a DOGE as promised would unlikely be enough to address the staggering budgetary issues confronting the country. Without confronting entitlements and effectively reversing the Covid spending splurge those issues will continue to pose an existential threat.

The second issue is regulation. One could reasonably argue that matastasizing regulation is one blade of a scissors that has cut American economic performance, China being the other.

Yes, the administration is making inroads here. Lee Zeldin’s zealousness at EPA is a particularly encouraging sign. As are Trump’s efforts to seize control of the “independent agencies” (a constitutional oxymoron). But these forays are being vigorously contesting in the courts, courts that harbor numerous intense Deep State/Administrative State partisans. Ultimately these battles will wind up in the Supreme Court, which is unlikely to resolve them definitively, let alone definitively against the bureaucracy. (Note that my prediction that the Court would dodge ruling on substance by deciding on narrow procedural grounds proved true in the first immigration case that reached it came true. Expect that to become a pattern).

The newest front in the battle for institutional control involves the Fed, with Trump ratcheting up his attacks on Chairman Jerome Powell. On the day that Trump announced the tariff salvo, I told a friend that he had to worry most about an internal foe–Powell and the Fed. My reasoning being that Trump is antithetical to the Powells of the world, and that the latter would therefore be highly likely to adopt policies that hurt the economy, just out of spite for Trump.

Powell’s remarks on Wednesday–which are what triggered Trump’s outburst about “terminating” him–confirm, or at least do not contradict, that suspicion.

Powell’s rationale for not cutting interest rates (something that the ECB has done and continues to do) is that Trump’s tariffs will be inflationary. That conclusion, if based on the simplistic reasoning that dominates discussion of this topic, is wrongheaded.

Tariffs affect the prices of imported goods relative to other goods. I repeat: they affect relative prices. Inflation relates to the level of prices. It is possible to have relative prices go up and the price level go down. Or the reverse. You cannot–I repeat, cannot–argue that there is a direct line between relative price changes and the price level.

Here I am reciting John Cochrane’s catechism about the sin of mistaking relative price shocks and price level shocks. I recommend reading the original in more detail: here is a good start.

There are causal channels that connect tariffs to the price level. But they are indirect. Both go through the effect of tariffs on real income.

The monetarist/neo-Keynesian channel is that tariffs reduce output, which reduces the demand for money, which leads to an increase in the price level.

The Fiscal Theory of the Price Level (my current preferred theory) is that tariffs reduce real income, which reduces tax receipts, which reduce primary surpluses, which causes an increase in the price level (since the real value of debt equals the present value of real primary surpluses). One wrinkle in this story is that tariff revenues affect primary surpluses, though I consider it likely that at least the punitive levels initially announced are not revenue maximizing, especially when taking into account their effect on income and corporate taxes.

But note: these causal stories are implicitly based on a projected final outcome in which the high tariffs persist for some time. That is by no means clear. The initial salvo is, as I opined at the very outset, likely a negotiating tactic that could result in reduced trade barriers, at least for countries other than China. The pause and announcements of numerous countries approaching the administration to negotiate certainly supports the art-of-the-deal interpretation.

And if it does, the same arguments that could be used to argue that the tariffs, if they remain in place, would be inflationary would be turned on their head: tariff threats that resulted in reduced trade barriers would be anti-inflationary.

Which brings me back to my earlier observation (which has achieved some resonance): tariff threats as a negotiating strategy don’t work unless there is uncertainty about whether they are a negotiating strategy. This creates uncertainty about the ultimate result, which creates uncertainty about ultimate effects on inflation.

Regardless, the legitimate potentially inflationary channels relate to the effects of tariffs on real incomes. And here perhaps the best analogy is with Fed policy responses to oil price shocks. An oil price shock is a relative price shock, just as tariffs are a relative price shock. As documented Bernanke et al, in the past the Fed has responded to this relative price shock by tightening policy, and that tightening has caused the recessions and stock market declines that Hamilton (and others) had documented previously.

