Emerging economies accomplish something beyond the reach of the G-7
The FT notes, in today’s leader, that the G-7 hasn’t been able to agree on the massive, co-ordinated intervention needed up hold the dollar up against the euro.
The euro, and commodity currencies such as the Australian dollar, are bearing the brunt of the dollar’s fall and the erosion of their trade competitiveness. These are the nations with something to gain from G7 or IMF management of the dollar’s fall, but even if they could agree amongst themselves, it is unlikely they could muster support for the massive, co-ordinated, global intervention that would be needed to hold the dollar up.
The funny thing is that the emerging world has been able to muster support for massive, global intervention needed to hold the dollar up – the IMF estimates that global reserve growth is set to top $1 trillion in 2007, and judging from the first two quarters, that may be an underesimtate.
And even more surprisingly, they have managed to do this without any formal coordination. There is no real analogue today to the G-7 of the 1980s (see HSBC’s Stephen King in yesterday’s Independent). The big emerging economies don’t sit down with the US in the G-20, for example, and agree to intervene to hold the dollar up while the US takes steps to put its financial house in order. But they nonetheless intervene on a far larger scale – both relative to US GDP and their own GDP – than the G-7 ever did in the 1980s.
So how can this system be sustained in the absence of formal coordination? After all, Barry Eichengreen argued back in 2004 than every individual country in the dollar financing cartel had an incentive to cut back on its dollar holdings before others do– and as a result, the Asian central bank cartel financing the US would prove to be unstable.
I would point to two things.
First, so long as China resists allowing its currency to appreciate – a policy that requires that China buy tons of dollars in the foreign exchange market and invest tons of money in the US – any emerging economy that allows its currency to appreciate against the dollar also allows its currency to appreciate against the RMB. That has a real cost. Ask India. Or Thailand. Those emerging Asian economies that have allowed their currency to appreciate now generally run current account deficits, not surpluses – and many are seeing a very rapid rise in their imports from China. As a result, even countries with higher upfront sterilization costs than China are still intervening to resist pressure for their currencies to appreciate. Ask the Reserve Bank of India how many dollars it has bought over the last month. And then ask the Bank of Thailand.
Call it coordination without any formal coordination. Almost every emerging economy is – or has – intervened over the past year to prevent their currencies from appreciating. And they all have done so without demand anything from the US in return, and by and large, without talking to each other either.
Second, high oil prices – and policy inertia in the oil exporting economies.
The oil exporters have a ton of cash with oil trading in the $85-90 range, even if many now need $40 oil – if not a bit more — to avoid running an external deficit. Taking in $85 a barrel and spending $40 on imports leaves $45b a barrel to invest globally. It is – in that narrow sense — equivalent to taking in $65 and spending $20.
The oil exporters don’t really have to worry about Chinese competition — so that can hardly explain their continued willingness to peg to the dollar. So why have they joined the dollar financing carterl?
Inertia probably plays a bigger role than most would suspect. The GCC countries haven’t agreed on what should take the place of their dollar pegs in the run-up to their now-likely-to-be-delayed yet again monetary union. And so long as they peg to the dollar, they have an incentive to hold dollars – at least the bigger countries. Selling risks driving the dollar and thus the GCC currencies down.
To be honest, though, the asset allocation of some Gulf countries investment funds now looks to be adding to the pressures on the dollar. I would be bet a lot of money that a smaller share of today’s oil surplus is held in dollars than was the case in 2004 or 2005. We more of less know this is true for three countries: Russia, Kuwait and Qatar. The portfolio allocation of these countries consequently may be adding to the problems their central banks are now facing with inflation.
And, if is widely suspected, some investment funds have reduced the dollar share of their portfolio, inertia alone consequently is no longer a fully satisfactory answer. Other policies have changed faster than the peg.
I suspect part of the answer is that the some GCC countries – the Emirates for example — is effectively run by a set of property magnates. Big property investors haven’t exactly been hurt by higher inflation, negative real rates and the resulting surge in demand for property. Especially not when a lot of the increase in inflation comes from higher rents. Higher rents and rising property prices help the property-owning sheiks — particularly since they also tend to own the major property developers. And the sheiks are the ones calling the shots.
Here though I am probably speculating a bit too freely about the Gulf's political economy. Suffice to say that the Gulf's continued willingness to peg to a depreciating dollar is a mystery, one that calls out for further investigation.
We do know though that a lot of countries haven’t made their willingness to intervene heavily to hold the dollar up contingent on any changes in US policy. That has reduced the need for formal coordination. We also know, I think, that the early defectors from the dollar financing cartel are currently paying a bit of a price – as they have allowed China to undercut their products in the global market. China’s ability to punish defectors by taking some of their global market share also reduces the need for formal coordination . Finally, the oil exporters aren’t spending all the funds they are taking in, and even if they are putting a smaller share of the flow into dollars, they are still adding quite significantly to their dollar portfolio. That too helps finance the US deficit.
