Posted on 10/18/2008 5:42:54 AM PDT by MyTwoCopperCoins
The recent bailout package being approved in the US Congress needs to be viewed in the context of the spurt in the accumulation of forex reserves of China by about $500 billion in the last six months to about $2 trillion in aggregate.
This gargantuan build-up of forex reserves by China has strangely received very little attention of economists, policy analysts, currency traders and, of course, geo-strategists around the world.
Why is China engaged in this exercise? What could be its implications on the on going global financial crisis? Could China trip the bailout package announced by the US last week? Crucially what are the implications for the existing global order?
What is intriguing in the Chinese forex reserve build-up is that both trade surplus and foreign direct investment account only for a part of this gargantuan pile. After adjusting for all known sources of reserve accretion, experts conclude that approximately an excess of $200 billion could have flown into China as 'hot money' -- read inexplicable flow of funds -- in this period.
The Economist -- in one of its issue in recent months -- quotes Michael Pettis, an economist working in China, who explains how and why hot money flows into China. According to Pettis, hot money comes into China when companies overstate FDI and over-invoice exports.
But where is such money getting parked in China? The Chinese stock market, like many of its counter parts across the globe, continues to plunge. Hence, it may not be an attractive destination for hot money. Some experts suggest that it could have gone into property while the predominant view is that it could simply be the Chinese banks that offer interest rates in excess of 4 per cent on yuan deposits compared with a lower rate on dollars.
How a 2 per cent interest rate differential results in such cross-border flow of capital requires some explanation. What makes the dollar-yuan exchange rates central to any discussion on global finance is the fact that trade between the United States and China has burgeoned in the past decade or so. But this is not a two-way trade as would be commonly believed. Most of this is unilateral -- i.e. exports from China to the US.
In fact, this is the fundamental reason for the burgeoning current account surplus that in turn translates into China's forex reserves. In the process, over the years, the US has become extremely dependent on China not only for supplying cheap goods but also for the Chinese to fund such imports by parking their forex surplus within the US.
This twin-dependency on the Chinese for goods and money to finance its deficits has always engaged the attention of the US policy framers who till recently were not at all comfortable with this arrangement. And now added to this is the latest aggressive build-up of forex reserves by China surely has the Americans in a bind.
The economics behind the Chinese yuan
Economists in the US till recently believed that a weak yuan implicitly subsidises the Chinese exports leading to such huge trade imbalances between the two countries. Consequently, they have been pointing out to the imperative need for a substantial appreciation of the yuan by a minimum of 20-25 per cent vis-a-vis the US dollar to remedy the situation. In the alternative they have suggested a countervailing duty of a similar scale on imports from China.
Further, economists are of the opinion that by constant intervention in the forex market not only does the Chinese Central Bank ensure a weak yuan it also causes competitive devaluation of various currencies in Asia.
The net consequence is a domino effect with the result that the US dollar is artificially valued at higher-level vis-a-vis most Asian currencies. Experts believe that a significant yuan revaluation will ensure a more realistic exchange rate mechanism in Asia as it could force other countries to follow suit.
It is in this connection that C Fred Bergsten of the Peterson Institute, in a testimony before the hearing on the Treasury Department's Report to Congress on International Economic and Exchange Rate Policy in early 2007, states: "By keeping its own currency undervalued, China has also deterred a number of other Asian countries from letting their currencies rise very much against the for fear of losing competitive position against China."
Naturally, in anticipation of a significant revaluation of the yuan, most experts believe given the uncertainty associated with the global financial markets that hot money is flowing to a relatively safe destination. After all, China not only offers higher return but also is virtually insured against any downward movement against the US dollar.
In effect, is this hot money flowing into China in anticipation of this revaluation of the yuan? Or is it a simple case of China maintaining trade competitiveness through a weak yuan? Or is there something more to it than meets the eye? Are the Chinese acquiring the dollars with some sinister motive? In effect, has the Chinese strategy of a weak currency over the years the un-stated policy of dynamiting the American economy?
