China and the Treasuries – A Dependency Relationship

# Is China Getting Religion on Restructuring Its Economy?

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Oct 032010

A story up on Bloomberg may be far more significant than its bland headline, “China to Spur Domestic Demand to Stabilize Economy, Wen Says,” suggests.

In recent posts, we’ve inveighed about the dangers of the path China is now on. Its economy is unbalanced to an unprecedented degree. Exports plus investment account for a full 50% of GDP, an unheard of level. And the investment share, which is now larger than the export contribution, is increasingly unproductive. It now takes $7 of borrowing to create every $1 of GDP growth in China. That’s a terrible ratio for a supposedly emerging economy. Even the US is only $4 or $5 of borrowing for every $1 in GDP growth.

Creditor nations (the ones in China’s position) suffer the most in financial crises. That has not happened yet because the world (including China) has engaged in massive monetary stimulus and China has kept its currency artificially low via currency manipulation. That means it has maintained its trade surplus at the expense of others (most notably Japan, but other developing economies have suffered too).

The rest of the world tolerated China’s mercantilism when everyone was in growth mode. But China has made a monstrous mistake, and it is a fundamental, strategic error. At least until now, it gave no sign of planning to change from a mercantilist model. All the signs from China have been that its leaders think that if it can avoid what happened to Japan , ie being forced to revalue its currency (per the 1985 Plaza accord), all will be well. It actually has been moving to a LOWER consumption share of GDP post crisis, the reverse of what you’d see if it were trying to rebalance the economy.

This movie has ended badly for everyone who has tried China’s game plan. As Michael Pettis has pointed out, China has the largest foreign exchange reserves relative to GDP of any country in modern history. Next two are the US on the eve of the Great Depression and Japan at the end of its bubble era.

So Wen’s remarks, if they are sincere, may signal a fundamental shift in posture, which would be very welcome indeed. As much as the US also badly needs to rebalance its economy too, we cannot get very far if the Chinese do not cooperate.

But Wen’s remarks may simply be another gambit. Recall that China announced its intention to move to a more market based currency on the eve of a G-20 meeting at which it was set to encounter a firestorm of criticism over its sharp rise in exports in the previous month. The move was widely hailed as a major shift; we were virtually alone in dismissing it as a headfake. Events have proven our assessment to be correct. Thus there is good reason to suspect that Wen’s remarks are mere posturing.

First, Wen’s comments are very conveniently timed; they come on the eve of another semi-annual Treasury deadline and in the runup to the Congressional mid-terms, when political scrutiny is at a high level. Even though the House voted to give the President more latitude to impose tariffs on countries that keep their currencies artificially low, Geithner made remarks to try to defuse the situation. Wen’s comments may simply be an empty concession.

Is China Getting Religion on Restructuring Its Economy? – 10/03/2010 – Yves Smith

Let Them Eat Credit

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Aug 292010

By most counts, the U.S. economy started growing in the middle of last year. For many Americans, though, it does not feel as if the Great Recession has ended—unemployment and underemployment are still alarmingly high, and job growth is weak. Many causes have been suggested for both the economic collapse and mediocre recovery, but one that is hardly ever mentioned is income inequality. This is a mistake. Growing income inequality in the United States and the policy responses it has spawned have done tremendous damage to our economy. And because we continue to ignore this underlying problem, the risks of our policies leading to another calamity will not go away, no matter what we do to reform the financial sector.

Since 1968, income inequality has been steadily increasing in the United States. I am not referring to the Croesus-like income of a John Paulsen, the hedge fund manager who in 2008 netted over $3 billion, about 75,000 times the average household income. I refer to a more worrying everyday phenomenon that confronts most Americans, the disparity in income growth rates between a manager at the local supermarket and the typical factory worker or office assistant. Since the 1970s, the wages of the former, typically workers at the 90th percentile of the wage distribution in the United States, have grown much faster than the wages of the latter, the typical median worker. Or consider the table below, which shows that the wages of occupation groups that are paid more than the national average in 2002 have grown much faster since then than the wages of occupation groups below the average:

The Inequality Gap Is Ruining the American Economy—and Bernanke Is Just Making it Worse Raghuram G. Rajan

China now does what China wants to do – USA role reversal

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Jan 162010

Google to defy China
Google announces an end to censored search results in China following alleged cyber attacks. Is Google.cn finished?