Three final points:
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One: It isn’t as if Europe and the advanced commodity exporting economies lack the resources needed to intervene on a sufficient scale to make an impact. China’s 2007 intervention in the foreign exchange market – counting funds shifted to the CIC – is likely to be well above 15% of China’s GDP. I haven’t done the math, but 15% of the combined GDP of the European Union would generate a sum closer to $2 trillion than $1 trillion. Academic theory on this isn’t totally clear, but I personally suspect intervention on that scale would have an impact on the dollar. Europe just doesn’t think it is in its interst to borrow a ton of euros and sell them for dollars. China, by contrast, still thinks it is its interest to borrow a ton of RMB and buy euros and dollars. And China is likely to take far larger losses on its euros and dollars than Europe would on its dollars.
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Two: This implies that China now provides a very large amount of financing to the US right now. CITIC’s $1b investment in Bear is offset by Bear’s investment in CITIC, and even if it wasn’t it amounts to less than a typcial business day’s worth of China’s likely purchases of US bonds. It isn’t unrealistic to think that Chinese state investors – the PboC/ SAFE, the CIC, CITIC, CDB and others – will aquire between $350 and $400b of US assets in calendar 2007. The vast majority will still be bonds. (These calculations assume that total chinese foreign asset accumulation will be close to $500b)
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Three: the earlier talk of the need for a new Plaza to bring the dollar down in an orderly way has effectively been superseded by talk of a new Louvre to keep the dollar from falling further. But in reality, the world could need both a new Plaza and a new Louvre. A Plaza might still be needed to bring the dollar down against many emerging currencies, though in all honesty the needed adjustment in the dollar could happen absent any Plaza II if China decided to let the RMB moved more. And a Louvre might be needed to keep it from free fall. The problem I have with the emerging world’s current intervention is that it is – by and large – designed to keep the dollar from falling at all.
The original Louvre came after the Plaza. The new emerging market Louvre — today's massive intervention to support the dollar — has come about without there ever being an emerging market Plaza.
Thank you mr Setser,
Last two articles are perfectly clear to me, apart the only logical conclusion.
US and Europe have now only one point of strenght : absolute amount of consumptions.
I’m not an Expert, but we talk about around 14 Trillion $ a year.
So, the only solution to the continued RMB Depreciation (against Euro) is only one: Tariffs, also in order to help exports of Countries like India, Thailand, etc.
It may be that US have now abdicated from its manufacturing Activites, But Continental Europe, in a broad sense, has not, we are integrating some hundred millions of Eastern Europeans (From Estonia to Turkey) , we can’t afford to destroy our manufacturing base to allow China to solve their problems using Exchange rate.
Thank you
Why and how can they sustain a currency when the hacks in Washington are printing money like there’s no tomorrow ?
Does the U.S. government really know what the deficits are? The more they sustain, the more the hacks spend. They like it that U.S. exports are cheap. They like it that foreigners can buy the U.S. that’s up for sale at a currency discount. Europe and Asia can cry up a storm but it’s a hopeless cause.
Nicolas: Europeans don’t cry about $ devaluation. In a free market environment,and in a logical macroeconomic framework, it is normal. What’s hurting Europe is the linkage between $ and Asian Currencies.
Alan Greenspan recently remarked, “The temptation for fiat currency is too great”. Too bad, he said this only when he is out of office.
Historically, all fiat currency systems eventually head to the dust bin. No exceptions. None. It shouldn’t be a surprise to anybody. Look at the government finacial debt of all major economies. All despicable, all miserable. The US, France, Italy, Japan, Great Britain, Germany – and – China. So, somebody said, “It is a reverse beauty contest.”
We need to go back to the gold standard. But gold is hard to work with, so we have to work with the 2nd best – a pseudo gold standard – SDR (special drawing right). Take away the politicians’ tinkering with enforced discipline. Like a real world analogy, irresponsible consumers should only have access to cash, not credit cards.
In a free market environment,and in a logical macroeconomic framework, it is normal. What’s hurting Europe is the linkage between $ and Asian Currencies.
And increased inflation in Asia is making this nominal linkage irrelevant. As any proponent of the gold standard knows, pegged exchange rates are quite compatible with a free mmrket framework.
Brad says: “The big emerging economies don’t sit down with the US in the G-20, for example, and agree to intervene to hold the dollar up while the US takes steps to put its financial house in order.”
I ask, what steps is the US taking to “put its financial house in order”? I am aware of none. Maybe Brad knows of some. If he does, I hope he tells us what they are.
No, the US, and Brad too, seem to think it is China that needs to do all the heavy lifting to alter the present situation. China isn’t about to fall for that idea and thus the deaf ear constantly turned to US agitation re the yuan.
Guest — I don’t recognize my argument in the argument that you are making. My point was descriptive: China is doing the heavy lifting associated with financing the US and it is doing so unconditionally, w/o requiring any policy changes by the US. That is its own choice; it never has tried to link its continued willingness to finance the US to policy changes in the US. And the uS is unlikely to agree to such conditions so long as China shows that it prefers keeping its de facto crawling peg v the $ above all else — since unconditional financing of the US falls out of that Chinese policy choice.