Mutually Assured Destruction (MAD)
What is worrying the Americans is that China accounts for about one-fourth of the global forex surpluses and are the counterparts of the US current account deficit. Put simply, while China accumulates forex reserves, the US accumulates a corresponding debt. And the Americans are aware that it is the Chinese are the biggest accumulators of the US treasury bonds.
What is indeed intriguing is that a country -- the US -- that prides on being 'independent' of other countries, especially in security affairs, is now caught in a quagmire as it has to be constantly in the good books of the Chinese government if it wants to avoid a sudden shock.
Countries that hold large US dollar denominated forex reserves have a powerful tool in their arsenal -- they could wreck American financial markets at a mere click of a mouse by selling their dollar holdings. Imagine China with a holding nearly $2 trillion worth of treasury bonds seceding to sell the same overnight.
And that could instantaneously dynamite the global financial system as it could suck out liquidity and cause interest rates to shoot through the roof. Remember, the $700 billion package announced last week by the US is precisely aimed at addressing the liquidity crunch within the US.
China, of course, might have no sinister intent, as this would be at a huge cost. But the Chinese know that no country can ever become a global superpower without a cost. As and when the Chinese decide to take a hit on their dollar holdings, global finance could indeed take a roller coaster ride.
Obviously, the Americans' borrowing from China and the Chinese supply of money to the US is indeed an intriguing geo-political game. Surely, this cannot be simple economics by any stretch of imagination.
Given this paradigm, till date experts opine that both are locked in a tight bear hug. According to Lawrence Summers, 'It is a new form of mutually assured destruction that has quietly emerged over the last few years. This implies that China needs the US (for its exports and to park its forex reserves) as much as the US needs China (for imports and borrowings).
So have the Americans played into the hands of Chinese?
Recent events in the US have turned this 'MAD paradigm' upside down. It is in this context that the recent bailout package needs to be viewed, which seeks to increase liquidity over a period of time by the US government taking over sub-prime assets from financial institutions. That, according to the American thinking, is expected to provide liquidity to the US economy.
But it is all these happenings within the US that makes this accumulation of forex reserves by China extremely interesting. It may be noted that the Chinese, unlike the others, have always questioned the global order with the US at the helm of affairs. And the Chinese accumulation of forex reserves is surely a strategy that perhaps has an ominous side to it.
All this is not pure economics as it is made out to be. Rather, it was and remains a well-planned economic, political and military strategy of the Chinese. And in a way it is the mirror image of the Star Wars programme that the then US President Reagan unleashed on the erstwhile USSR in the early eighties that eventually bankrupted the later within a few years as it engaged in competitive arms build-up with the former.
Statecraft is all about engaging other countries at one's own terms, pace, time and cost. This is what the US did to the USSR in the eighties and succeeded in dynamiting that country. And that is what China could do to a vulnerable US in the coming months. Crucially, if it doesn't, from the Chinese perspective it might well rue this moment forever.
The US till date was depending on the Chinese for imports and to finance them as well for such imports. Now they will have to be considerably dependent on the Chinese to protect their currency as well as to ensure liquidity in their money markets. And that completely alters the existing global order.
1 Chinese yuan = Rs 6.9160 1 US dollar = yuan 6.8527
The author is a Chennai-based chartered accountant. He can be contacted at mrv1000@rediffmail.com.
There was only one GOP candidate who spoke of this, and we should could use him now. It’s such a shame that people in this country vote on “who’s like me” rather than “who is best for this country.” God bless us.
We don’t need the Chinese to wreck the country. We have the Democrats and RINO’s for that. They have done more damage to this country than any outside force ever could. We are rotting from the inside.
There are all kinds of conspiracy theories about how China could ‘destroy the US economy’ with currency trading or ‘dumping Treasury notes’ but all these idea ignore a couple of basic downsides.