Will Powell–unless Trump defenestrates him–follow the old–and discredited–Fed playbook of tightening in response to a relative price shock? I consider that likely, either because of intellectual error (compounded by institutional biases), political spite, or both.

If Trump indeed “terminates” Powell, it will have effects on the economic impact of tariffs, whatever they end up being, and will have potentially seismic consequences for America’s governing institutions (going well beyond the Fed). Thus, we are witnessing yet another game of chicken for high stakes. Does Powell think that his cause is so righteous that he will trigger this potentially cataclysmic collision?

Another imponderable that just compounds the uncertainty.

In my previous post, I argued that the bulk of the debate over Trump’s tariff bomb was misplaced, indeed pointless, because it is stuck in the frame of first-best textbook economics, and ignores the game theory of how one achieves a strategic objective. Saying that most of the criticism is off-point is different from saying there is nothing to criticize, or that the tariff gambit is a good one on a risk-adjusted expected value basis. In other words, just because the critics are largely wrong doesn’t mean that Trump’s strategy is the right one. Herein I set out some of my reservations, but also expand upon the point of identifying what the real issues are.

First, as noted in the previous post, I highly doubt that the tariffs will achieve the stated objective of reducing trade deficits. Trade deficits are mirrored in the capital account, and IMO it is capital market factors–namely, the strong bias in the US for current consumption, especially government consumption or government-financed consumption, over future consumption–that drives the current account deficit. The best way to address that issue is to pursue the DOGE initiatives with fervor, and to restore fiscal discipline more generally.

In this regard, the revenue aspect of the tariffs-something Treasury Secretary Bessent has emphasized, but which have largely been ignored–deserve far more attention. The choice between income and consumption taxes is an important issue, and it is at least possible that some level of tariffs in excess of the current level is a more efficient way of raising revenue than alternative means, such as higher income or especially capital taxes.

Second, and relatedly, (a) trade deficits are a crude proxy for the impact of inefficient trade and industrial policies in foreign countries (notably China) that have harmed US industries, and (b) these policies cannot be offset by trade policy alone.

As a concrete example of (a) the recent Chinese dominance of shipbuilding emphasized in an earlier post did not happen because China imposed restrictions on the purchase of US-built ships by Chinese firms, or taxed such purchases. It resulted from massive subsidies. Thus, tariffs do not attack directly the cause of many of the policies that have disadvantaged American industries.

Another issue related to (a) is that trade patterns are also affected by comparative advantage. A low wage country (as China was for years, less so today) should dominate production of labor-intensive goods. That benefits both it and the countries to which it sells them.

With respect to (b), by framing the issue of, say, the hollowing out of many US industries, and their displacement by foreign firms, as a result of unfair trade practices alone, or charging higher tariffs on US goods than we charge on theirs, the administration is likely inadvertently limiting its negotiating position. If China says, “uncle–we’ll cut tariffs on US imports to zero!”–the other policies that have much more materially contributed to China’s replacement as the leader in many industries will remain. These include financial repression, massive subsidies, IP theft, and the like. But if China makes that concession, will it be politically feasible for Trump to say “that’s not enough!” since he has focused on discriminatory foreign tariffs in justifying his policy? And is it really feasible to use tariffs as negotiating leverage to extract concessions on all the other Chinese policies that are the real drivers of the deleterious impact of China on US industries? I am deeply skeptical.

Meaning that I consider one very likely outcome that Trump will win a victory (reduced Chinese import protection) but it will be a Pyrrhic one because it will not address the real issue–Chinese export promotion.

Third, I italicized the word “stated” in reference to Trump’s objectives for a reason. Namely, I don’t think that reduction of trade barriers is truly Trump’s ultimate goal. I think his goals are much, much more ambitious. As some others have noted, and in particular as Bessent and VP Vance have stated explicitly, Trump really aims to transform fundamentally the American economy.