But ultimately, it is a Chinese policy choise — though one that the US increasingly takes for granted. I frankly have never understood why emerging economies have financed the US unconditionally, and particularly not now, when the scale of the financing is very, very large. The US/ G-7 were not as generous to the emerging world back in the 1990s.
Why doesn’t anyone criticize the lack of monetary discipline in Washington for the economic imbalances? The Bush Administration is requesting an additional $196 billion for the Iraq war in the coming year. As VP Cheney is on record as stating, “Deficits really don’t matter”, especially under the existing Gulf Arab-oil backed US Dollar hegemony regime. With the US military occupation of Iraqi oil fields, the world’s second largest conventional oil reserves, it is highly unlikely the US will ever be leaving the strategic region. Let’s be perfectly clear on one issue, the Nobel prize for the biggest global currency manipulator goes to the US Treasury Department and its cronies infesting the Washington controlled IMF. The Chinese aren’t some banana nation that can be blackmailed or bombed like Arab Middle East nations.
The U.S. debt was supported in the past because A) The U.S. consumer market is unlike any other B) The dollar was strong. Both of those conditions are not the case today and to sustain the U.S. currency at this point is only desperation. Naturally those who have assets within the U.S. are concerned but the world can take or leave it.
I suggested yesterday that, given that the Chinese refuse to budge, the US might do a Germany and engineer a real depeciation of its (for these purposes) effectively fixed exchange rate. I was thinking of what the US might have done instead of their loose US monetary policy in the past, but then I realised that that this would of course have tightened Chinese monetary policy and lowered their inflation too. But here perhaps is an answer. Tighter US fiscal policy – which I would argue is necessary anyway for budgetary and demographic reasons – could provide the necessary independent contraction. And by making US government debt more expensive, it would also provide a further incentive (in terms of a lower return on additional reserves) for the Chinese to desist.
The trouble is, as always, that the solution is politically painful for the US. But, as Stephen King makes clear, that is an inevitable consequence of the changing balance of economic power in the world.
Higher rents and rising property prices help the property-owning sheiks — particularly since they also tend to own the major property developers. And the sheiks are the ones calling the shots.
Think “Sheiks of Beijing” and I think Brad explains a lot of otherwise inexplicable behavior.
Electricity prices see biggest jump in 25 years rising 9 percent
http://money.cnn.com/2007/10/22/news/economy/electricity.ap/index.htm?postversion=2007102214
No problem for the Bernanke Federal Reserve to remove electricity prices from the “core” rate of inflation. That justifies another interest rate cut to bailout Wall Street banks and Hedge Funds. Privatize the Profits, Socialize the costs to the American public with higher “real” inflation. Gold is up near record highs which demonstrates that people are awaking to the BS core inflation statistics from Bernanke and Paulson.
I like the Plaza/Louvre analogy. My take is a bit different though -
Ideally, there would be a Plaza Agreement with Asian exporters/GCCs and a Louvre Agreement with Europe/the Antipodean pair.
Alas, neither is likely to happen. You may say I’m a dreamer, but I’m not the only one (love that Beatles sound).
Despite the fact that more Food imports from Mexico than China were rejected last year for contamination by the FDA, Paulson is slamming the Chinese. The Washington Politicos and their mainstream media cronies bullsh!t each other so much, no one in the beltway knows what the truth really is anymore, just like those imaginary Iraqi Weapons of Mass Destruction (WMD).
Paulson: Chinese recalls causing fear in U.S.
http://money.cnn.com/2007/10/23/news/international/bc.paulson.china.ap/index.htm
WASHINGTON (AP) — Treasury Secretary Henry Paulson said Tuesday that the recalls of tainted Chinese products were causing fear among U.S. consumers.
still thinks it is its interest to borrow a ton of RMB and buy euros and dollars. And China is likely to take far larger losses on its euros and dollars than Europe would on its dollars.
Europe’s economy and civil society are sufficiently flexible, transparent, and robust that whatever costs the rising Euro imposes, Europe will adapt and prosper. China (and the Party) on the other hand, would face massive dislocation, misinvestment, and unrest. China isn’t investing in the currency market for giggles, and it’s not offering sweetheart deals to American (and now European) borrowers for altruism.
China is importing goods/services it evidently can’t produce as efficiently: macroeconomic discipline & political stability.
That’s real “Dark Matter”.
“The problem I have with the emerging world’s current intervention is that it is – by and large – designed to keep the dollar from falling at all.”
We should stop thinking of the PBC as purely a western-style central bank. Given it’s position as the ONLY real lever of economic power in China, it is not just in charge of monetary policy. It’s also got effective control of fiscal policy and financial regulatory policy as well.
That means PBC is providing services to the central government beyond the services that other Central Banks normally provide. In other countries, those services are produced at home in state-owned enterprises, usually call Ministries or Agencies. They are paid for out of budget revenues, with large armies of trained professionals carefully and diligently administering state power. China can’t trust its bureaucrats to carefully and diligently administer power – so instead it’s outsourced this function to the West. The potential losses on dollar assets should therefore be seen as the budgetary line-item for administering the system.
