China's Three No's to the U.S.: Is Washington Listening? 15 comments
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China’s leadership likes to communicate by brief but loaded signals, both to its own population and beyond. They are less inclined – have less need - to posture than politicians in the West. That is, they mean what they signal.
Whilst China is reliant on the U.S. as its biggest market and for the investments it has made there, the U.S. is reliant on China for ongoing cheap credit and goods. Given this inter-dependency, what is China signalling about its intent amidst current market turmoil?
The signals are clear but don’t seem to have been well picked up by the media. I suggest that there are three loud “No”s to be found in what China has been saying on the international stage, as well as some quieter “Yes”s.
The first “No”
Back in May 2008 the London Financial Times reported a “senior Chinese official” as saying “the western consensus on the relation between the market and the government should be reviewed. In practice, they tend to overestimate the power of the market and overlook the regulatory role of the government.” Then in November at the G20 conference, Chinese Premier Wen called for an expansion of the “scope of the regulation of the international financial system”. The Chinese spoke of a new financial system that is “fair, just, inclusive and orderly.”
New world orders, particularly of the bureaucratic type, tend to take a little time to arrange, so it might sound like that is one issue to put on the back burner, whilst the real and urgent business is done. Heck, why not keep the Chinese busy by setting up an international committee of enquiry informed by some high level studies by a panel of top economists to ensure that its findings are both incomprehensible and split.
But there is a serious and urgent signal from Beijing.
In 2005 a bilateral Strategic Economic Dialogue (SED) between China and the U.S. was set up. Reportedly, Beijing has put a lot of effort into this and sees the SED as the primary channel for dealing with pressing economic issues. It is the mechanism for dialogue between the G2 on strategic issues, including those of worldwide importance.
What all this boils down to is that China expects to be involved in the big decisions. The message is:
No more U.S. hegemony in the financial world
Lacking a suitable multi-national mechanism (memo from China: “don’t blame us – we’ve been calling for one”), the G2 will do fine instead.
The second “No”
On February 2, the Chinese Premier Wen Jiaboa made some interesting remarks at a press conference with Gordon Brown, the British Prime Minister. These were not well picked up across the Atlantic but are worth attending to. Asked the cause of the crisis, Wen didn't name the U.S. economy, but said "The main cause (is)...some economies...have imbalances in their economic structure … For a long period of time they have had dual deficits - trade deficits and fiscal deficits and they have been overspending by borrowing."
The U.S. has long run a trade deficit with China. The U.S. fiscal deficit by the government is more recent. It stems from the Bush years and is about to get much worse due to the various bail-out and stimulus packages. The Chinese can scarcely object to the trade deficit – they have funded it for years. So, the message is: don’t rely on us to buy your extra bond issues caused by your economic mismanagement.
So, the second Chinese “No”:
No extra U.S. bond purchases by China above the normal level
The third “No”
According to the most recent reports on Bloomberg, Chinese Premier Wen says his government’s focus is on safeguarding the value of China’s $1.95 trillion foreign reserves. Chinese officials speak of seeking “guarantees” that their holdings of U.S. government debt won’t be eroded by “reckless policies”. Reportedly, China will voice its concerns over U.S. government finances and the potential for a weaker dollar when Secretary of State Hillary Clinton visits China on Feb. 20. The idea has been floated that a guarantee might be “one of the prerequisites for more (bond) purchases”.
What’s going on here? The Chinese know full well that “guarantees” in the normal sense of the word can’t be given. What they are communicating is more than a bit of anxiety. It is the third “No”:
No policies that could lead to sharp depreciation of the U.S. $
The danger here is of loose monetary policy pushing inflation sharply higher or other measures undermining confidence in the U.S. $. Debt could be inflated away. I’ve commented before on the dangers for China here. Exaggerating just a bit I said “Imagine, U.S. to China in 2015: “Here’s the trillion we owe you. Buy yourself a beer with it.”
China has a lot at stake in the relationship and behind the three “No”s are three “Yes's":
Yes, let’s talk – provided it's meaningful.
Yes, we’ll keep buying bonds but only at around previous levels and provided that you give some serious undertakings about being prudent.
Yes, we understand you’ve got to take action but don’t try to inflate your way out of debt.
In short:
You’ve been bad but let’s still do business. Here’s our terms.
The U.S. response and where this is going
We don’t know what, if any, dialogue there has been in high level bi-laterals between China and the U.S. lately. We don’t know what briefing Hillary and her officials carry with them to Beijing. We do know that Treasury Secretary Geithner – quoting President Obama in aid – effectively threatened China. He accused China on Jan. 22 of “manipulating” their currency, the yuan, to give an unfair advantage to its exporters and suggested U.S. action might eventuate.
