U.S. - China Meeting Outcome: China Has the Upper Hand

Full official summit statements by both President Obama and President Hu JinTao:

Our take on this high-profile US-China meeting in Beijing:

Obama and Hu JinTao only discussed key issues that are not sensitive nor detrimental to China's standings and leadership which clearly show that the global political power is shifting from predominantly US-led to a much more equal US-China combo led leadership as China is gaining significant international political and economic leadership. China is obviously having the upper hand this time as it holds the largest US Treasury Bonds in the world (read: China is the largest creditor to US).

Chinese Yuan is unlikely to be floated freely anytime soon as US would like it to be. The likely outcome is China will decide when and how it will implement more open currency-exchange for Renninbi (Chinese Yuan) starting with floating Renminbi-denominated government bonds in Hong Kong first for few years. Over time, Renminbi could be floated freely on a global basis, however, we believe that scenario will happen only when Chinese government feels floating the Yuan will benefit China more than other major currencies in the world in the long-term with the ultimate goal to make Renminbi to be the leader among all global currencies possibly replacing US Dollar over the long-term. As such, at this moment, in the near term (1-3 years timeframe), China likely will ignore any demands by anyone to float Yuan prematurely.

The US economy depends heavily on domestic consumer spending whereas China's economy depends heavily on export-driven transactions on a global basis. As such, US is focusing on increasing its exports to China and China is focusing on increasing its internal/domestic demand for Chinese-made products and services in order to gradually reduce its dependence on export. We believe this trend will face significant headwind in the short-term (3-5 years) as Chinese people are not yet as prosperous on GDP per capita basis vs. Americans. However, over the long-term (over 5 years), China likely will be able to increase its domestic demand and reduce its reliance on export economy while reducing its US Treasury holdings slowly to ensure it maintains the upper-hand/wild card against any US political and economic pressure. By the same token, over the same period, US will likely be able to increase its exports and achieve more balanced trade deficits/surplus conditions with China. However, the days when US had the upper hand is likely gone forever. The world will likely experience an escalating cold war between US and China in the next 30-50 years.

US acknowledged China's ascendance as a much more visible global economic and political powerhouse and recognized the importance for both countries to mutually respect each other on sovereignty and territorial integrity of China including the one China policy (read: Tibet and Taiwan issues are clearly not on the agenda nor the best interest for US to pressure China this time). In our view, this means US has reluctantly supported China over both Tibet and Taiwan straits issues. US unfortunately has no choice this time to disagree with China politically especially on domestic issues because China now has significant influence on global economic recovery and US economic recovery. The wind has shifted from US to China's hand on Tibet and Taiwan and hence, in our view, we believe Taiwan will likely be integrated as part of China within the next decade if not sooner, just like what happened to Hong Kong and Macao.

Comments

[AndrewBaker]

The US dollar and the Chinese renmimbi/yuan will not be parting company anytime soon. The Chinese still need their currency to be competitive with the US dollar in order to drive their own economy. The peg means that trade with the US does not get much affected as the dollar changes in value relative to other currencies, and as the trend is a drift downwards generally, the renmimbi gets more competitive against other currencies. Heads the Chinese win, and tails they do to.

2009 Nov 18 06:12 AM

[TraderRob]

All nods here...

China is communist, therefore their government centrally plans the economy. China is meeting the lofty goals of 8% GDP growth, set by government leaders. Whether china just got lucky or sees something the U.S. does not, it's hard to argue with the effectiveness of their stimulus package, and they aren't going to change their strategy until they see growth that is well above "potential growth" for their economy.

The troubling thing is that potential growth is not defined by markets, but instead Sino-financial policy which may peg potential growth somewhere near per-recession levels. Only when GDP passes these unrealistic thresholds will we see stimulus removed, including the pegged Renminbi to the Dollar.

2009 Nov 18 07:40 AM

[marduk]

"However, the days when US had the upper hand is likely gone forever. The world will likely experience an escalating cold war between US and China in the next 30-50 years."

How does this proceed with China lending so much money to fund the US deficits? If you honestly believe this is a credible development then reducing the deficit to zero should be a national security priority.

2009 Nov 18 07:56 AM

[marduk]

To me the Chinese peg is a bit like a tree falling across a river causing a dam to form. As the water rises some villages upstream start to see water levels rise, and government then steps in and tells them they are not drinking enough to keep the level low. The Government then sets up committees to monitor and regulate the situation… but in the end all they are doing is wasting their money on futile measures instead of dealing with the problem. What would happen today if the Chinese peg were to be removed? China’s currency would appreciate which would support local deflation on imported items and hence China would naturally migrate to being more of a consumer of global goods than a supplier… this would be good… however, on the flipside the higher currency value would wreck some havoc with local manufacturing as foreign demand drops… but this is not such a bad thing either as manufacturing jobs would move back from whence they came… China's manufacturing job losses would be replaced by the new jobs created in the bulging service sector stimulated by higher local consumption of foreign goods. Global shipping rates would normalize without the specter of ‘a bubble’ or ‘manipulation’ hanging over it. Because China would no longer be exporting deflation in consumer goods, inflation levels in the US would rise but then manufacturing jobs would be returning to help balance the economic effect. Interest rates could then be harmlessly raised so that savers and pensioners can earn a reasonable return over the risk-free rate… Failing a break in the peg all we end up with is a bigger and much more interfering government, and all the problems associated with it.
I honestly can not understand why there is even a discussion on this subject at all… but then again I couldn’t see how OJ got off, or how Microsoft was not deemed to be a monopoly and forced to split their OS development from their Software one…

2009 Nov 18 08:04 AM

[Ben Gee]

I guess Mr. Obama had to bring up the Dalai Lama to score some political points for his home audience. But that was a huge mistake, now dealindg with China will be much more difficult, he just lose the Chinese audience. However, if Mr. Obama starts to talk to Bin Laden, then, the Chinese may see his point. Until then, he will have trouble getting the Chinese to listen to him.
Will China's economy collapse if the US stopped importing its goods?
Some goods China exported to the US have as little as 20% Chinese content. It will hurt the suppliers like Japan, S Korea, or Taiwan as much as China itself if not more. When Chinese exports dropped by 20%, Chinese imports dropped by 17%. But the Chinese economy continue to grow by 8%. Chinese dependence on exports is overrated. Further more, as much as 65% of Chinese exports to the US are from US companies operating in China. And a big part of US retail business make their living selling Chinese products. Can the US stop buying Chinese goods? Maybe not.

2009 Nov 18 08:17 AM

[MarketGuy]

What has my attention the most is the frantic buying, hoarding and stockpiling of precious metals and commodities by the Chinese. For a country that holds a huge amount of US debt, this appears to be a hedge posturing policy to me. A glance at the internal policies of China provide clues as well. A perfect example is the wide spread and huge campaign by the Chinese government telling it's citizens to "buy gold and hold it". So, what happens if China throws in the towel with all those US Treasuries? Talk about a large scale economic coup d' etat.

2009 Nov 18 08:31 AM

[David in England]

Interesting comment from Ben Gee.
An implication is that if it is not US which buys Chinese export goods then it must be Euro and other countries. With the decline in the USD vs EUR, Chinese exports will be more competitive and they will start to build up big holdings of EUR as well as of USD.
Not sure that's a good idea from our perspective. Maybe reduction in deficits should be an important priority.

2009 Nov 18 08:38 AM