China isn’t losing money here – it’s buying services. Now, the question becomes, is it still getting a good price? Unlike traditional services, there is a negative economy of scale. Paradoxically, as the dollar sinks lower the costs of these imports increases! At this point, China evidently sees European ‘financial-regulatory’ services as a better value than American…
It is disingenuous on the part of US Treasury officials led by Paulson to accuse the Chinese of irresponsibility for not agreeing to an immediate 40 percent currency revaluation. Labor intensive manufacturers than employ the bulk of China’s migrant workers typically operate on profit margins of 5 percent or less. A 40 percent currency revaluation would totally destroy the profitability of all these industries. Under no circumstances will the Chinese government agree to a 40% revaluation that would severely impact the global competitiveness of Chinese industries. Any revaluation needs to be slow enough to ensure that productivity of various Chinese industries can be gradually upgraded by improving technology efficiency. I believe the real ulterior motive of Neo-liberalism IMF Economist pundits who promote “unsound” economics is to incite economic crisis and political unrest in the Chinese economy that would discredit the Asian developmental economic model.
Ethan: “China is importing goods/services it evidently can’t produce as efficiently: macroeconomic discipline & political stability”
Alas, the dollar peg is leading china to import inflation and asset bubbles, which isn’t my definition of macroeconomic discipline.
Emmanuel — thanks for noticing my plaza/ Louvre suggestion … agrere that it is unlikely to happen.
One more comment. The Chinese don’t invade, occupy, and install puppet governments in sovereign foreign nations for the attempted exploitation of their vast energy reserves. That the US mainstream media even compares human rights in China’s Tibet province to the ghastly situation in Iraq with 1 million dead and 2.5 million refugees is a travesty to justice.
bsetser – But ultimately, it is a Chinese policy choise — though one that the US increasingly takes for granted. I frankly have never understood why emerging economies have financed the US unconditionally, and particularly not now, when the scale of the financing is very, very large. The US/ G-7 were not as generous to the emerging world back in the 1990s.
As a regular reader of this interesting blog, I would like to contribute a little feedback. Since I am a Chinese and I agree with the policy choice, this may help to shine some light on the issue.
The question, why China has “financed the US unconditionally”?
I think the Chinese leadership sees current path as a smooth drive to their goal of building a strong and rich country. At the end of 2007, GDP of China will be around $3T at exchange rate. The GDP of the US will be about $13T. Imagine current trend continues a decade. Lets assume the following for the sake of argument.
1) RMB vs. Dollar appreciates 4-5% each year
2) The nominal GDP growth (real GDP + inflation) difference between China and the US is bigger than 7% each year.
3) China accumulated $5T of reserves.
Then, let’s do some math. Currently, the GDP ratio is about 1:4 between China and the US. The assumption 2) will narrow the ratio to 1:2. Assumption 1) further narrows the gap to 1 : 1.3. So at 2020 (13 years later), the 2 countries will have equal GDP at exchange rate.
For the loss of the reserve value, due to assumption 2) and 3), China will sacrifice roughly $2T in the process.
I would guess the Chinese leadership think, if they can buy the 10 year’s development, $2T (10%-15% of then GDP per year depends on inflation) is a reasonable price. I personally agree that the trade is desirable for China. In addition, the above discussion assumes GDP at exchange rate describes the strength of a economy, which is questionable in this case. When we think about the real underlying economy, the Chinese GDP growth is more valuable. Huge mount of wealth will be generated (which is undervalued by the exchange rate) instead of being consumed. The 10 years worth of infrastructure build-up, environment repair and social reforms will change the country and the world dramatically. So it is even more tempting to keep the current path.
I have tried to outline the rationale for the Chinese to offer this “unconditional finance”. The money is spent to buy time. The next question is, should the US take this “unconditional finance”? That will decide whether or not the current trend can continue. And that is a US policy choice.
I don’t recognize my argument in the argument that you are making, says Brad.
I assumed from your sentence you thought the US was doing something to put its financial house in order, and I simply said I couldn’t see it doing anything of the sort. Then with regard to “heavy lifting” I meant that the US expected China to make the changes necessary to reduce our deficit by raising the value of the yuan. The two fit together; we don’t want to take the trouble to change our policies, we want China to change its policies. I would think the Chinese finance our deficit to keep up our demand for their products and provide employment to their masses. Why is that so mysterious?
Apparently, the Chinese believe that by treating its own citizens badly it is OK for their government to be as heedless to the rest of the world. A questionable sort of integrity, in my opinion.
Instead of demanding that China revalue the yuan why does the US not enact a national sales tax to reduce consumption? That would be our doing some heavy lifting for a change.
