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The World's Biggest Game of Chicken

The biggest game of Chicken in history is being played out right before our eyes, but we're so close to it we barely notice.

Of course, I'm referring to China vs. The Fed / US Government.

The Fed is desperately trying to generate inflation and a resulting falling Dollar to avoid the debt-deflation which would otherwise be gripping us.  China, on the other hand, wants to maintain their artificially low Yuan, pegged to the Dollar, so they can maintain their parasitic death grip on our economy.  They can only do this by buying more Dollars, trying to force the dollar up.  They need to do this covertly, of course -- so they can maintain their public threat of pulling out of the Dollar to oppose our "loose" monetary policy.

Did I say "parasitic death grip?".   Isn't China giving us lots of cheap goods and increasing our corporations' profit margins?  Yes.  Those are minor side effects, but if you look at what's really happening at the core,  they are stealing (yes "stealing", hence parasitic!) our life-blood, which is the wage-earning capacity of our workers.

"That's Crazy!" you say?  Just look at the facts!  We know they keep their Yuan artificially low, by pegging it to the dollar at a ridiculous exchange rate.  Why would they do that?  Wouldn't their wealth be greater if they let their Yuan appreciate?  They could buy more with it.  True, but China, because of their political structure -- benevolent dictatorship, have the liberty of favoring livelihood over wealth.  "Come again?"  It's more important to the Chinese government to have increased productive employment than increasing the wealth of their rich.  Unfortunately, it's very difficult in our political system to do the same, because to do so would be political suicide.  The result, while overall wealth may increase for the US, our middle class is being decimated.  To consider a job flipping burgers for minimum wage equivalent to manufacturing high-tech electronics and auto parts is absurd.  China knows that the path to overall prosperity is a vibrant middle class.  This makes the wealth of the rich also grow, but they must loosen their grip on the wealth that they have (by letting their currency fall) in order to gain greater future wealth.

Okay.  Now you KNOW I'm crazy!  I don't consider myself a xenophobe, or a socialist.  I'm just coming to the only conclusion possible when looking at the facts.

What does it mean from an investment perspective?  Well, it depends who wins. 

If China succeeds in holding the Yuan down, then we will sink further and further into debt deflation, and China will rise to super-power status.  Put all your money in Asian companies.

If the US succeeds in bringing the dollar lower versus the Yuan, we will see Asset Inflation -- rising commodities and stock prices, followed by CPI inflation in China, a repeatedly revalued Yuan, stabilization of US nominal real-estate prices, decreased unemployment, repatriation of manufacturing jobs, and ultimately, CPI inflation in the US.  This will most likely over-shoot, but we will see it as boom times.

My bets are on the US, because there are no limits on the Fed's ability to inflate, other than political will, while China's vast sovereign wealth still has limits.  We are blessed to have a lot of forests in America, so we won't run out of paper anytime soon.

Once we get the Chinese monkey off our backs, and the Yuan floats freely, we'll have to deal with the inflation caused by this giant game of Chicken, but that's a much easier problem to deal with than the current one.

Disclosures:  No Positions