At the center of that international policy coordination were relatively simple rules of trade adjustment: Surplus countries, typically running low inflation and balanced public finances, were expected to stimulate their domestic demand with lower interest rates, tax cuts and/or larger government spending. That would raise their import demand and cut down trade surpluses. Conversely, deficit countries, typically experiencing high inflation and a rising public debt, had to restrict their domestic demand by raising interest rates, taxes and/or reducing government spending. More production would then be left for exports to narrow the trade gap.
That symmetric trade adjustment mechanism, set up by Bretton Woods Agreements in 1944, was ignored by surplus countries, while deficit countries had to adjust because they would run out of money. Eventually, failure to observe those trade rules led to the demise of the international monetary system in August 1971, and to an increasing instability of the world economy as a result of unsustainably large imbalances on external accounts.
That's the problem we still have. The U.S. is currently running an estimated current account deficit of $450 billion, while major East Asian countries are showing a combined surplus of $480 billion. If that was the world's balance of payments, Asian surpluses would cover American deficits.
Those trade positions have crucially important political and security implications, because they indicate wealth increases (decreases) and net asset accumulations (depletions) via investments (disinvestments) of foreign trade proceeds. That is a simple fact derived from the rule that the world's balance of payments has to be equal to zero.
Those in the U.S. and Europe who are sounding alarm about Chinese purchases of their companies are obviously ignoring the basic laws of economics. The Chinese are simply recycling their current account surpluses in the form of capital outflows. Remember, the balance of payments has to balance: the sum of current and capital accounts has to be equal to zero.
The Chinese did not steal trillions of dollars in their trade surpluses. They earned them in an international trading system where the United States acquiesced in running systematic half-a-trillion dollars of annual trade deficits.
The only thing Americans and Europeans can do now is try to reinstate the rules of symmetric trade adjustments to avoid excessive current account imbalances in the future. Whether that can be achieved through the Trump Administration's "fair and reciprocal trade policies" remains to be seen, but that is certainly a good point of departure.
Meanwhile, the Chinese are laughing all the way to the bank. They have now amassed trillions of dollars from their U.S. trades, and they are using that money to modernize their economy and to build up enough military power to put red lines around their maritime borders, to enforce the "one-China policy" and to play a key role in the Korean conflict.
And that's just for starters. The U.S. now says that China's Belt and Road project, and its "win-win cooperation" mantra, are instruments designed to undermine the West's world order. Washington's European allies see that differently: They want to play along with China on conditions of reciprocity, or simply by pursuing a "golden relations" diplomacy.