Guest on 2007-10-23 12:00:25
DC/Guest on 2007-10-23 08:24:14 might say that inflation will take care of the demand reduction
D-Chiang: DC policy re china is a legacy holdover from the longstanding China lobby circa cold war. The Chinese have been very opportunisitc regarding the “opening,” feeling they were/are the fulcrum of the Russia-China-US triangle. Instead of cutting the dividend at the end of the cold war, short-termism in the United States won out resulting in an effectivie doubling of their cold war dividend. We all know the story: they get development we get Walmart. The problem is not in fiscal policy per se as profilgate as it may be. The problem is an incumbent lobby who see any concession as too little. they are backed up by an electorate that sees a glossy new refrig as superior to a longer term career – as we know Americans arn;t the strongest when it comes to discounting future expectations when we have manifest destiny.
It is the height of irony that we talk in terms of free trade when that is not the going regime, despite the DC myths and the falacious/oportunistic wealth gains purproted to have come from the incumbant mechanism/WSJ editorial page. This is in no way to deny the benefits of trade, but it is to question the reflexive barbs from the “free-trade” crowd when the benefits are accruing offshore. The United States needs is to “Walk the Line,” but the first step is admitting you are an addict. Current action by the Fed and the Treasury give no reason to hold your breath.
Guest,
For the record, the Chinese government doesn’t treat its citizens as badly as the US government treats Iraqi citizens with the most recent Blackwater security firm massacre of unarmed civilian women and children on the streets of Baghdad. And why is it that the same Neo-liberal interventionists who probably couldn’t manage a babysitting daycare center in Washington DC, think it is their responsibility to tell the Chinese how to manage their foreign, domestic, and monetary policy affairs. What business it is for the Washington elites to be bombing Belgrade Yugoslavia, supplying Fighter jets and missiles to Taiwan, and military occupying the vast energy reserves of Iraq? In the usual pattern the latest enemy of the month is usually accused of “genocide” and “human rights violation” by Thomas Friedman which then justifies bombing the sovereign nation into the ground.
“When China’s “rich list” was launched in 1999, it had just one US dollar billionaire. “Red capitalist” Rong Yiren, the former China vice-president who founded the sprawling, state-controlled Citic conglomerate, topped the list with an estimated wealth of $1bn. Now the Hurun rich list has 106 US dollar billionaires, up from only 14 last year. Today, in spite of the fivefold growth in the Rong family’s wealth to $5.3bn…, Mr Rong’s son Larry, the head of the family business whose dynastic wealth is unique in surviving the cultural revolution, has fallen to sixth place on the list…” http://www.ft.com/cms/s/0/a759c0de-809c-11dc-9f14-0000779fd2ac.html
“…the Chinese believe that by treating its own citizens badly it is OK for their government to be as heedless to the rest of the world…”
That takes the cake for “funny.” For the US that has invaded and raped Iraq and killed hundreds of thousands of Iraqis, after doing the same several decades ago to Vietnam, to accuse the Chinese of being “heedless” is hilarious. Some nations can’t see themselves in the mirror even when they are smeared all over with the blood of many thousands of innocent others.
“The United States needs is to “Walk the Line,” but the first step is admitting you are an addict. Current action by the Fed and the Treasury give no reason to hold your breath.” – S
I concur. The path to redemption is the implementation of a hard “sound money” policy that would redistribute gains from Wall Street parasites to the “real” wealth producing, industrial sector of the US economy. Unfortunately without any regards to moral hazard, Helicopter Bernanke has indicated that he will bailout reckless Wall Street banks and hedge funds with an unlimited supply of excess inflationary liquidity.
As the major shareholders of most firms seem to financial institutions, if a significant percentage of these holdings may represent shares held on behalf of foreign clients: “…direct ownership of stocks by American households has declined from 91% in 1950 to just 32% today. The 9% ownership stake held by financial institutions in 1950 crossed the 50% mark in 1983, and now totals 68% of all stocks…” ‘Individual Stockholder R.I.P.’, John C. Bogle, WSJ, Oct. 3, 2005
Brad – do/ should you be tracking the numbers shown in Mr. Bogle’s article and if so, might more recent estimates be available, or we should be paying more attention to some of these firms’ and institutions’ largest clients.
Paulson’s $100 Billion Bankers’ Bankruptcy Bailout Fund
http://www.counterpunch.org/whitney10232007.html
Paulson instructed the other nations on how best to adjust their currencies and on the dangers of “sovereign wealth funds”. No one was listening. Foreign ministers and central bankers are less receptive to the scolding of US officials. America needs to put its own house in order before it gives advice to anyone else.
What everyone at the meetings really wanted to know was why the United States destabilized the global economic system by selling hundreds of billions of dollars of worthless mortgage-backed securities to banks and pension funds around the world? Aren’t there any regulators in the US anymore?
The Federal Reserve has been trashing the greenback for the last 7 years without pause. Paulson needs to rethink his approach and start telling the truth. Markets thrive on credibility and transparency; that’s what strengthens investor confidence. If Paulson thinks that the people are dupes; he’s in for a shock.
Last month’s net foreign inflows show how quickly capital can evaporate when confidence is lost. Foreign investors pulled $163 billion out of US securities and Treasuries in August alone. Net capital inflows have turned negative and that money won’t be returning until the United States shows that it’s “got its act together”.
Are you listening, Henry?