When Trump first emerged in 2016, I characterized him as a Jacksonian, something that is highly anomalous given his pedigree. Since then, many others have adopted the Jacksonian framing.

That matters here because what Trump is doing now has no real historical parallel other than Jackson’s populist war on the eastern elites, a war that was epitomized by his battle with Nicholas Biddle and other financial elites over the Second Bank of the United States. Bessent and Vance have explicitly described what Trump is doing as an attempt to wrest control of the country and its economy from Wall Street and restore it to Main Street, in much the way that Jackson attempted to wrest control from Philadelphia and other East Coast bankers in the 1830s.

That is, this is really another front in the culture war. Perhaps the biggest, most impactful front of all.

This brings to the fore another problem with analyzing this using purely Econ 101 textbook tools. Like most policies, the main driver here is redistributive, not economic efficiency–or at least economic efficiency as crudely characterized in a textbook where everything is done at an aggregate level.

The standard argument against retaliating against inefficient promotion of industries by foreigners is that yes, these policies reduce total wealth (foreigners and Americans combined), but increase the wealth of “Americans.” That is, if Chinese policies result in them selling things at less than cost, “we” benefit from getting to buy cheaper things.

I put “we” and “Americans” in quotes because it is likely true that aggregate real income and wealth of Americans has gone up, courtesy of China force feeding exports like a goose destined to be foie gras. But certainly not every American has benefitted, as a visit to any dead or dying industrial city or town in the Midwest will demonstrate.

That is, the seismic changes caused by China’s industrialization, especially to the extent it has been advanced by industrial policies, has not represented a Pareto improvement among Americans–a Pareto improving policy being one which makes some better off, and no one worse off. In theory, the aggregate gains would make it possible to compensate the losers in, say, Middletown, Ohio (Vance’s hometown). But that’s another textbook concept that is unachievable in the real world.

Distributive issues drive politics. This should go without saying, but it doesn’t.

And given that the impacts of China’s policy-driven emergence have been highly unequal, and not Pareto improving, there is not a purely economic basis to reject policy measures to offset it. The welfare triangles in textbooks or the theoretical possibility of compensating the losers do not provide a principled basis for rejecting offsetting measures that may reduce aggregate American wealth or income, but benefit many, especially those harmed by Chinese policies. Indeed, there is something of a let-them-eat-cake vibe given off by those who make such arguments

Nor do they explain the political support for such retaliatory measures. I believe Trump is a conviction politician, and one whose convictions align with the interests of those who have lost, first from Japanese competition (which Trump railed against in the 1980s) and now, and more severely, from Chinese competition. What he says and does resonates deeply with many. The Forgotten Men (and women) of the 2000s.

And this is a big reason why Trump has been so disorienting generally, and with the tariff issue in particular. He is seizing what has been a hallmark issue with Democrats and the left–equality. He is aiming to redistribute and reshape economic outcomes on a scale not attempted since FDR in the 1930s. And the constituency for these policies is that of traditional Democrats.

Thus we see Democrats adopting Chamber of Commerce arguments to hurl at Trump, and the supposed champions of income equality and fairness pointing to declines in stock prices that harm mostly the very well-to-do as proof of the evils of Trump’s policies.

A world turned upside down.

Obama used to brag about trying to bring about “a fundamental transformation” in America, to the rapturous acclaim of those on the left. Well, Trump is actually moving much more boldly than Obama ever did to achieve a transformation much more fundamental than Obama ever dreamed about.

So it’s clearly not “fundamental transformation” per se that matters, it’s what kind of fundamental transformation, and who is making it.

Will he succeed? For reasons including those outlined above, it is doubtful: deliberate fundamental transformations are inherently difficult to achieve in a world characterized by entropy and hysteresis. Criticizing a policy whose objectives you agree with but which you believe is unlikely to succeed is principled. But at least then you are making relevant arguments, based on an evaluation of the desirability of the objective, and the likelihood of achieving it. Which represents a vanishingly small fraction of the people speaking the loudest at present.