China today and Japan after the 1987 U.S. stock market crash?

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Oct 032009

While the G20 leaders make reassuring noises about international trade, I think the risk of rising trade tensions have not abated at all. As I see it, everything depends on whether or not domestic Chinese polices had any role in creating the global imbalances, and if they did, then we are still in the early stages of a difficult process of assigning the costs of the global adjustment through trade.

Beijing hates when anyone suggests that Chinese policies were partly at fault for the current global imbalances, and doesn’t even like people to use the phrase “global imbalances,” but like it or not, we have to figure out whether in fact Chinese policies mattered. As I see it, China’s consumption rate, the lowest ever recorded, and it’s trade surplus, the largest as a share of global GDP ever recorded, could not help but have been caused by policies – such as an undervalued currency regime, excessively low interest rates, sluggish wage growth, unraveling social safety nets, and manufacturing subsidies – that were almost wholly under domestic control.

According to my understanding of Chinese growth, it was policies that systematically forced households implicitly and explicitly to subsidize often-otherwise-unprofitable investment and manufacturing that led to wide and divergent growth rates between production and consumption, and of course the gap between the two is the savings rate. If that is true, the stimulus package is only likely to exacerbate the domestic imbalance.

This matters because as the US begins the too-slow but irresistible process of raising its savings rate, something else must change too. At the global level savings must of course balance with investment, and with general expectations that investment will at best remain steady and probably actually decline over the next few, a rising US savings rate must result in one or more of three outcomes:

1. Total US savings do not rise – which means US GDP must contract as the savings rate rises

2. The savings rate in the rest of the world declines, or at least grows much more slowly than in the past. Since China is the country with the highest savings rate and the largest trade surplus, this means China’s savings rate will decline, and this is just another way of saying that consumption growth will surge.

3. China’s GDP grows much more slowly.

So we are left with the almost inescapable fact that if the US savings rate increases, either China (and the rest of the world, technically, but in practice mainly China) must see much faster consumption growth or the world must experience a slowdown in GDP growth.

Don’t miss More Trade Tensions, and the Very Limited Advantage of Relative Poverty.

It’s Unemployment, Stupid!

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Sep 212009

Pittsburgh protesters demand G20 do more for jobs
Forbes
“We’re not going to accept a jobless recovery,” said Larry Adams, a postal worker who came from Jersey City, New Jersey, for the protest. …

China Must Be Dealt With

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Aug 042009

Before Chinese and U.S. officials sat down this week for high-level economic and strategic meetings, Rachel Ziemba and Adam Wolfe looked at “What’s on the Table at the U.S. China Strategic and Economic Dialogue (S&ED)?” China and the U.S. might be in rough agreement on short- and long-term issues, but diverge widely in the middle.

As U.S. deficits increased, global investors edged away from the dollar into the German mark, the Japanese yen, the Swiss franc, the Euro, and more recently baskets of Asian currencies.

Which brings us to today. Only goodwill (defined both as an accounting term and as political deference to military might) now supports the U.S. dollar as a reserve currency, which is what allows the United States to issue dollar-denominated bonds in world money markets.

It is this borrowing capacity that allows the Obama administration to bailout the banking industry, offer to pay for universal health care, fight colonial wars in the Middle East, stimulate the economy, send billions to Egypt and Israel, buy out General Motors, and subsidize every windmill start-up company in Nancy Pelosi’s home district. (Madoff’s problem was that he failed to set himself up as a country. He otherwise understood deficit spending.) But the shell game requires full faith in the dollar.

For those riding out financial storms by “sitting on cash,” here is what’s under your seat: in recent months U.S. federal debt has grown to $11.3 trillion, almost equivalent to gross domestic production. About one quarter of this indebtedness, or $2.8 trillion, is held abroad, and China and Japan hold just under half of those assets (liabilities to Uncle Sam).

Elsewhere on the American balance sheet is another $11.4 trillion in household debt, an annual trade deficit of about $725 billion, and a federal budget deficit that is estimated in 2009 to be approaching $1.8 trillion. That’s if the economy grows at 3 percent.

Off-balance sheet risks, what accountants call contingent liabilities, include about $10 trillion in new bailout guarantees (Fannie Mae, Bear Stearns, Countrywide, and whatever the administration launches as its New Deal of the Day). None of the above includes the unfunded liabilities of Social Security ($41 trillion), which, by comparison, make the shares of Lehman Brothers and AIG look like Scottish bonds held for widows and orphans.