The multi-trillion dollar subprime swindle was the greatest financial fraud in history. Investors are looking for accountability. They want to hear someone in the Bush administration and at the Central Bank stand up, take responsibility, and offer concrete regulatory changes to fix the system.
Are you listening, Henry?
No one is interested in another scam like the new $100 billion “Bankers Bankruptcy Fund”. All that does is provide the over-extended and under-capitalized investment banks another chance to dump their poisonous Mortgage-backed slop on the gullible public. Forget about it.
a national sales tax would tend to reduce us consumption, but it wouldn’t do anything to increase chinese consumption, or increase chinese demand for the world’s goods. to the extent it helped “rebalance” it would do so solely by cutting back on Chinese export growth. and it doesn’t deal with the financial disequilibrium — i.e. the downward pressure on us int. rates induced by policies in china that have led to a very high level of nat’l savings/ the large gov savings of the oil exporters.
I am a bit more partial to a tax on the consumption of energy — which would tend to increase us savings (more gov revenue/ less gov dissavings) and reduce the oil savings surplus (by putting pressure on the oil price)
Is that China’s fault?
http://www.counterpunch.org/whitney10232007.html
The rest of the world is already fuming at the US for creating the problems that threaten to send the global economy into a prolonged tailspin.
Developing countries that joined the G-7 meetings lambasted the US for generating “serious problems of financial fragility” which are endangering the “prosperity of the world economy”. (Bloomberg)
The G-24 is demanding “increased surveillance of advanced economies, putting as much focus in evaluating their vulnerabilities as it does in emerging-market economies.”
Indeed. And yet Paulson and his colleagues at the Fed continue to blame everyone else. No one in China cooked up this “structured finance” rip-off which sent millions of homeowners into foreclosure, shuttered 160 mortgage lenders, and undermined the global banking system. That was the work of the Wall Street con-artists and their accomplices at the Fed.
Give it a rest, Hank.
Brad: Excellent column as usual. You’ve aptly indicated that the failure of the ruling economic powers to resolve this problem is an intersection of economics, international trade, and government exchange rate policy. Each power pursues its own perceived interests without regard to how its actions result in other re-actions. Game theory not economics or trade is at play. Global capitalism is at risk because no power concerns itself with the greater good and long term future.
The great powers in the 1920s were also unable to collectively agree to resolve the problems that lead up the great depression of the 1930s, unbalanced domestic economies, exchange rates, financial flows, and trade.
Brad,
I agree that an energy tax would be ideal as it tackles other (environmental, geopolitical) problems as a byproduct, but surely a national sales tax in the US would have a not dissimilar economic effect. It would reduce US consumption, including of Chinese goods (instead of, say, Saudi oil) and hence reduce the need for the Chinese (instead of the Saudis) to buy dollar bonds to balance payments. Also, just maybe if the Chinese manufacturers responded to reduced export demand for their goods by cutting their prices at home, or changing their products, to try to sell more there, it might even increase Chinese consumption a bit.
“…commodity trading is a world where many goods that are key to national security or public consumption, such as oil, pork bellies or uranium, are traded with almost no oversight…” http://www.washingtonpost.com/wp-dyn/content/article/2007/10/20/AR2007102001203.html
“…One of the main objections of government to meeting the renewables target set by Mr Blair is that it will undermine the role of the European emission trading scheme… “[Meeting the 20% renewables target] crucially undermines the scheme’s credibility…”http://www.guardian.co.uk/environment/2007/oct/23/renewableenergy.energy
Guest calling for hank to give it a rest –
do look at the Stephen King column i linked too. While I haven’t been impressed by the US response to recent trouble in the subprime market/ SIV, arguing this is all US/ no China and the gulf misses a key point. The big inflows into treasuries and agencies from central banks pushed down yields and encouraged private investors to take more risks in various ways. so there was a displacement effect. King describes this better than I can.
then you would agree that the brics are fueling inflation and that a tax on american energy consumption would have little, if any, impact on the world price of oil
and how is it that Hu’s Finance Minister can be banned from the congress and that Hu can name corruption and pollution as China’s worst problems, yet somehow this is not a factor in world markets…
Above all, a simple solution …. to our complex problem…
Return to (pseudo) gold standard(SDR),international trade and debt to be settled in reference of gold (SDR), make all currencies local – within sovereign state’s total macro economic policy control (appreciate or depreciate).
Happy ever after.
If Asian “elites” can diversify their profits off-shore in spite of capital controls, then Barry Eichengreen’s argument that each member of the dollar financing cartel has an incentive to cut back on their dollar holdings before others do loses its validity.
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Just because someone doesn’t‘t love you the way you want them to, doesn’t‘t mean
they don‘t love you with all they have.
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Let alone Chinese officials investing offshore. How about Paulson, Bush/Cheney, Carlyle Group and the whole crew who are invested offshore. That’s the real kicker.