One last thing. Everything Trump does is about China. Canada is about China. Mexico is about China. Greenland is about China. Panama is about China. Tariffs are first and foremost about China, and perhaps counterintuitively their universality is also about China.

Again, Trump is a conviction politician about the threat from China, just as Reagan was a conviction politician about the threat from the USSR. So yet again, you need to address your arguments to the real underlying issues of whether China is truly such a threat, and if so, whether the array of Trump initiatives is the best way to deal with it.

There have been stories regarding construction of Chinese landing barges presumably for use in an invasion of Taiwan circulating for some time now. There are now pictures:

BREAKING:

China unveiled its new huge ”invasion barges” during an amphibious landing exercise near Zhanjiang.

The barges will make it possible for China to move large amounts of military equipment to a shore without docking facilities.

Ships would dock with barges, unload… pic.twitter.com/2eAXTW4Zrp

— Visegrád 24 (@visegrad24) March 13, 2025

This brings to mind two historical episodes relating to threatened invasions of another island, Great Britain.

The first is Napoleon’s Flotille de Boulogne, constructed starting in 1801. Napoleon ordered the construction of a fleet of hundreds of barges and gunboats intended to ferry a 200,000 man strong army across the English Channel to invade Britain. The plan never came off, because it required France to control the Channel, a dodgy prospect at best due to the dominance of the Royal Navy. Even before Nelson virtually annihilated the French and Spanish fleets at Trafalgar in October 1805, Napoleon realized that the prospects for an invasion were dim (and likely a fantasy), so he left Boulogne and turned east to fight the Austrians and then the Austrians and Russians, a campaign that saw the decisive battles of Ulm and Austerlitz.

The second is Hitler’s plan to invade Britain after the fall of France in 1940. Like Napoleon, he constructed a fleet of invasion barges in France and Belgium to be used in Operation Sea Lion. Whereas Napoleon had to get control of the sea, Hitler had to get control of the sea and air. The Battle of Britain was fought to achieve the air supremacy necessary for a cross-channel invasion. When that battle was lost, Hitler, like Napoleon, gave up his invasion plans and turned east.

These historical events demonstrate that a fleet of barges may be a necessary condition for an amphibious invasion, but they are definitely not sufficient. Successful amphibious invasions, notably D-Day and various American operations in the Pacific in WWII, were mounted by overwhelming forces that controlled the sea and the air. (The Luftwaffe was only able to fly a handful of sorties on D-Day. Japanese air operations were feeble at best in opposition to US landings. The Great Marianas Turkey Shoot before the invasion of Saipan destroyed a desperate Japanese attempt to attack the invaders from the air).

So what matters in Taiwan is not that the Chinese have invasion barges. So did Napoleon. So did Hitler. But they could never achieve the supremacy necessary to make them anything but targets, so they didn’t use them.

And looking at those barges reminds me of the sardonic nickname for US Navy tank landing ships (LSTs): long slow targets. I sure as hell wouldn’t want to be on one.

China will not use them unless it believes it can and does achieve superiority over the Taiwan Strait. Whether it can do so is very much in doubt. Mines, anti-ship missiles, anti-aircraft missiles, and air power (especially if the US intervenes) make any such attempt a very risky proposition indeed.

Meaning that Xi has to answer one question: Do you feel lucky? Well do ya, punk?

China is bellicose, for sure. But whether it turns from argy bargy to launching invasion barges would be a move of daring, and indeed, desperation.

Those of you intrepid souls who have followed this blog for a while know that I’ve been banging on about the pathetic state of US Navy procurement, and especially shipbuilding, for years. It’s therefore encouraging that the Trump administration has prioritized this issue, and created a White House shipbuilding office.