The geese laying the golden eggs of U.S. financial stability are the printing presses of the U.S. Treasury, and, for now, those collecting them in their Easter baskets include a number of countries and regions perhaps tiring of American arrogance, if not of the drop in the dollar’s value. Who would blame such popular targets of moral abuse as China, Russia, Switzerland, Arabia, or Latin America for dumping their dollar-denominated assets?

All that lies between the U.S. dollar and a financial Armageddon is the Faustian house of credit cards under which Asian economies invest their trade surpluses in U.S. Treasury instruments — to keep the dollar strong, their own currencies weak, and purchases brisk between the likes of Wal-Mart and the Asian Greater Co-Prosperity Sphere.

Sooner than we think, China and Japan, like all nervous creditors, may send the United States a letter, suggesting that, henceforward, if Washington needs to borrow money, the bonds be issued in renmimbi, yen, or a basket of Asian currencies (a Pacific Euro).

Wall Street bankers did the same to the farm interests in the late nineteenth century, when they insisted that debt be based on a gold standard, as opposed to “free silver.” President Obama may be as eloquent as William Jennings Bryan. But at that point he will need to use all his oratory for the business of selling junk bonds.

The Dollar: Running On Reserve – Matthew Stevenson, newgeography

The Peking-Washington connection: is it real?

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Jul 202009

Is there a clandestine understanding between the world’s two most powerful central banks, the Federal Reserve and the People’s Bank of China?

Naturally, no one can talk about it, let alone confirm or deny anything. But it’s not too difficult to make out the broad outlines of how Chinese-American monetary cooperation may be working.

People’s Bank governor Zhou Xiaochuan and other figures in the Chinese leadership seem to use every opportunity to broadcast finely calibrated skepticism over the dollar’s future. Such Jeremiahs feed on and — in turn — feed doubts about potential American inflation caused by the Fed’s quantitative easing and exploding budget deficits.

But both Washington and Beijing appear to recognize — whatever the saber-rattling — that large-scale shifts in the currency composition of Chinese currency reserves are more or less impossible. Roughly two-thirds of Chinese reserves of more than $2 trillion are thought to be held in the greenback.

Heavy Chinese sales, or even a deliberate policy of diverting export proceeds into Euro or yen by re-dominating sales contracts, would depress the U.S. currency and lower the value of Chinese reserves. It’s the well-known Beijing dollar trap. And it has to be said: the Chinese have maneuvered themselves into it of their own volition, and in full knowledge of the potential problem.

So Governor Zhou’s strictures are, to a certain extent, shadow boxing. However, in return for a tacit standstill agreement on the currency composition of reserves, the Americans have to acknowledge that the renminbi’s value will rise only moderately.

If the Chinese continue taking in dollars, logic tells us the Chinese currency can hardly revalue strongly. A signal of the U.S. authorities’ acceptance of this state of affairs is that the word “manipulation” for Chinese currency management now clearly is banned.

There is another, still more intriguing, side to Chinese currency pronouncements. The doubts voiced from Beijing on the dollar’s stability, far from unsettling the U.S. monetary authorities, are actually manna from heaven for the Federal Reserve. The Obama administration hardly can go in for years of reckless deficit spending when the country’s largest creditor is emitting so many warning signals.

More importantly, the Fed is getting a certain amount of cover from Beijing for its eventual “exit strategy” — a reversal of quantitative easing and a rise in interest rates as soon as economic recovery gets under way.

The Chinese even are giving a strong tailwind to Fed Chairman Ben Bernanke’s bid for re-nomination after his initial four-year term ends in January. The reason? With the Chinese appearing to turn the knife through gloom-laden dollar prognostications, President Obama knows that appointing a heavily political successor to Bernanke would be fraught with great risks.

Any Fed chairman who looks less than squeaky-clean on currency stability is likely to send dollar holders heading for the exits — and could spark the full-scale currency collapse that Wall Street bears have been growling about for months.

So, if Obama wishes to replace Bernanke, he can do so only by bringing in a full-scale monetary hawk — a step that he must rule out on domestic political grounds. The conclusion is that the Chinese maneuverings leave Obama with no choice but to re-appoint Bernanke, whatever the doubts about his stewardship that have arisen in recent months.