“…Finally, we have the credit squeeze. This is a complex phenomenon, but there is little doubt the accumulation of reserves in Asia, and more particularly China, has played an important part in the debacle. Once again imbalances are part of the story, with a protectionist, high-saving China pursuing an exchange rate policy that threatens to generate a current account surplus of close to $400bn this year. One consequence is a huge accumulation of Asian official reserves in dollar assets… maintaining an artificially low value for the renminbi creates excess liquidity in China. This affects equity markets and the resulting boom is exacerbated because the real return on domestic bank deposits is negative. In the absence of policy change the credit squeeze could be regarded as a harbinger of a Chinese crash to come…” http://www.ft.com/cms/s/0/bead93ee-8184-11dc-9b6f-0000779fd2ac.html
Brad – if you can answer my question posted above at 2007-10-23 13:27:47 – at least i would think this type of information should be important to you et al. given your concerns about who/ what/ how controlling interest in various strategic assets may be achieved. if very large financial institutions are the laregest shareholders of the world’s largest companies, if one way to gain some influence over many firms to to try to position oneself as a major shareholder or client or director with any one of the large financial institutions.
GCC have incentive to hold dollar reserves because oil price can collapse in the event of US recession. In that case dollar could rally and thus their value of their reseeerves could be valued more that currently valued.
“Let alone Chinese officials investing offshore” – good luck with finding out anything about them, not that you shouldn’t be concerned about it
“…The Chinese government also enforces strict laws on internet use, blocking content it considers a threat…” http://news.bbc.co.uk/2/hi/business/7059417.stm
Thanks Helicopter Bernanke for Destroying the monetary value of the US Dollar to bailout your reckless Wall Street cronies. – DC
Jim Rogers Shifts Assets Out of Dollar to Buy Yuan
http://www.bloomberg.com/apps/news?pid=20601087&sid=amQBwDBSDvBE&refer=worldwide
Oct. 24 (Bloomberg) — Jim Rogers, chairman of Beeland Interests Inc., said he is shifting all his assets out of the dollar and buying Chinese yuan because the Federal Reserve has eroded the value of the U.S. currency.
“I’m in the process of — I hope in the next few months — getting all of my assets out of U.S. dollars,” said Rogers, 65, who correctly predicted the commodities rally in 1999. “I’m that pessimistic about what’s happening in the U.S.”
“It’s the official policy of the central bank and the U.S. to debase the currency,” said Rogers, a former partner of George Soros.
Brad,
“Alas, the dollar peg is leading china to import inflation and asset bubbles, which isn’t my definition of macroeconomic discipline. “
Agreed. Which is why the Chinese are attempting import substitution: European discipline for American.
——
jye,
Well said about the Chinese position.
The problem is that the Chinese strategy only works when other financial actors are unaware or indifferent to your actions – i.e., nobody exploits you. But as soon as the market realizes that you have locked yourself into a policy of buying dollar assets, other financial actors will take advantage. Borrowers will serve up a steadily-worsening stream of dollar-denominated crap. As other lenders head for the exits, the Chinese (and Saudis) are left holding the bag.
Everybody should listen to Jim Rogers on Bloomberg today Oct. 24
Re — jye’s commnet. Thanks for your comment. I completely agree with you. I raised the point several times here on this blog, that we should see the Chinese policy more strategically. The real important thing for China is not how it gets back the money for the paper they collect right now, and how much money they will loose in the process. In the end, they can even burn those papers, because they will be paid out in economic growth, which is far more important and valuable than the few trillion USD they may loose. It is incredible, that if the current trends were to continue (5% appreciation/year against the USD, and 7% growth differencial), China would become the strongest economy in about 13 years.
Brad, you say “The big inflows into treasuries and agencies from central banks pushed down yields and encouraged private investors to take more risks in various ways. so there was a displacement effect.” The trouble is with this argument is that it is inconsistent with a narrowing of risk spreads (ie risk assets are an imperfect substitute for treasuries and agencies, so their yields should fall less). There must be more too it than central bank buying – like a increased risk appetite from other investors.
AC: It is incredible, that if the current trends were to continue (5% appreciation/year against the USD, and 7% growth differencial), China would become the strongest economy in about 13 years.
Sorry to repeat this, but this sort of arguments does not make much sense.. line segments do not exist in real life. Not to mention economics. Chinese growth will probably saturate when the country will reach middle income status. The yuan lost 5% versus the euro in 2006 and 2007: what happens if you extrapolate that for 13 years?
I agree though that what the chinese are doing makes a lot of sense in a medium-term perspective.
RebelEconomist on 2007-10-24 08:56:48
The very high concentration of foreign investors in risk free securities is consistent with a narrowing of risk spreads. This concentration pushes down treasury yields due to the size of the demand from a single source. And it pushes down risk spreads due to the lack of available risk free product, and the resulting demand by those who can’t get their fill to replace it with something else as close as possible to risk free. This all happens, not because of the size of foreign buying per se, but because a very large category of treasury buyers is not properly diversifying, causing resulting distortions in treasury pricing and risk pricing.
Anonymous on 2007-10-24 09:58:00,
Unchanged risk spreads would mean that spread product HAS become more expensive in line with treasuries. If a large category of treasury buyers is not “properly” (whatever that means) diversifying, then treasury yields ought to fall more, no?