My main reservation is that it promises to address both commercial and naval shipbuilding. To be blunt, (a) US commercial shipbuilding is a lost cause, and (b) a division of effort is likely to mean that neither is likely to do well, especially if (as is likely) the lost cause sucks up disproportionate resources. That would be a tragedy.

A few basic facts.

Most importantly, US naval power has never been heavily reliant on commercial shipbuilding capacity in peacetime. Indeed, the US has always been an also ran in terms of US commercial ship construction. In the 19th and early-20th centuries, Britain dominated civilian construction. The US share was measly. Ditto in the interwar years. Only during the World Wars did US commercial construction represent a majority of hulls built in the world, and immediately after each–and I mean immediately–US commercial ship construction shriveled to virtually nothing.

Thus, clearly the US has never had a comparative advantage in building bulk, liner, or container ships. Never. Even with the sunk investments in shipyards and workforce training, and learning by doing (notably in Liberty ships, for example), US yards could not compete after WWII.

Yet, even with its emaciated (at best) civilian ship production, after WWII in particular the Navy was able to churn out numerous ships of all types, many of them first-of-their-kind, such as large deck carriers, nuclear subs, ballistic missile subs, large amphibious craft and on and on, as well as numerous new classes of conventional types such as destroyers, cruisers, and frigates. The US achieved a 600 ship navy when its share of non-military construction was rounding error:

(Figure from an article “Industrial Policy: Lessons From Shipbuilding” in the Fall 2024 issue of the Journal of Economic Perspectives by Barwick et al that I will return to below).

In brief, a large civilian shipbuilding sector is not necessary for US naval construction to flourish. It is also very hard to identify any synergies whatsoever, and indeed, the sectors would compete for specialized resources (notably labor in coastal regions).

Next, and relatedly, competing in the civilian ship world will be enormously expensive and unremunerative, and for a reason related to the lack of US production today (and for decades past): massive subsidies by other countries.

As the Barwick et al article shows, the demise of UK shipbuilding dominance and the succession of new dominant countries, first Europe, but then especially Japan, South Korea, and China in the post-war period, was due to subsidization and industrial policy by these countries. Japan, Korea, and Japan successively identified shipbuilding as a strategic sector, and threw lavish resources at it. Indeed, it is likely that the Koreans and the Chinese were just imitating the Japanese model.

To beat a subsidy you need a subsidy. And a particularly big subsidy if you don’t have a comparative advantage in the first place–as US history demonstrates it does not. And a really really big subsidy if the leader is subsidizing heavily, as is the case today with China.

Bartwick et al estimate using very clever methods that China has subsidized its shipbuilding industry to the tune of $80 billion. They further estimate that this lavish support has indeed built market share, but not profit. Indeed, they estimate that every $1 in subsidy in China has produced 20 cents in additional industry profit. The world, not China itself, is likely the biggest beneficiary of China’s generosity, through the ability to buy cheaper ships.

“Go for market share not for profit” is usually a very, very, very bad commercial strategy, reminiscent of the South Park Underpants Gnomes:

1. Subsidize to get market share.
2. ????
3. Profit!

Except, of course, profit never comes.

A semi-plausible justification for a market share first strategy is that customers are sticky, and that once you get market share you will have market power over customers who find it costly to switch. But that theory is wildly implausible for big ticket items like ships with sophisticated buyers–as the successive supplanting of British, Japanese, and Korean firms amply demonstrates.

It is a mug’s game to compete with this. The “industrial base” that will result will represent a huge waste of capital that would be far better invested in rejuvenating and expanding the military shipbuilding industrial base. Focus there. That’s where it is needed.

And as I noted above, dividing efforts would be inimical to success in the truly vital area–naval construction. It is an all too familiar phenomenon that reinforcing failure and directing resources to floundering divisions at the expense of successful ones is common in conglomerate enterprises. This is a major justification for spinoffs–to prevent the drowning from dragging down those who can swim. Trying to expand both commercial and naval shipbuilding would be a classic conglomerate mistake, and one with serious national security ramifications.