When Bernanke a little later this year eventually is confirmed in a second term of office, what’s the betting that a laconic red-rimmed telegram from Governor Zhou will turn up in his in-tray?

The missive and its contents, of course, will remain secret. We can only guess at the possibility that the two men, just for a moment, will share the opportunity for a modicum of discreet self-congratulation.

David Marsh is chairman of London and Oxford Capital Markets. The Marsh on Monday column appears in German in the newspaper Handelsblatt.

A Deal Between the Fed and Bank of China? – David Marsh, MarketWatch

Our $17 Trillion Chinese Split Won’t Be Pretty

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Jul 142009

Returning from China last month, U.S. Congressman Mark Kirk had a bearish take on a high-level visit by American officials.

Treasury Secretary Timothy Geithner claimed the U.S.’s biggest creditor voiced great confidence in its debt. Kirk, an Illinois Republican, came back with the opposite impression.

“China is beginning to cancel Congress’s credit card,” he told Fox News on June 10. It “doesn’t want to lend much more money to the United States and especially is worried about the Fed’s policy of printing money to buy new debt.”

A month later, there’s no doubt about whose assessment was more accurate. Chinese leaders are clearly very concerned about the dollar. How they will react is a key question hanging over markets, and it’s time to take the discussion to the next level.

Everyone knows China wants to reduce its dollar holdings. Little is known about how that process may unfold and how much work and preparation needs to go into it. Lots, in fact.

Think of China and the U.S. in history’s most expensive divorce. The two economies total $17 trillion of output, and polls in China show little support for adding to almost $800 billion of U.S. Treasuries.

This argument can be broadened to the rest of Asia. The idea that China or Japan — with $686 billion of Treasuries — can just start selling massive blocks of dollars is ridiculous. It would devastate markets the world over and the fallout would boomerang back on Asia. If you think markets are shaky now, just wait until word of a central-bank fire sale gets around.

Copycat Selling

Sure, Singapore (with $40 billion of Treasuries), India ($39 billion) or South Korea ($35 billion) could try to dump dollars on the stealth. Good luck in this highly connected, around-the-clock world. News that a key economy seeks a first- mover advantage over peers would inspire copycat selling. Expect investors and traders to respond with massive sell orders.

Warren Buffett can discreetly trim Berkshire Hathaway Inc.’s interest in a company or a currency. How a central bank divests itself of tens or hundreds of billions of dollars on the sly is another matter.

Governments that may be concerned about getting stuck with their dollars for good have a point. And by curtailing investments in dollars today, Asia is ensuring that the U.S. currency will be worth less a year from now. Bernard Madoff can tell you a thing or two about how this process works.

Dollar Accord

What may be necessary is a global framework or pact to end the dollar’s dominance. A “Plaza Accord” of sorts may be needed to dismantle the so-called Bretton Woods II system of tying currencies to the dollar that emerged after the global crises of 1997 and 1998. A Dollar Accord, anyone?

Just as stocks take a hit when additional shares are issued, Asia faces a debt-dilution dynamic for which it never bargained. The Federal Reserve’s zero-interest-rate policies don’t help. And Asia can’t do a lot on its own here.

This process will require considerable cooperation, be it through the International Monetary Fund, the Group of 20, the Asia-Pacific Economic Cooperation forum, the Association of Southeast Asian Nations or a yet-to-be-created entity. Goals must be set, mechanics discussed and timing negotiated. If ever there were a time for a currency summit, it’s now.

Politics will be a stumbling block. It’s hard to envision the U.S. signing on to scrap the dollar as the reserve currency. Neither the euro nor the yen is ready to replace it. And China’s designs on currency domination are a decade away — or longer.

IMF Solution

The amount of scrutiny the dollar’s successor would face makes you wonder who would want to print the reserve currency. That explains why the most credible argument making the rounds involves the IMF’s so-called Special Drawing Rights, or SDRs.

They are really an account of exchange, rather than legal tender, and are calculated according to a basket of currencies consisting of the dollar, euro, yen and pound. Chinese central bank Governor Zhou Xiaochuan wants the IMF to move toward creating a “super-sovereign reserve currency.”

Or, here’s another suggestion: Brady bonds for less- troubled economies. The idea behind bonds created in the 1980s as part of Latin America’s debt restructuring was to let investors swap their claims on nations in turmoil for tradable instruments. A similar process may work with the dollar.

