The Guest Blog

Shutdown threatens confidence in US policy, dollar

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The cancellation of President Obama's trip to East Asia was entirely appropriate. His presence in Indonesia at the meeting of the Asia-Pacific Economic Cooperation (APEC) on Monday and Tuesday would have been strange while a large part of his administration is out of service.

The political damage of this cancellation, if any, is largely symbolic. Most of the substantive work has already been done – or will be done – by Mr. Obama's diplomats and his very able and widely-respected Foreign Secretary John Kerry.

American diplomacy does not get the president into free-wheeling and unpredictable deal-making sessions. Presidential trips are highly scripted, with communiques worked out in advance.

(Read more: Barack Obama cancels trip to Asia)

In this case, the only things missing will be photographs and handshakes.The U.S. president also talks on the phone and exchanges messages with his Chinese and Russian counterparts whom he was supposed to meet for mini-bilateral summits on the margins of this international conference.

But here again, the topics that were expected to be discussed are well known, and respective policy positions are perfectly clear.

Koreas, South China Sea, Syria, Iran and TPP

US Trade Representative: TPP talks on track
US Trade Representative: TPP talks on track

The key issues with China, for example, revolve around peace and cooperation on the Korean Peninsula, territorial disputes in the East and South China Seas and Sino-American trade and investment relations.

The Korean problem is handled in a multilateral framework of "six-party talks," and Beijing and Washington agree that contested maritime borders should be part of a peaceful dialogue.

(Read more: What Obama stands to lose by canceling Asia trip)

Trade and investments are too technical to be discussed at the presidential level; ongoing negotiations by the two countries' trade experts would have just received the leaders' blessing in the form of declaratory statements.President Obama's meeting with Russian President Vladimir Putin would have probably been more detailed and topical because they would have focused on Syria and Iran, two issues of great urgency and concern for Washington.

But, having set clear policy guidelines, they have instructed their foreign secretaries to handle detailed negotiations about the destruction of Syrian chemical weapons, and about the peace conference on the future political process in that country.

Iran would have been an interesting topic because Mr. Putin discussed that country's nuclear issues with the new Iranian President, Hassan Rouhani, during the summit meeting of the Shanghai Cooperation Organization in Bishkek, Kyrgyz Republic on September 13, 2013.

(Read more: US, Russia agree on Syria UN chemical arms measure)

There is no doubt, however, that the two presidents, and their diplomats, have already exchanged policy views on how to proceed in the forthcoming negotiations with Iran in Geneva on October 15, 2013.

And then there are pressing trade negotiations for the Trans-Pacific Partnership (TPP), a 12-nation free trade area President Obama was supposed to discuss during his visit to Asia.

Washington has set the end of this year as a deadline for the conclusion of the TPP agreement, but it is not clear what the president could have done for a breakthrough on Japan's highly protected farm sector, or on Malaysia's special protection of business interests for ethnic communities, when he still has to overcome the resistance to that trade deal by U.S. car manufacturers and various segments of American service industries.

Now, of course, President Obama's participation in the Asia-Pacific key talking shop would have given him an opportunity to remind his hosts of the glaring trade imbalances. The U.S. is by far the largest buyer of Chinese and Japanese goods and services.

(Read more: World Bank lowers growth forecasts for East Asia)

In the first seven months of this year, the U.S. ran a $221.1 billion combined trade deficit with China and Japan, but, over the same period, China and Japan bought only $81.1 billion of U.S. Treasury bonds.

Clearly, that is not enough, but that is much better than the business relationship America has with some close friends and allies in East Asia, most of whom are running large surpluses on their U.S. trade.

These countries have been net sellers of $62.7 billion of U.S. debt instruments between January and July of this year. President Obama could have had a chat with them; borrowing a line and a finger-pointing gesture from the former President Clinton, he could have told them: "If you don't buy, you won't sell."

Shutting down printing presses and focusing on a stable dollar

Indeed, Treasuries are not selling well abroad. In the first seven months of this year, total foreign holdings of U.S. government bonds were virtually stagnant. No wonder the Federal Reserve is purchasing $45 billion worth of Treasury securities every month that the rest of the world seems unwilling to buy.

That is a good example of how much Washington's current drama is a high-risk game for a country which needs to import this year an estimated $500 billion worth of foreign savings, and whose currency is still trusted enough to account for 61.9 percent of world reserves.That trust is precious.

(Read more: US Treasurys extend losses after supply)

Sadly, though, it is in increasingly short supply. The dollar share of world reserves has declined sharply from its most recent peak of 71.5 percent in 2001, indicating a steady erosion of confidence in the greenback as a transaction currency and a store of value.

Searching for "safe haven" alternatives, world central banks have even been accumulating growing amounts of Australian and Canadian dollars.

Clearly, what the French call America's "exorbitant privilege" – paying its bills with a currency it prints at will – won't last much longer if confidence is lost in America's ability to run sound money and a stable economy.

A replay of the massive loss of confidence in the U.S. dollar during several episodes in the 1970s and early 1980s could be devastating for the slowly convalescing U.S. economy.

(Read more: Bipartisan back pay bill passes, but shutdown goes on)

That experience had shown that credible and sustained interest rate increases were the only way to stabilize the sinking dollar. The consequences of something like that happening now are too dire to contemplate.

Too far-fetched? I hope so.

But it is clear that for much of the world that Washington's political stunts have dealt a severe blow to the credibility of American political governance.

When prestigious conservative media of some of our closest European allies run headlines that "America is politically bankrupt," or that Washington's "self-destruction" inspires "ridicule… concern… pity" – it's time to take notice.

Here is one more European example of what Washington has done to the country's image: rumors have been reported in the media that the European Commission was ready to pay for the trip of American trade negotiators to Brussels to discuss the trans-Atlantic free trade agreement next week. Luckily, that trip, too, was cancelled.

(Read more: Europe stocks close higher; US deadlock drags)

I don't know whether, and much less when, the Republicans will be able to extract enough concessions to emasculate the Affordable Care Act (a comprehensive healthcare program known as Obamacare) to end the government shutdown, but it is heartening to hear that their leadership won't allow a bankruptcy of the United States.

It is also not clear whether, and when, the American people will summon the president and the Fed to take charge of the country and the economy. But one thing is certain: It is time for the Fed to stop debasing the dollar, and to go back to the Clinton era mantra of "a strong dollar is in America's national interest."

Otherwise, I am sure we can count on those friends and allies in the Asia-Pacific to accelerate their dollar dumping. And, who knows, they may even start a general trend.

Follow the author on Twitter @msiglobal9

Michael Ivanovitch is president of MSI Global, a New York-based economic research company. He also served as a senior economist at the OECD in Paris, international economist at the Federal Reserve Bank of New York and taught economics at Columbia.