Don’t do it. The Chinese have bought market share at huge expense and received no real economic benefit. Don’t imitate stupidity out of jealousy. Market share is not value.

So kudos to the administration for recognizing a serious problem and endeavoring to fix it. But I pray that they concentrate on the real problem–naval shipbuilding–and scuttle lost causes–civilian ships.

Friend of SWP James T sent along an article titled “Hypersonic Overhype” and thought I might be interested and that the subject is worth a post. Both thoughts are correct!

I’ve long cast a skeptical eye at hypersonic missiles. These have been hyped repeatedly over the last 10-15 years as wunderwaffe that will transform warfare, and in particular will dramatically shift the correlation of forces against the US (and in particular the US Navy) in favor of China and Russia, who claim to have deployed operationally effective hypersonic missiles. In contrast, US development efforts have been plagued by problems and delays.

My skepticism rests on two propositions: (1) wonder weapons are almost never as transformative as advertised, in part because even if they work (which they often don’t–see 2) countermeasures are typically developed relatively rapidly, and (2) wonder weapons often don’t work, or don’t work as advertised.

The linked article highlights the extreme technological challenges of producing hypersonic weapons. These challenges are myriad. And as this article demonstrates, these are exactly the challenges that have dogged US efforts.

Which leads to two possibilities about supposed Russian and Chinese advances and deployments: (1) either the US really sucks at this, or (2) the Russian and Chinese systems , though allegedly deployed, have the same issues but unlike the US those nations decided to rush unreliable systems into service.

Of course (1) is possible, but I consider it much less likely than (2). (Remember the US had manned hypersonics, e.g, the X-15 in the 60s!) This is particularly true with regards to Russia. FFS, Russia has serious–and I mean serious–problems with getting decades-old ballistic missile technology to work. Hell, simply to avoid catastrophic explosions on launch or soon thereafter. This casts serious, serious doubt on their ability to get a far trickier technology to function. Perhaps the Chinese are better, though their defense efforts generally involve widespread theft or copying of US technology, so if our technology sucks, why wouldn’t their’s?

One more comment about hypersonics in the nautical domain in particular. Yes, hypersonics are fast, but that relates only to the last leg of the OODA loop–what happens after “A” (act). Hypersonics are at best complementary to technologies and assets that relate to the other legs, specifically observe and orient. The oceans be big. Ships move, and can move unpredictably. Successful deployment of hypersonics against a carrier task force require the intelligence, surveillance, reconnaissance (“ISR”) and communications assets necessary for observation and orientation, and for deciding on a course of action.

(The Battle of Midway is a classic example of this. The US had superior ISR that allowed it to target the Japanese fleet–and even that almost failed due to a course change that the US fliers only detected by accident. Conversely, a breakdown in Japanese reconnaissance, namely the delayed launch of some search planes and a radio failure on one of them, led them to detect the presence of the American fleet only belatedly).

China is certainly working on those capabilities. That’s reallly what a lot of its space program is about. But just as there will be countermeasures for the terminal element of a hypersonic strike, there will be (and are) countermeasures to the ISR elements.

For all these reasons, I remain skeptical that hypersonics will be as transformative as claimed. As a result, it’s also an open question whether hypersonic development is a wise use of US defense funds, especially inasmuch–as the Hypersonic Overhype article discusses–there are other more mature and reliable technologies that can serve the same operational purpose.

In some respects, the raving about hypersonics and the US’s laggard status reminds me of earlier hysterias like “the bomber gap” and “the missile gap.” We allegedly face a “hypersonic gap” now, but I suspect that this will prove as chimerical as those earlier gaps.

Which brings me to the public choice aspects of this issue. Defense contractors and the officers and civilians in programs like hypersonics have a vested interest in hyping both adversary capabilities and American infirmities. This is what gets the money to flow. So be very skeptical about those who are talking their book, and cast a jaundiced eye on hypersonic hype.