Rumors of the dollar’s demise are no longer exaggerated. What is being exaggerated, though, is how easy it will be for Asia to get out of the quandary it’s in. Cutting off the U.S. government’s credit card, for example, means American consumers can’t buy your goods. And any sudden divorce between the world’s two main economic powers won’t be pretty. Far from it.

It’s time to figure out what the next step is, and policy makers need to get serious. Complaining about our dollar-based system won’t get us there. Some brainstorming about where to go from here would be far more constructive.

(William Pesek is a Bloomberg News columnist. The opinions expressed are his own.)

Our $17 Trillion Chinese Split Won’t Be Pretty – William Pesek, Bloomberg

That thing called China

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Jul 142009

In a recent Wall Street Journal/NBC poll, 49% of Americans said they were concerned a great deal about federal deficits and government involvement in the economy.

America’s gross government debt is expected to climb from 62% of national income to 106% by 2015 — a level not seen since the aftermath of World War II. Meanwhile, gas price volatility is in full swing.
Wondering Why The Chinese Laughed at Geithner? – Michael Lynch, IBD
Yuan Small Step: Faith in the Greenback is Waning – The Economist
Western Awe & Domestic Anxiety: Tale of Two Chinas – Philip Stephens, FT

The Dollar’s New Best Friend

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Jun 262009

Last Tuesday, Brazil, Russia, India, and China–the so-called BRIC nations–met in Yekaterinburg, Russia, for what was supposed to be an anti-American gabfest. The main agenda item for the first formal meeting of the four largest developing economies was the future of the dollar. In recent months, Beijing and Moscow have led a global charge against the greenback, and Brasilia has been a willing co-conspirator in the effort. The BRIC post-summit communiqué referred to the world’s currency problems but, to the surprise of observers, did not attack the dollar head on.

What happened? Beijing, apparently, stopped the other nations cold. The Chinese called the tune at the Moscow meeting–their economy is almost as large as the other three combined–and so the surprisingly nonconfrontational tone of the BRIC official statement mirrored Beijing’s recent climbdown on the currency issue.

The Chinese government in the last few weeks seems to have radically changed its tune on this issue. In March, Zhou Xiaochuan, the head of China’s central bank, called for the replacement of the dollar as the world’s reserve currency in a widely reported text released to the public. In May, however, Beijing officials took a different tack, going out of their way to talk about the dollar’s unique status.

Beijing: The Dollar’s New Best Friend – Gordon Chang, Weekly Standard

UPDATE: 1:28 PM EDT

China Reiterates Call for New World Reserve Currency

FROM BLOOMBERG:

June 26 (Bloomberg) — China’s central bank renewed its call for a new global currency and said the International Monetary Fund should manage more of members’ foreign-exchange reserves, triggering a decline in the U.S. dollar.

“To avoid the inherent deficiencies of using sovereign currencies for reserves, there’s a need to create an international reserve currency that’s delinked from sovereign nations,” the People’s Bank of China said in its 2008 review released today. The IMF should expand the functions of its unit of account, Special Drawing Rights, the report said.

The restatement of Governor Zhou Xiaochuan’s proposal in March added to speculation that China will diversify its currency reserves, the world’s largest at more than $1.95 trillion. Chinese investors, the biggest foreign owners of U.S. Treasuries, reduced holdings by $4.4 billion in April to $763.5 billion after Premier Wen Jiabao expressed concern about the value of dollar assets. That reduction came a month after China boosted its holdings by $23.7 billion to a record.

“Zhou Xiaochuan sees the current international financial system is flawed, putting too much emphasis on the dollar as a reserve currency,” said Kevin Lai, an economist with Daiwa Institute of Research in Hong Kong.

President Barack Obama needs the support of China as the U.S. tries to spend its way out of recession. The Dollar Index that measures the currency’s performance against six trading partners fell as much as 0.8 percent to 79.779 at 1:11 p.m. in London. U.S. Treasuries were little changed with the 10-year yield at 3.53 percent.

‘Unlikely’ Shift

“It’s extremely unlikely the dollar will be replaced as the reserve currency,” said Glenn Maguire, chief Asia-Pacific economist at Societe Generale SA in Hong Kong. “A currency needs to be internationalized and that requires a fully convertible capital account, which China doesn’t have. The second is that it needs to be adopted.”

At the end of 2008 the dollar accounted for 64 percent of global central bank reserves, down from 73 percent in 2001, according to the IMF in Washington.