Re — Guest on 2007-10-24 09:35:28
You are right. The if is a very big if.
To Jye
You have 3 implicit assumptions in your argumentation
1. China must run trade surpluses for rapid growth – false, fastest growth could be achieved by small amount of trade deficit if that deficit comes from importing capital goods
2. There is enough demand in the world economy to absorb Chinese exports 3-4 times present values – probably false, US is on the brink, EU is impaired with unemployment will go protectionist after a while
3. There are enough resources in the world to fuel China’s growth without redistributing the consumption of these resources worldwide – Americans, dread this the most!
There are clearly not enough resources, neither the geogrpahic reserves nor the infrastructure is not present to accomodate doubling of oil consumption – this will lead to redistribution (in the form of inflation), and China will have to choose between losing competitivness via inflation or yuan revaluation
RebelEconomist on 2007-10-24 11:20:31 and guest:
Lack of diversification doesn’t necessarily mean you have too much risk. The improper diversification I’m talking about is that foreign surpluses are overly concentrated in treasuries and agencies. That’s a fact – not an ‘if’ – just read this blog. They’re way too risk averse in terms of any normal benchmark on prudent asset diversification. No other money manager would be allowed to put so much money into one category, even if it’s the lowest risk category. That does the deed in terms of low treasury yields. This then causes the rest of the market to be short low risk assets so they reach for the next best thing, whatever that is, driving risk spreads lower due to excess demand for the next risk category.
To Gabor ,
My initial comment tried to argue for the policy choice. And explain why China should not care too much about the reserve loss and why it has “financed the US unconditionally”. The basic logic is, if Chinese economy goes well for a decade, and the RMB appreciates 50% in the process, the loss is acceptable. On the contrary, if it does not grow as expected, then the RMB will not appreciate that much, and the loss will be insignificant.
I do agree with you that the current way of growth for China needs adjustment. The surplus issue, the resource issue and the environment issue all require adjustment. However, to make things a little simpler, “reserve loss” should not be an issue for major concern.
As for the adjustment for the economic growth, it is one of the few big topics in the recent 17th party congress. The top leadership knows very well things have to be changed. However, adjustment needs time. Again, if money can buy time, the money (reserve loss) is well spent in my view. One the other side of the Pacific, the US also needs to adjust its behaviour. That change will also need time. But for years, I haven’t seen any meaningful policy (energy, environmental, labor, tax, etc) change from either the congress or the administration. Only the Fed is pumping out cheap credit to prolong the good time…
——–
To EthanJ, about “locked yourself into a policy of buying dollar assets” and “holding the bag”
First, I don’t think it is the case. With dollar, a person doesn’t have to buy dollar asset. He can by Australian assets and let some one else to use the dollar to buy dollar assets.
Second and but more importantly, the Chinese has an open scheme and knows the reserve loss may not to be avoidable. Speculators like Jim Rogers also has an open plan to take advantage of it. However, there is the capital control. And other countries may think the “unconditional finance” is a deal too good for the Chinese, then the game has to stop in the next few years. But back to the initial topic, whether the loss turns out to be insignificant or acceptable, the Chinese leadership should not take it as big issue. There are many other important tasks on the list.
———
To AC, thank you for you comment too.
Sometimes, I think the Chinese long term thinking tendency is exaggerated. The central government may think about 10 years down the road. But the lower you go in the level of government , the shorter horizon you will find. For a normal city mayor, 3 years might be the window he can perform. Those “plans” for the next 20 or even 50 years are mostly hope or expectation of the people. Without enough power/resources, a person can hardly predict what will happen in 1 year. On the other hand, those on the top do have some kind of control for the near future. And they should think a little long term.
Gabor: You have 3 implicit assumptions in your argumentation:
2. There is enough demand in the world economy to absorb Chinese exports 3-4 times present values – probably false, US is on the brink, EU is impaired with unemployment will go protectionist after a while
This is a truly interesting point, crucial I would say.. Some sort of adjustment has to take place as China grows larger in the world economy, but i have not read so far a serious analysis on this. Anybody has an opinion here? Brad maybe?
Anonymous on 2007-10-24 14:05:23,
I am afraid you still have not addressed my main point. I am not arguing that central banks are not concentrated in treasuries. However, if spread product narrows when yields are falling, it is getting richer AHEAD of treasuries, which makes it difficult to argue that the driver for narrow spreads emanates from treasuries.
I am sceptical of the argument that central banks are missing a lot by under-investing in spread product. I suspect that this argument originates with the investment bankers who make more money from selling spread product and the agent fund managers, who find that the most reliable way to beat a bond index benchmark is to overweight spread product – if only their central bank clients will let them. Maybe some of those central banks who have invested in, say, ABS are regretting it now.
“I ask, what steps is the US taking to “put its financial house in order”? I am aware of none. Maybe Brad knows of some. If he does, I hope he tells us what they are. ”
We are removing the republican party from power at the federal level, half way there at the moment.
Until then the US federal government has one goal: postpone recession until after November 2008. There is little havoc they will not wreak to achieve it.