The Chinese Ant and the American Grasshopper

By BILL COSTELLO

The world's top saver and its biggest spender will both benefit if their financial attitudes show more convergence.

CHINA is like the ant and America is like the grasshopper. Remember Aesop's fable The Ant and the Grasshopper, a moral lesson on the benefits of hard work and saving? During the warm months, the ant worked hard to store up food for the winter while the grasshopper sang and played. When winter arrived, the grasshopper asked the ant for food because it had none.

America too tends to focus on enjoying today instead of preparing for tomorrow. This trait has led to a nation of debtors. And, like the grasshopper, our lack of savings may lead to our demise.

The grasshopper's indulgence only affected its own life and not the lives of others. In America, however, that is not the case. America's indulgence will negatively affect future generations.

America's federal debt is almost US $14 trillion and shooting up. Yet the government is still spending more money than it collects in taxes. In its 2010 budget year, it spent approximately US $1.3 trillion more than it collected, creating the second-largest deficit in American history. The year before, it overspent by roughly US $1.4 trillion, the largest deficit in American history.

If we don't pay down the federal debt, our children and grandchildren will end up paying for our excesses plus the compound interest it gathers. Part of the American Dream is making life better for future generations, but a recent poll by Bloomberg found that a majority of Americans "are not confident, or are just somewhat confident, their children will have better lives than they have."

China is a nation of savers and the largest foreign leander to America. CFP

While the American Dream is eroding, members of Congress fail to cut spending that would reduce our deficits and debt, and thus we continue to make merry like the grasshopper.

America used to invest in the future. From highways to highrises, we used to build stuff that was the envy of the world. Now we mostly consume. When comparing net national savings as a proportion of Gross National Income from the mid-1990s to 2005, American savings decreased from over 5 percent to nearly zero, and Chinese savings increased from roughly 30 percent to almost 45 percent. At every level, China tends to focus on preparing for tomorrow instead of enjoying today, and is busy storing up food for the winter. Like the ant, their savings will help them survive hard times.

Chinese traits have led to a nation of creditors. In Aesop's fable, the grasshopper asked the ant for some of the food it saved but the ant refused. In the metaphor I'm using here, however, China is loaning America some of its savings – with interest, of course. In fact, China is the largest foreign lender to America.

How did China get so much money that it could loan some to us? The combination of American overconsumption and a Chinese strategy of export-led growth led to export surpluses that the Chinese monetary authorities converted into dollar-denominated reserves. This prevented their currency from appreciating. In a nutshell, we bought a lot more stuff from them than they bought from us, so they ended up with a lot of our dollars.

But the grasshopper's problems now threaten the ant. That the financial crisis weakens the dollar is making the Chinese very nervous because they own vast sums of them. China has currency reserves of US $2.5 trillion, of which roughly 70 percent are dollar-denominated. The Chinese are exposed and will sustain losses if the purchasing power of the dollar falls and/or the price of U.S. government bonds drops.

Because America is experiencing record-high budget deficits and appears to be on an unsustainable fiscal course, the Chinese have become risk-averse and are reducing their exposure by cutting back on their U.S. Treasury holdings and diversifying their investments into other nations. But it is not likely they will make dramatic reductions because they still need a strong American dollar.

Kenneth Lieberthal, a senior fellow specializing in China at the Brookings Institution, said recently: "I don't think we're going to see any massive flight from China's holdings of U.S. debt. That would be self defeating and they well recognize that."

However, other nations could also become nervous and follow suit, resulting in a sustained drop of total foreign holdings which would likely lead to higher interest rates and falling stock prices in America. We are, therefore, vulnerable to foreign lenders.

It's time for America to focus on preparing for tomorrow instead of enjoying today. We can no longer behave as the grasshopper. We must become more like the ant.