On June 13, Russian Finance Minister Alexei Kudrin reassured investors of the country’s confidence in the greenback by saying it was “still early to speak of other reserve currencies.” Brazilian Finance Minister Guido Mantega said on June 10 the government’s decision to switch some reserves into IMF bonds wasn’t aimed at weakening the dollar.

Federal Reserve holdings of Treasuries on behalf of central banks and institutions rose by $68.8 billion, or 3.3 percent, in May, the third most on record, Bloomberg data show.

Diversifying Holdings

China has started to pare its holdings, trimming them by $4.4 billion to $763.5 billion in April, the first monthly reduction since February 2008, according to U.S. Treasury Department data. Figures for May have yet to be released.

“There may be signs here of tensions mounting between the PBOC’s economic concerns over China’s holdings of dollars and the Chinese government’s diplomatic reasons for doing so,” Stephen Gallo, head of market analysis at Schneider Foreign Exchange in London, wrote in an e-mail.

Russian President Dmitry Medvedev, Chinese President Hu Jintao, Indian Prime Minister Manmohan Singh and Brazilian President Luiz Inacio Lula da Silva called for a “more diversified” monetary system to reduce dependency on the greenback at a June 16 meeting in the Russian city of Yekaterinburg. In May, China and Brazil began studying a proposal to move away from the dollar and use yuan and reais to settle trade instead.

Group of 20

Group of 20 leaders on April 2 gave approval for the IMF to raise $250 billion by issuing Special Drawing Rights, or SDRs, the artificial currency that the agency uses to settle accounts among its member nations. It also agreed to put another $500 billion into the IMF’s war chest. This month, Russia and Brazil announced plans to buy $20 billion IMF bonds, while China said it is considering purchasing $50 billion.

“Special drawing rights of the IMF should be given full play, and the international body should manage part of its members’ reserves,” the central bank report said.

IMF First Deputy Managing Director John Lipsky said on June 6 it’s possible to take the “revolutionary” step of making SDRs a reserve currency over time.

SDRs were created by the IMF in 1969 to support the Bretton Woods exchange-rate system that collapsed in 1971. They act as a unit of account rather than a currency. The cash is disbursed in proportion to the money each member nation pays into the fund.

Widening the Basket

The value of SDRs are based on a basket of currencies, shielding them from swings in a single currency. One SDR is valued at $1.54. China is proposing the basket be broadened. The current weighting is: 44 percent for the dollar, 34 percent for the euro and 11 percent each for the yen and the pound. It doesn’t include the yuan.

The dollar’s dominance of global finance buffeted developing nations last year. Investors abandoned emerging markets after the September bankruptcy of Lehman Brothers Holdings Inc. eliminated demand for all but the safest, most easily traded assets, such as Treasuries and the dollar. A shortage of the U.S. currency forced central banks to pump reserves into their economies.

“The excessive reliance on the credit of several sovereign currencies have added to the extent of risks and crises,” the central bank report said. “A currency with stable value in the long term is required.”

Last Updated: June 26, 2009 08:35 EDT

The U.S. has more leverage with China than it thinks

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Jun 102009

This week Timothy Geithner completed his first trip to Beijing as U.S. Treasury secretary, and from his account the three-day visit was a great success. The Chinese, he said, backed the Obama administration’s stimulus program, understood the temporary need for enlarged federal budget deficits and supported the dollar’s dominant role in the global economy. Summing up his short stay, Geithner said he received Beijing’s full backing for his plans: “I’ve actually found a lot of confidence here in China, justifiable confidence, in the strength and resilience and dynamism of the American economy.”

Geithner’s hosts seemed equally upbeat and, according to the Treasury chief, did not raise concerns about American deficits or interest rates. Moreover, the Chinese appeared especially hopeful about the plans of the two nations to build a new framework for consultations. “Through the dialogue, we will send a message that China and the United States are cooperating substantively to get over the difficult times, which will help boost the confidence, promote global financial stability and world economic recovery,” said Vice Premier Wang Qishan, Beijing’s economic troubleshooter.

The two nations plan to meet in Washington in late July to kick off the “Strategic and Economic Dialogue,” which will replace the “Strategic Economic Dialogue” maintained by Geithner’s predecessor, Henry Paulson. Paulson ultimately got nowhere with the Chinese on crucial issues, and the question is whether Geithner will make any headway with a China that is now more confident, assertive and stronger than it was just a few months ago.

