From an earlier post, point 4:
?We hate you guys. Once you start issuing $1 trillion-$2 trillion [$1,000bn-$2,000bn] . . .we know the dollar is going to depreciate, so we hate you guys but there is nothing much we can do.? [emphasis mine]
So said Mr. Luo, a director-general at the China Banking Regulatory Commission.? I?ve been saying for a long time that China is stuck, and that we are their problem, and not vice-versa.? There may come a point where they stop buying US Dollar-denominated debt, and let existing debt mature, but that will come after a shift in their own economy where they are no longer driven bythe promotion of their exports.? There aren?t many large good alternatives to US debt for parking the proceeds from exporting aggressively.
So today, we get another volley from China as they realize that they are stuck holding US Dollar denominated assets that they are more certain than ever will depreciate.? They see injustice in having bought too many dollars in exchange for the exports they paid to promote to the US.? Excerpting from the article:
People’s Bank of China Governor Zhou Xiaochuan said he wants to replace the dollar, installed as the reserve currencyWorld War II, with a different standard run by the International Monetary Fund (IMF). after
China, the top holder of US Treasury bonds with 739.6 billion dollars as of January, according to American figures, earlier expressed concern over its investment as the world’s largest economy battles a deep recession.
“The outbreak of the crisis and its spillover to the entire world reflected the inherent vulnerabilities and systemic risks in the existing international monetary system,” Zhou wrote in an essay posted on the bank’s website Monday.
Zhou’s comments come ahead of the G20 summit from April 2 in London, where world leaders and international organisations including the IMF are to discuss reforming the financial system.
He suggested the IMF’s Special Drawing Rights, or SDR, could serve as a super-sovereign reserve currency as it would not be easily influenced by the policies of individual countries.
Russia has also proposed the summit discuss creating a supranational reserve currency. The IMF created the SDR as an international reserve asset in 1969, but it is only used by governments and international institutions.
“The reform should be guided by a grand vision and start with specific deliverables,” Zhou wrote. “It should be a gradual process that yields win-win results for all.”
However, China’s proposal was unlikely to lead anywhere because the SDR is not a currency system backed up by a government, independent Shanghai-based economist Andy Xie said.
Xie said the proposal was probably a protest aimed at Washington’s plan to buy one trillion dollars of its own debt, diluting the value of China’s dollar reserves and raising fears of inflation.
“It’s a sad situation: China is America’s banker. America owes so much to China, but it’s not afraid of China,” he said. “China is America’s hostage. It’s not the other way around.” [emphasis mine]
As the world’s main reserve currency, US dollars account for most governments’ foreign exchange reserves and are used to set international market prices for oil, gold and other currencies.
As the issuer of the reserve currency, the US pays less for products and borrows more easily.
Strategic Drawing Rights are a cute idea, but it would be too small? to support global trade.? Like the Euro, it is a political construct, but one with less dedicated political and economic support.
As I commented in my piece, It is Good to be the World?s Reserve Currency, there’s no good alternative to the US Dollar yet. Like the mercantilists of old, who bought gold dear, and sold it cheaply, so will it be for China — they bought US Dollar claims dear, but will sell them more cheaply.?? This is the price of forced industrialization.
There will come a time when the US Dollar is no longer the world’s reserve currency, but there needs to be a worthy competitor, or a willingness to do without a single clearing unit.? This is an age of computers, so there does not need to be a single dominant unit of exchange, but habits die hard.? It will probably take some disaster to dislodge the US Dollar, and force the changeover.? Whether that comes through inflation, default, partial default, or war remains to be seen.
It seems to me that the view presented above is premised on some odd ideas about the plans and motives of the Chinese govt. They hold dollars and treasuries today, and those assets are relatively strong, but the idea is that China has some kind of a problem because those assets will depreciate in value relative to other assets or commodities sometime in the future. That can only be a problem if they plan to convert/spend/draw down their dollar holdings in the future, but they can’t spend/convert them today. In other words, poor China doesn’t want to spend today because she is saving for early retirement, but she also can’t think of much with a good expected rate of return on investment, and mean old First Bank of Bernanke isn’t cooperating with her craving for saving.