Trump’s Greenland obsession has attracted considerable ridicule (go figure) but increasingly some who cannot be considered reflexive Trumpists are stating that greater US control over the world’s largest island makes good geostrategic sense. In a nutshell, increasing American control over Greenland would enhance America’s strategic position in the Arctic, which is an increasingly important theater of jockeying between world powers. Russia has always been a rival in that region, but now the non-Arctic state of China is making moves there as well. (Come to think of it, Trump’s statements about making Canada the 51st state may reflect the same calculation, especially in light of the collapse of Canada’s military and the globalist, leftist tilt of its government in recent decades).

Note that I wrote “control” above. Ownership is sufficient to obtain control, but it is not always necessary to do so. Control rights can also be obtained by contract, which in an international context would be in the form of a treaty or similar inter-state agreement.

Thus, the real issue is what is the best way for the US to achieve its strategic objectives, via purchase or treaty/contract. That is, this is analogous to a firm deciding whether to vertically integrate to acquire inputs, or instead enter into a contract with a separate firm to do so. (In the IO literature, this is sometimes referred to as the “make or buy” decision).

The major advantage of purchase is that ownership confers exclusivity, and the right to exclude. This is of particular importance in the case of Greenland, where excluding a Chinese presence is essential to achieve US interests. This includes a presence in both facilities/bases and natural resource development.

Now it may be possible to formulate treaty language that would grant exclusivity to the US. However, (a) nations can renege on treaties, and (b) as the case in any contract, there can be ambiguity in treaty language that allows ex post opportunism. Thus, enforcing such exclusivity terms is likely to be costly and the risk of breach is non trivial.

Trump’s rhetoric in another controversial acquisition (re-acquisition, actually) proposal illustrates the issues with enforcing the right to exclude certain uses of an asset. Specifically, the Panama Canal Treaty–actually titled The Treaty Concerning the Permanent Neutrality and Operation of the Panama Canal–required the canal to remain out of the control of any power and granted the US the right to defend the canal against threats to neutral operation and access. This has not prevented the development of massive Chinese port facilities at each end of the canal, facilities that have potential military uses that threaten the US’s access to the canal especially but not only in the event of a Sino-American war.

That is, a case can be made that the US has a right to intervene to eject China from the Canal Zone, or at least would have the right to do so under certain contingencies. The practical enforceability of that right is clearly problematic. It would not be so if the US still controlled the CZ.

Another example of the risks associated with obtaining rights to strategic territory via contract is also in the news, namely the UK’s apparently imminent transfer of control of Diego Garcia to Mauritius–a deal that Starmer is apparently panting to complete before Trump takes office.

Trump’s real estate experience no doubt makes him acutely aware of the trade-offs between leasing a property and owning it. These trade-offs are particularly important when development options are considered, and Greenland would be all about development options–transportation infrastructure, military facilities, and mines (for rare earths, specifically). Writing an even passably complete contract describing and allocating such development rights would be challenging in the extreme, and Trump no doubt understands this clearly.

Ironically, the biggest obstacle to development of a US-owned Greenland would be . . . US law. The entire panoply of environmental law that has throttled development in the US would presumably be applicable to Greenland. Certainly environmental groups (plausibly acting as cat’s paws for China and Russia) would engage in lawfare to restrict development. And a future president could do as Biden just did with respect to offshore energy development, and Biden other presidents have done by proscribing development on some federal land.

In sum, (a) some degree of US control of Greenland would advance American national interests, and national security interests specifically, and (b) obtaining that control via contract (treaty) would likely entail substantial transactions costs in specifying and enforcing those rights. In contrast, ownership would confer control and avoid these transaction costs. Thus, buying Greenland makes economic sense, not in the sense of American investments in Greenland are positive NPV projects, but in the sense that ownership is the most economical way to incentivize and secure those investments. Put differently, transactions cost economics strongly favor achievement of American objectives in Greenland via purchase. It is therefore not surprising that a ruthlessly transactional man who has decades of experience in dealing with the trade-offs involved with purchase and contract is pursuing that course.