The answer, in short, is no, for two fundamental reasons. First, Obama’s Washington thinks the U.S. has little or no leverage, economic or otherwise, with China. The new administration is wrong for many reasons. For instance, it grossly underestimates Beijing’s dependence on the American market. In 2007, 97.7% of China’s overall trade surplus related to sales to the U.S., and in 2008 the figure was 90%.

Moreover, American policymakers do not understand that, given the current structure of the Chinese economy, Beijing has little choice but to continue to buy American debt.

Finally, Washington overestimates the Communist Party’s ability to take corrective action and move away from Chinese reliance on exports to the U.S. Until the Obama team substantially changes its perceptions of China, Washington will not use its power to influence the policies of Beijing’s leaders.

The U.S. Has All the Leverage With China – Gordon Chang, Forbes

ILLITERACY IN HIGH PLACES

by Paul Craig Roberts

If a person lives long enough, he can watch everyone forget everything they learned.

Everyone includes Federal Reserve Chairmen, economists, Bank of America “strategists,” and even Bloomberg.com.

Federal Reserve Chairman Ben Bernanke thinks he can hold down US long-term interest rates by purchasing mortgage bonds and US Treasuries. Sixty years ago the Federal Reserve understood that this was an impossible feat. After an acrimonious public dispute with the US Treasury, in 1951 the Federal Reserve forced an “Accord” on the government that eliminated the Fed’s obligation to monetize Treasury debt in order to hold down long term interest rates.

President Truman and Treasury Secretary John Snyder wanted to protect World War II bond purchasers by preventing any rise in interest rates, which would mean a decline in the price of the bonds.

The Fed understood that monetizing the debt to hold down interest rates meant loss of control over the money supply. The policy of suppressing interest rates could only work until the financial markets anticipated rising inflation and bid down the bond prices. If the Fed responded by buying more Treasuries, the money supply and inflation would rise faster.

Since Fed Chairman Bernanke announced his plan to purchase $1 trillion in mortgage and Treasury bonds in order to help the housing market with low interest rates, interest rates have risen. When will the Fed remember that printing money does not lower long-term interest rates?

According to Bloomberg (June 3), Bank of America strategists are recommending that investors buy Fannie Mae bonds because the rise in interest rates means the Fed will ramp up its purchases in order to prevent rising interest rates from adversely impacting the struggling housing market. When will financial gurus remember that printing money does not lower interest rates?

Treasury Secretary Geithner is another economic incompetent. He told China that he stood for a “strong dollar,” but that China should let its currency appreciate relative to the dollar, which, of course, would mean a weaker dollar. He simultaneously told China that their investments in US Treasury bonds were safe.

His Chinese university audience, being economically literate, laughed at Geithner. It apparently did not dawn on the US Treasury Secretary that if Chinese money is rising in value relative to the US dollar, the value of Chinese investments in dollar-denominated US Treasury bonds is falling.

Congressional Democrats are proving themselves to be as stupid as the Republicans. According to the Associated Press, the Democrats have reached agreement to appropriate another $100 billion to continue the wars in Iraq and Afghanistan through the end of the year. What are the Democrats thinking? The federal budget for this year is already 50% in the red. Why add another $100 billion to the red ink, which has to be monetized, thus causing inflation, higher interest rates, and a weaker dollar.

The red ink that Washington is generating is a far greater threat to Americans than any foreign “enemies.”

The hubris is extraordinary. A bankrupt government that has to send its Treasury Secretary begging to China thinks it can spend limitless amounts in a futile effort to control the culture, mores, and political system of distant Afghanistan.

The trillion dollar question: China or America?

A State of Distress, Bond Market, China and the Treasuries - A Dependency Relationship, Death of the Dollar No Responses »

Jun 022009

Who is going to come out of the economic crisis stronger and with the whip hand – China or America, asks Niall Ferguson.

Who Emerges With Whip Hand? China or U.S.? – Niall Ferguson, Telegraph

The basic story of China’s foreign portfolio is simple…..

China and the Treasuries - A Dependency Relationship, Global Trade, The Global Economy, US Trade Imbalance, We Have Become Beggars To The World No Responses »

May 282009

Keith Bradsher’s New York Times story on the recent evolution of China’s foreign portfolio gets — at least in my view — the story right. Of course, that may be because I was — rather obviously — a source for the story. Check out the charts that accompany the article!