There is a naive alternative explanation about what China is up to that makes a lot more sense to me. It says that the govt. of China has enough money to spend for most of what it wants both now and in the future (note that is very different than having enough money for the standard of living that the Chinese people want, which would give them more time to agitate and demand different govt.), but what it craves more than a high rate of return after inflation is international power and prestige. This naive theory says that the PRC positions themselves to to have influence over U.S. policy and diminish relative U.S. prestige and influence where possible because that in itself is the end they are seeking, and worrying about dollar devaluation is mainly just a prop in that game.
There’s one other thing I forgot to mention: China has conflicting policy goals. They want to keep the dollar strong relative to the Yuan to preserve their investment. They don’t want to invest more in the US because they feel stuffed already. They still want to export to the US, but they still don’t want to take back US goods, so they will continue to to take assets. They don’t want to be so closely linked to the US financial markets, so they want to diversify out of US Dollar assets.
What a muddle. They are aiming at conflicting goals. A lot of things would clear up if they started buying US goods and services.
What I’m trying to say above is that I believe the PRC’s main policy goals are nationalistic, and only contingently mercantile. Of course they have officials charged with managing investments and those officials want to do well at their sub-mission, but if we are trying to explain their overall behavior, we’d do better to focus on what they believe will bring glory, prestige, and influence to China (while keeping current govt. in power) rather than what they believe will boost their coffers. In particular, the idea that they would be afraid to take losses even if it helped their main (nationalistic) policy goals is wrongheaded and potentially dangerous.
A bit OT, but…
After watching FSC hearing yesterday I’m reminded of something which confuses me and has not (or I haven’t found) been adequately explained.
Around Oct last year, we read there was +/- $70t in toxic assets (mostly mortgage CDSs as I understand it) floating around the globe. Given most of it was off the books or unregulated, as I understand that was a best guesstimate.
By mid-December, I read that total was down to around +/- $40t. Ok, I never got clear about what happened to that $30t reduction.
Now a couple weeks ago one of Roubini’s RGE newsletters said it was (from memory) around $4.5t. Then Geithner testified yesterday it was significantly less than that, although he didn’t pinpoint a #.
So my questions:
a) how many $’s of toxic assets are out there?
b) how did we get from $70t to $4.5?
Thanks.
jdmckay — I’m not sure, but you could try Charles Davi at Derivative Dribble, or jck at Alea
Thanks, will do.
Hi David, Many thanks for the insightful commentary on your blog. I was curious for your take on the Fed’s Yellen’s comments today. It seems she is leading us to another pretty big point down the road: the fed printing it’s own debt. I’d like to hear your thoughts on this as well as this comment in particular: “Issuing such debt would reduce the volume of reserves in the financial system and push up the funds rate without shrinking the total size of our balance sheet.” Many thanks, Dave
I generally agree with the views expressed in the post. I think Mr. Stern’s argument that international power and prestige are the primary goal of China’s govmt is flawed in two ways.
First, China’s relentless purchases of U.S. treasuries have not put China in a position “to have influence over U.S. policy and diminish relative U.S. prestige and influence”. If anything the opposite is true, as the author correctly points out above.
Second, the primary goal of China’s ruling party (besides maintaining its grip on power) is maintaining social stability. China must grow rapidly to keep its massive population out of poverty. Export-led growth (with a disproportionately large amount of exports to going to the U.S.) and a stable yuan (i.e. linked to the value of the dollar so that Chinese exports never get too expensive for U.S. consumers) have helped China achieve this goal. But they have also increased China’s dependence on the U.S., both as a consumer of China-made goods and a supplier of U.S. dollar-denominated bonds. Not to mention U.S. FDI in China, another needed source of job-creation and technology transfer.
Dollar purchases by China recycle dollars and keep the conveyor belt moving and also prop up the dollar vis-a-vis the yuan. It’s not about prestige, although it is true that the Chinese govmt would willingly endure some degree of loss in order to save or gain face.