A US collapse means that Chinese goods don’t get shipped and purchased here. A trade war ensues and Chinas own economy collapses while they are creating hundreds of millions of people somewhere around the middle class.
Also, China puts their money in the US because the US is still the most stable place on the planet. We are the only government who has never defaulted. And since the Chinese currency is essentially pegged to the US$, they don’t lose money. China is also big into the Euro but there is no history on the Euro to know what happens when disasters occur.
America is a safe haven for friends and foes alike. More surprisingly is that China hasn’t been putting their huge cash reserves into more companies and real estate assets here in the US like the Japanese did in the 1980s when they were flush with Yen and we were coming out of a terrible recession (much worse than this one).
Plus, China would like to be a buyer of US oil if we can start producing. Or they would like to be able to step in and buy more oil from Canada and Mexico which are far closer to them than the Arab Gulf (less shipping, less cost).
But more importantly, when somebody owes you money (when you own their debt instruments like T-bills) they are dependent upon you succeed so that you can pay them back. They don’t want you to fail or they lose their money. It’s a no brainer. There is no tactical advantage to losing billions of dollars by the Chinese just to try to hurt us. And the US would really benefit from being able to have an external enemy in this financial crisis instead of a domestic one like Dodd, Frank & Raines.
ping
Nothing "intriguing" about it. Several of us on this site have been warning of this for years. Several have been booted off for expressing that very concern.
Is there a translation in english for this article...
what the heck is forex?....condoms???
Forex = Foreign Exchange.
Definitions of Forex on the Web:
Simultaneously buying one currency and selling another.
www.forextradings.com/Forex-Trading-Education/forex-trading-glossary.htm
Foreign Exchange.
forexsb.com/library/glossary/f.html
Term commonly used when referring to the foreign exchange market.
www.foreigncurrencies.com/resources/glossary.php
It won't be long until the Chinese don't need us as a market.
Maybe that point has already arrived.
Now, depending on the outcome, one might surmise that the people 'shaking their heads' will either be Democrats (wondering if they should HAVE gone with Hillary) or Republicans (wondering if they should NOT have gone with McCain), but personally I believe it is a moot point. The reason is that the country is current facing a situation where it has to choose between a side-winder and a timber rattlesnake! Both a vipers, but one (the latter, i.e. Obama) just happens to be a larger, more aggressive threat with greater potency venom. However, both of them are cut from similar scaled-cloth. Right now we need to elect McCain ....for the simple person that having a Dem president, House and Senate would be ....well ....anathema to everything Conservatives stand for! There is no room for debate on who needs to be voted for come November.
However, heads WILL shake nonetheless, and in all parties. Even ours. Even if McCain does win, because he is as Liberal as any Democrat one millimeter right from Obama. (Actually an interesting exercise would be to compare current Republicans with Democrats from the 70s and before ....the then Democrats, were they here today, would be FAR RIGHT compared to the current Republicans. People talk about RINOs, when the fact is that there is not such thing anymore. RINOs became so many that they are now the majority, both in terms of elected officials as well as the Republican voting majority. The proper name should be CINOs, conservatives in name only, because the Republican party stopped being conservative a while ago. Someone like George W Bush, based on actual policies, spending and a large number of decisions, is actually to the left of Clinton when viewed from a non-biased perspective! A country like N.Korea even got a better deal from him.)
Anyways, we need to win this election. However, if we manage to get McCain in then people need to be strategic. In the mid-terms, ensure that in every election you guys have a conservative running, and then vote for him/her. Start advocacy movements that try to make the politicians realize that there will be no tolerance for CINOs. This election must mark the last point where people compromise ....where people vote for a 'lesser evil' (the lesser of two evils is still evil).
Which brings me back to my side-winder vs Timber Rattler analogy. Sure, we 'have no choice' this time ....again! However, this has to be the last time people use that excuse.
