Debt Weakens U.S. Hand on China

When he appeared Thursday on the South Lawn of the White House with President Bush, China's president, Hu Jintao, heard "stop the torture and killings" from an Epoch Times newswoman sympathetic to the outlawed Falun Gong religious sect.

But it's the full-throated critique the Chinese president isn't hearing that has one Democratic presidential hopeful worried.

"There is no question that our indebtedness to China weakens America's hand," Sen. Evan Bayh, D-Ind., told ABC News. "Our negotiating leverage with China on trade issues and Iran is severely limited by the amount of debt they hold."

Bayh's prescription for cutting the deficit is no more detailed than that of his presidential rivals. He wants to get rid of earmarks, collect unpaid taxes and stop giving "endless" tax cuts to the wealthiest Americans.

What makes Bayh's approach to the deficit different, however, is his gubernatorial record and the way he frames the deficit as a security issue.

As governor of Indiana for eight years, Bayh balanced the budget, cut taxes and piled up a $1.6 billion surplus.

Debt Stymies Tough Talk on Trade, Piracy and Currency

As Bayh travels the country laying the groundwork for a presidential campaign, he tells audiences that the United States would stop turning a blind eye to China's reported "currency manipulation, illegal subsidies and intellectual property theft" if the Chinese central bank did not hold so much U.S. debt.

Bayh, a former chairman of the centrist Democratic Leadership Council, brushes off the protectionist label and hastens to add in every speech that he believes in "free and fair markets."

He is concerned, however, that China gives its manufacturers a "25 to 35 percent advantage over American workers" by manipulating the value of its currency.

"That's not right," Bayh told the United Auto Workers convention in Washington, D.C., on Feb. 7. "Now, I'm not a big believer in tariffs or that kind of thing, but let me tell you this, until they get right the currency issue, we ought to slap a countervailing tariff on all the products coming out of China to level out the playing field."

In addition to its negative impact on trade, Bayh worries that U.S. indebtedness to China has a harmful impact on the administration's ability to "talk tough" with China about foreign policy issues.

"How can we talk tough with China about Iran when they hold so much of our debt?" Bayh told ABC News.

Mutual self-interest keeps the Chinese buying U.S. debt. By pegging its currency to the U.S. dollar, China has achieved internal monetary stability. The United States, in turn, has received the money it needs to cover its savings deficiency.

China Could Make U.S. Economy Suffer

Bayh worries, however, that the United States would suffer if China's central bank suddenly decided to stop lending America money.

Without the transfer of money from high-saving China to the low-saving United States, America would suffer a credit crunch; interest rates would increase, choking off residential and industrial investment.

To illustrate the risks the United States faces from its indebtedness to Asian central banks, Bayh points to the way the U.S. dollar began to go into a "free fall" last year when Japan's prime minister suggested that it might be time for Japan to start diversifying its dollar-denominated assets.

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