The basic story of China’s foreign portfolio is simple: it is trying to reduce the amount of (credit) risk in its fixed income portfolio while simultaneously taking on more commodity risk.

China’s purchases of Treasuries (especially short-term bills) have gone up even as China’s reserve growth has slowed, as China shifted money out of Agencies and — in all probability — out of money market funds that are taking credit risk and other privately managed accounts. The failure of Reserve Primary had a big impact on China. Bradsher:

“Financial statistics released by both countries in recent days show that China paradoxically stepped up its lending to the American government over the winter even as it virtually stopped putting fresh money into dollars. This combination is possible because China has been exchanging one dollar-denominated asset for another — selling the debt of government-sponsored enterprises like Fannie Mae and Freddie Mac in a hurry to buy Treasuries. ….

China was the world’s biggest buyer of [securities issued by government-sponsored enterprises] a year ago, splashing out more than $10 billion a month. But in the 12 months through March, it actually had net sales of $7 billion, and ramped up purchases of Treasuries instead. China has also changed which Treasuries it buys. It has done so in ways calculated to reduce its exposure to inflation or other problems in the United States. As recently as a year ago, China actively bought long-dated bonds, seeking the extra yield they could bring compared to Treasury securities with short maturities, of which China bought virtually none. But in each month since November, China has been buying more Treasury bills, with a maturity of a year or less, than Treasuries with longer maturities. This gives China the option of cashing out its positions in a hurry, by not rolling over its investments into new Treasury bills as they come due should inflation in the United States start rising and make Treasury securities less attractive.

At the same time, China has sought to ramp up its exposure to commodities. China’s government clearly is adding to its strategic stockpiles — and perhaps encouraging state firms to build up inventory as well. China’s government is encouraging Chinese state firms to invest more abroad, especially in the mining sector. And China’s government is providing financing to cash-strapped commodity exporters (Russia, Kazakhstan, Brazil and no doubt others) to help tide them through a rough patch and, China hopes, to secure future supplies. Bradsher:

“This spring China has also been stepping up its purchases of commodities, which are usually bought in dollars. Iron ore has been piling up on Chinese docks, government stockpiles of crude oil and grain are being expanded and stockpiles are being started for products like gasoline, diesel and sugar.”

The basic story of China’s foreign portfolio is simple: it is trying to reduce the amount of (credit) risk in its fixed income portfolio while simultaneously taking on more commodity risk.” (Brad Setser)

With U.K. AAA Rating In Jeopardy, Is U.S. Next?

China and the Treasuries - A Dependency Relationship, Coming Social Unrest, Coup d'etat in America, Death of the Dollar, Global Trade, History of Finance, How do you dampen the inflation dragon? No Responses »

May 252009

The UK’s AAA-rating is at risk. (Bloomberg, MarketBeat, EconomPic Data, Zero Hedge)

Bye, bye miss american pie…..

Don’t wait…..buy Gold and Gold Mine Stocks!

A New World Order

China and the Treasuries - A Dependency Relationship, Coup d'etat in America, Global Trade, History of Finance, The End of American Capitalism As We Know It? - Discuss No Responses »

May 162009

From the Economist:

Birth Pains: A New Global System Is Coming

If China loses faith the dollar will collapse

China and the Treasuries - A Dependency Relationship No Responses »

May 052009

From the Financial Times:

Emerging economies such as China and Russia are calling for alternatives to the dollar as a reserve currency. The trigger is the Federal Reserve’s liberal policy of expanding the money supply to prop up America’s banking system and its over-indebted households. Because the magnitude of the bad assets within the banking system and the excess leverage of its households are potentially huge, the Fed may be forced into printing dollars massively, which would eventually trigger high inflation or even hyper-inflation and cause great damage to countries that hold dollar assets in their foreign exchange reserves.

The chatter over alternatives to the dollar mainly reflects the unhappiness with US monetary policy among the emerging economies that have amassed nearly $10,000bn (€7,552bn, £6,721bn) in foreign exchange reserves, mostly in dollar assets. Any other country with America’s problems would need the Paris Club of creditor nations to negotiate with its lenders on its monetary and fiscal policies to protect their interests. But the US situation is unique: it borrows in its own currency, and the dollar is the world’s dominant reserve currency. The US can disregard its creditors’ concerns for the time being without worrying about a dollar collapse.

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