The reason is, if you do not, the progressive shunt from right to left will continue, and before you know it the Republican party will just be another branch of the Democrat party (which it is ....think of the spending run amok, greater spending than that of any Democrat president, economic capacity shift abroad, bailouts, oh ...a good one ...amnesty for illegals). That is what happens when people are complacent ....before you know it, your party becomes a 'Bud Light' version of the other party, and Bud Light SUCKS!
After the elections, we need to ensure that true Conservatism comes back. If it does not, then look over to Britain to see what will happen to you (continuous decay ....even their soldiers get kidnapped by Iranians in inflatables, and they are thinking of voting away their Trident nuclear submarines). Great countries fall all the time, and the only way a great country can fall is due to decay from within. Not because of attacks from Al Queda, or because of Manchurian candidates (they need a willing populace to take over), but due to rot from within. The Republican party is rotting, and while there is no real choice this time (sitting at home, or voting for a 3rd party candidate, is a vote for Obama), after the elections people need to seriously take over the party. Reagan is not some messiah who will miraculously come alive and lead us to the promised land, he was a man who simply knew what was great for the country and stood up to be counted when the time required it. Every single person has that potential ...when Lech Wallesa stood up in Poland during the times of Soviet oppression, he was simply a 'normal' man. Goodness, Reagan was a two-bit actor before he Stood Up and went on the political trail, and he failed many times before he became Governor, and it was not smooth sailing before he became President. However, he did ....and it was good.
It is your decision ...not mine even. I am good, I am not even an American, and thus my 'vote' doesn't count (I don't even have one, although maybe I should contact Acorn and see what they can do for me. The fact that my country of birth is Kenya should probably accelerate the processing of my 'voter's card').
This is it ...this election is either the beginning of the end of America (NO MATTER WHO WINS ...ONE CANDIDATE MEANS IMMEDIATE GEHENNA, THE OTHER MEANS A MORE DRAWN-OUT PROCESS), or it is the beginning of the re-awakening of the Republican party. Some of you are going out to buy guns ...that is ok (guns are cool, LOL). However, if the Government turns 'dark,' those guns will not be much help. A sustained resistance against a Government military in a locus like the US, where many people live in sub-urbs and need constant food/gas/water supplies from outside, and cannot fend for themselves more than 10 miles from the nearest WalMart, is an exercise in futility. Buy the guns if you so desire, but know the only way to change things is by ensuring that you vote for true conservatives during the mid-terms, and that you stop going for luke-warm.
I wonder what the Bible says about Luke Warm ...something about being spat out of the mouth of God if I remember correctly.
We need an edit function.
Sounds good to me.
We see the price of oil rising from about $75/bbl a year ago, to $145 over the summer, and then back down. Coincidentally, the US economy started experiencing trouble shortly after oil peaked. The US imports about 22M bbls/day. The price rise to $145 caused us to be hemorrhaging $97B per month out of our economy to pay for oil, and in my opinion may have been the trigger for our current issues -- right in time for it to be most advantageous for the election of Obama
Don’t be positing common sense, it confuses conspirator’s.
Strange no one is raising much concern like they did during the Chinagate illegal donations to Clinton years ago. Too politically incorrect -- don't want to upset our loan holders. Therefore all leadership has been neutered. You did notice the absence of leadership, right?
Little circumspection this time.
Remember the phrase CONNECT THE DOTS?
Forex is a pretty commonly used term along with things like the Footsie (FTSE), Caceron, DAX, NASDAQ, NYSE, S&P, Hang Seng, SSX, S&P ASX, Sensex, Nifty, CDOs,Repo,Reverse Repo, F&O etc.
sorry. not in my universe.
several congressmen interviewed during “bail out” discussions alluded to Chinese role in the urgency of the recent crisis
No one came out and explained it
thanks for this artcle
imho, this crisis accelerated so sharply and quickly as an act of war by a foreign interest, and the US government has not and is not being honest with we the people
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