There’s a lot of ooh-ing and aah-ing and cheering over China’s recently announced (Keynesian) stimulus. All of this cheering has things exactly backwards. The stimulus won’t return China to its growth path and may not even stave off a downward spiral.

Yes, many of the cheerleaders think this is just the thing required to make China grow again. This is a category error.

Keynes and Keynesian economics are about the business cycle (the “trade cycle” in the terminology of Keynes’ time). Keynes has diddly squat to say about economic growth, and Keynesian stimulus won’t generate real long-term growth: indeed, it arguably is anti-growth (for reasons I will discuss below).

I’ve mentioned before that I took Bob Lucas’ (undergraduate!) growth course in 1981. Lucas had of course gained prominence in macroeconomics for his analyses (Keynes-debunking analyses in fact) of business cycles. The growth class marked a pivot in his research: the reason he taught the class was to provide an impetus to read up on and understand the growth literature and to structure his thinking about it. As he told the class, and as he said publicly later, when you grasp the real importance of growth–long term increases in per capita economic output–all other issues, including cycles around trend, pale in comparison

Using Keynesian logic to draw conclusions about growth qua growth is profoundly ignorant. Like I say, a category error: mistaking an epiphenomenon for the real important phenomenon.

What China has done–in a nutshell, changing reserve requirements and the like to encourage shaky banks to lend to shaky corporates and injecting state capital into the shaky banks–is a signal–a clear signal–that Xi and his economic mandarins realize that the system is on the brink of collapse. This is a daisy chain bailout (government to banks to corporates and local governments) to stave off such a collapse by moving risk onto the government’s balance sheet. And its not as if the government’s balance sheet is so amazeballs.

Massive bailouts are a sign of massive problems. So the alleged massiveness being applauded should be a sobering warning instead.

The perceived necessity for this intervention reflects a recognition that China’s growth model has failed. I would argue (and have argued for over a decade) that it was fundamentally flawed from the start. The investment/infrastructure driven model generated growth in an income accounting sense (I adds to measured GDP, so growing I leads to growing measured GDP). But a vast proportion of this investment that looked great on national income accounts was malinvestment–a huge misallocation of capital.

That capital is now, in effect, being marked to market, with the effects being recorded on bank and local government finances. Austrian business cycle theorists (including Hayek) or even Minsky have a lot more insights to provide about this than Keynes. Government interventions of various sorts (including financial repression and other measures that distorted the price of capital) led to this misallocation.

As Herb Stein said, something that can’t go on forever will stop. Massive capital misallocations cannot go on forever–the marking to market eventually comes. So the “growth” model built on these misallocations has stopped.

I said earlier that the intervention may actually be anti-growth. Here’s why. To the extent that it is an effort to extend and pretend–and it certainly looks that way–it is extending a failed model and pretending that it will actually fix it. But the failed model is inimical to real, sustainable growth. So extending it and pretending that it isn’t a failure is anti-growth. To achieve real growth the system needs purging of bad investments and a reset based on totally different–and market-based–principles.

To reprise my old analogy, more stimulants didn’t make Michael Jackson healthier. They just kept him going. But they couldn’t keep him going forever, so he stopped. Living.

I am deeply skeptical that a committed communist such as Xi or the army of ideological true believers he has put in virtually all leadership positions is capable of making the fundamental changes necessary to achieve growth. They are too invested in, and believe too fervently in, the state directed development model, and are too inveterately hostile to a privately directed one, to pivot from the one to the other. So they will continue to try to patch the leaks in the boat that got them here. That will buy some time, but only some.

Meaning that eventually, the Chinese economy will wind up on the bottom–just like its new sub that sank at the dock.