Geithner’s message appears contradictory because he also spoke of Obama’s concern for a “strong” U.S. $. So, that’s a “strong” $ except for, err, the Chinese Yuan. In fact, this does make sense. The strong dollar remark is perhaps signaling:
Yes, the U.S. government will act to avoid hyper inflation or sharp depreciation of the dollar.
The currency manipulation remark is saying to the Chinese:
You can do your bit too.
However, the U.S. position is murky and the only recognition publicly offered so far by the new administration to China has been negative.
Broadly, this leaves us three future scenarios.
First, current U.S. policy works pretty well, China and the U.S. reach some sort of agreement, inflation and the U.S. dollar remain within target bands, and everybody is left fairly happy. Life goes on.
Second, current U.S. policy doesn’t work well. A deepening or prolonged downturn leads to more and more action by the government and Fed, and thus more and more U.S. debt and possibly a lurch into high inflation. China abandons the bi-lateral relationship and takes the massive hit from the consequent collapse of the U.S. economy.
Third, current U.S. policy doesn’t work well but Washington broadly agrees with Beijing’s views on the way forward (or, is that, follows Beijing’s instructions) and Bernanke is encouraged to stay away from his printing presses. The U.S. depression is lengthy as the U.S. rebuilds from the debt binge. China becomes the dominant partner in the U.S. - China relationship.
“For the borrower is servant to the lender” (Proverbs 22, verse 7).
Stock position: None.
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This article has 15 comments:
But we knew all this for a while, how come all the noise now?
The US treasuries returned a huge 15% or something like that last year, and chinese are concerned about investing new money at even lower yields than before. Rightly so, because next year economy will recover, inflation will reignite and they might give up all their gains and some.
Hey... but this is a problem only for the chinese not for the US administraion, they are trapped, and the US side has no incentive whatsoever to take into account their "views" on this.
1. If a Chinese engineer has to work 3 years to afford the same car an American engineer can earn in 6 months- don't you think something may need to change?
2. How many trillions of what kind of assets would the Fed need to purchase to make even a 20% change in exchange rates (assuming transparency and commitment to work together give the Chinese some confidence this would not be an ongoing program)?
3. If the Chinese were to be given $1 Trillion (what is that, less than half their holdings), would it be so bad if they could purchase assets at the prices they were a year ago before they started to deflate like mad?
In case you haven't noticed, the Chinese could buy way, way more of our auto industry, our financial industry, and our real estate than they could a couple years ago. Their problem is that they just want to sit on the money and watch it increase in earning power as they do nothing (except depress their peoples' standard of living). Why would we want to go along with that?
It should be noted that the Chinese, far from sitting on their money, have been putting it to use around the world including in the US. They have suffered large losses on their American investments. This, coupled with the fiscally profligate policy we are pursuing is making them increasingly nervous about the safety of the purchasing power of their US holdings.
There is also a recognition emerging from China and the rest of Asia that the export model is dead. That their own countries need to step up their consumption and achieve a better balanced economy. That is easier for them to do as net exporters than it is for us to do as net importers - but the US needs to balance its economy as well.
Feb 12, 2009 9:53 am
Only possible 'conventional' solution: another asset bubble supported by another Greenspan-like Houdini. Any suggestions? I think it's clear: education. Look for massive student loan defaults, from the current stimulus package, down the line as there will be no jobs for these 'kids' who are spoon-fed something (knowledge) that they'd rather exchange for online gaming. They on the computer, yes, but they're looking at facebook.
One very serious, if somewhat remote, possibility: China insulates itself from the contagion that is the US/UK financial system. A new great wall against the barbarians. Increase trade with responsible countries (Japan, Germany), wall off imports from hostile nations with weak currencies (US). For China's capital goods importers, buy Sumitomo and Siemens in preference to GE. Greatly reduce exports to the US (ie export to Mexico en route to the US. For China's airlines, more Airbus, less Boeing. etc, etc. Then the bubbleheaded Americans will be happy that China isn't taking 'advantage' of them.
Absolutely no more money-losing purchases of fake US/UK/European financial insittutions. More resource, asset and technology purchases (RTZ). Hedge USD risks by going short, and support all efforts to build a new reserve currency/basket of currencies.
The above is inevitable over the medium-term. Those nitwits who ask for a revaluation of the yuan seldom seem to realize that that gives China greater purchasing power for US assets and resources. Sad day for Americans without trust funds. Happy day for global realignment of economic power.
On Feb 12 10:54 AM Vee wrote:
> USA Just needs to end the trading with china. their junk is no good.
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> Feb 12, 2009 9:53 am
I still want to know what China is going to do with its steel production. They produce half of the steel in the world and consume most of it. China's rust belt will be a zone of incredible suffering 20 years from now.
As for desire to manage US Dollar (and that's really what China wants), Chinese communists are not alone. Russian premier Putin also wants it.
You save everything you can, and that is what the Chinese have done.
This is reason the Chinese save so much, and they need to. Investing in their country is a good idea, and they have to a large extent, but their population is going to age faster than that of the Japanese. Little known fact is that the Chinese labor force probably peaked in 2008, future growth depends on better utilization of the masses of migrant and under-employed workers. If the Chinese fertility rate stays at 1.22 (2.1 is the replacement rate), the Chinese population will hit it's peak around 2040 and go down from there.
It seems conspiracy theory-ish but is my take looking at a decisive patient people that don't think very much of us rich lazy slobs.
On Feb 12 09:41 AM Dirk McCoy wrote:
> Excellent article outlining the relationship. But I have a few questions:
>
>
> 1. If a Chinese engineer has to work 3 years to afford the same car
> an American engineer can earn in 6 months- don't you think something
> may need to change?
>
> 2. How many trillions of what kind of assets would the Fed need to
> purchase to make even a 20% change in exchange rates (assuming transparency
> and commitment to work together give the Chinese some confidence
> this would not be an ongoing program)?
>
> 3. If the Chinese were to be given $1 Trillion (what is that, less
> than half their holdings), would it be so bad if they could purchase
> assets at the prices they were a year ago before they started to
> deflate like mad?
>
> In case you haven't noticed, the Chinese could buy way, way more
> of our auto industry, our financial industry, and our real estate
> than they could a couple years ago. Their problem is that they just
> want to sit on the money and watch it increase in earning power as
> they do nothing (except depress their peoples' standard of living).
> Why would we want to go along with that?
The only reason why the USA is allowing China to use predatory trading activities of this description is because of the fear of a military reaction from China at this time that the USA is very weak. It is certainly not for any financial reason. The USA also hopes to forge a relationship with China and move them away from their SCO obligations.
You see the USA can shift its trade deifict to Japan/Malaysia/Vietnam... quite easily.
There are lots of partners that would like to set up a bilateral trade deal with the USA whereby the USA buys their goods and they then recycle the money back through purchasing treasuries.
Where as as things stand the Chinese do not have any economic infrastructure except their export model which is useless if there is any sort of trade protectionsim. And lets not forget the USA and Europe would forge whatever type of relationshiop necessary if it come to it. Which means China would have trade friction with its two largest trading partners if it become necessary to sedate China.
Further to this, everyone talks about a USD crash.
Impossible...do you honestly think that the USA can not absorb China dumping its holdings. They would happily buy them up at severly depressed prices before taking the USD up. How many countries in the world would come to the USA aid in a trade/currency/financi... war with China.
Whoever thinks China has the upper hand does not actually understand the rules of the game. This financial crisis jutt goes to show how through financial engineering and managing the financial system the USA is able to bring everyone to their knees while they simply have to print more money.
The Chinese are certainly number 2 and congratulations to them.
They have played with great skill. But the USA is number 1 and will be so for the rest of my life at least.
Buy China
Buy USA
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Sell the rest of the world.
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Unlike the Japanese, who does often skirt round the 'No' and prefer to defer the reply of a 'Yes', the Chinese have asserted emphatically, the Wall Street model and the folly of consuming on bottomless credit, is no longer sustainable.
Let me put another 'spanner' into the works. Where is the growth going to come from in the next 2 decades ?Who has that capacity to fund these centers of growth ? If Wall Street and Main Street is subsumed with US government debt, could they possibly pulled themselves out of the 'deep shit-pit' ?
The SWF, have learned , in the last quarter, and painfully so, there is no good reason to emulate Wall Street's less than transparent dealings. Smart money will always look for safer bets, albeit a slower and more modest return. The Chinese, decides to set up the Shanghai Street as a major financial hub, alternate to Wall Street. Guess what - suddenly, the Yuan, is hot currency and appreciates - that's what the US has been desiring all along! Question is, how much Yuan can the US buy to have meaningful trade going ? China, by then is almost self sufficient in hi-technology and imports shoes from Vietnam, Laos, Cambodia.
As for the Wall Street bankers - well, they are welcome, provided, they understand, that felons are given summary judgment and shot in public with a bullet into the head - highly efficient.
"China does not export revolution, hunger, poverty, nor does China cause you any headaches," Xi said indignantly. “Just what else do you want?” (Here is one of the few websites that still have video of Xi's speech; other mainland sites have taken down the footage.)
china.blogs.time.com/2.../