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Goldman on the Yuan - What Do They Know?
In my yearend projections for 2010 I said (among other things) the following:
-China will surprise us all and revalue the Yuan by 10%. The currency will still be undervalued.
On Monday morning Bloomberg has a story out quoting Goldman’s Chief European Economist as saying:
Feb. 15 (Bloomberg) -- Goldman Sachs Group Inc. Chief Economist
Jim O’Neilll said China may be poised to let its currency strengthen as
much as 5 percent to slow the world’s fastest growing major economy.
I doubt that Mr. O’Neill is making a guess here. I think he may have some real insight on this. When he says this, I listen:
“I have a strong opinion that they’re close to moving the exchange rate,”
Say this story is true and in the not too distant future China will
adjust its currency against the dollar by a reasonably significant
amount. Assume that they move by 5%. What might this mean in the scheme
of things? What are the market implications, if any? Just some thoughts.
-If China does do something significant, it is another sign that should
not be avoided. Something is up with China. They are changing
direction. A currency move this week followed by the monetary moves
last week is a clear indication that things have heated up, and they
don’t like it. The two steps (assumes currency reval.) would prove that
Chanos etal. were right all along. There is a bubble.
-If you were China Inc. and you owned the IOU’s behind a monster amount
of empty buildings (and cities) the last thing you would do is to
strengthen your currency and tighten monetary policy. But if the
arguments in favor of reversing stimulus outweigh the consequences of
extending fast money policies then it is not hard to predict that those
empty buildings will remain so for a while to come. There would appear
to be some urgency to the Chinese steps, should they occur.
-Should this happen it would come at a very inconvenient time. China’s
currency is tied to the dollar. The dollar his risen against the Euro
by 10% in the last two months. Therefore China’s currency has risen by
the same amount against the Euro Zone. That is a big market for China’s
exports. If they revalue against the dollar by 5% and the dollar stays
where it is they will have taken a 15% hit on the terms of trade in
just 60 days. If I were China I would be putting out the story, “Our currency is up 10% versus half the world. Stop yapping at us to make it higher still”. So that makes the timing of this (should GS be correct) very suspicious in my mind.
-All else being equal I would rate this a win-win for the Euro Zone and
Brazil (again), a win-lose for the USA and a lose-lose for China. For
the US it might be of some benefit to the big exporters, but I doubt
it. Any improvement on pricing will be offset by a reduction in demand.
For all of those Wal-Mart and Home Depot shoppers beware. Prices are
going up.
The market outlook on this is murky for me. There are some checks and
balances to this that could in theory bring some stability. Everyone
has been leaning on the Chinese to hike their currency. So if they were
to do it the spin would be, “Hey! Here’s some Good News!” I don’t see it that way.
-Last week the market tanked on the news that China was moving on
reserves. This is no different. So if it was bad last week. It will be
bad this week too.
-Should this happen it raises a big question about the HK dollar.
Logically that would have to be re-pegged as well. Should that not take
place I would expect a mega move into the HK$. I can’t imagine that the
Central Bank will accommodate that.
The money flow to Hong Kong has been big and steady for some time. The
reserves were $206B as of 12/31/2009. Should there be an adjustment in
the HK$ rate there would be some very big overnight profits. At some
point thereafter the reserve flow would reverse to more normal levels.
Say 50% or $100b. That just means there is one less buyer of US
Treasury bills at the next auction. Most of the hot money that went to
HK was borrowed, so when the short-term flows are reversed the margin
debt is paid down. There is no new or alternate buyer of those Tbills.
-China was supposed be a global engine for growth. Whatever your
expectations were on that score a week ago you must revise them down
today. A year ago there was all the talk of green shoots. There were
many of them. China tightening its belt at this time and at this pace
is a brown patch. In Europe there are dead tumbleweeds blowing around.
These things do not make for an improving growth story.
-Using the wisdom of purchasing power parity an argument could be made
that the Euro would be a tad undervalued should the Chinese move. I
don’t see that happening either. Much to the chagrin of the Chinese the
dollar could go right on rising. To hell with purchasing power parity.
-If you read the Chinese steps as deflationary, it has to be bearish
for the commodities. They have all been backing up. This could cause
that to continue.
-Gold could be interesting. Say the thoughts on the dollar were right
and we move toward 1.30. Say the commodity markets followed that lead.
That would imply that gold should move lower in sympathy. I would watch
that one. These things that may be coming are on the side of the shelf
that is marked: DESTABILIZING. I am not sure if this will come into the
gold equation at this time. It will soon enough.
-In this environment the TLT is not the place to be. Not yet.
-On paper this could mean that China has less exports and more imports.
Should that be the case their reserves will stop growing. Who is it
that is going to be buying all of the paper that is being created by
all of the debtors in 2010? At the moment I am having trouble of
thinking of any ‘size’ buyers. Possibly Ben B will have to add some
more demand to meet the supply. That would be very big tumbleweed.
The GS report got me to write these thoughts. This all just blue-sky thinking. Probably nothing will come of it. I hope not.
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It's a food problem. I believe they're the only nation who truly realizes the pending food crisis, perhaps due to the fact that they have so many mouths to feed. There's a reason they've been buying every soybean they can get (using some of those extra dollars).
I've not heard a peep about the big grain audit they did last year. I assume the results were not good.
The urgency behind a currency revaluation may be the need to increase import power to get their hands on a larger portion of available 2010 harvests. Everything else is academic if you're a communist nation filled with a hungry populace.
Regarding Dirtt's comment that a stronger yuan will buy more U.S. real estate - I looked into an EB-5 Visa investment program to find foreign buyers and inquired why the program area was so slow to attract Chinese buyers - the rep told me
that Chinese residents can't wire their money out of the country to buy U.S. real estate and if a Chinese national went to a bank to buy a property in the U.S., the bank would decline. This explains why you won't find google listings of U.S. real estate in China. Does anyone have more insight into this?
This is slightly off topic, but the "Chinese demand for gold" that everyone wants to see, especially considering the 1.35 billion potential buyers, is not happening. What I have been seeing over the last few months, on the contrary, is that Chinese individuals are selling their gold and buying diamonds and (especially) jade. Gold is for when they are worried; diamonds and jade are for when they think they've made it and want to let everyone know.
The Chicom government might be a different story, but the person-in-the-street says it's time to show off, and nothing says one has a little extra cash than diamonds and jade.
Madcow has it right, but i don't think the truth will be told. Austerity measures will just push the proletariat into the streets and the whole global system will be on the brink of Armageddon. Debt repudiation is the only way out, as there will NEVER be enough cash flow to service all the debt. It would be interesting to see what would happen if Greece decided to say $uck it and just defaulted.....
China has been at war with the US for many years. MZD was always talking of American imperialists.
But what is the Chinese civilization's Elliott wave count?
I think they had a big low in the 1960s. First guess is that this downturn will be a wave 2 retrace of the progress since 1960s. I don't expect a hot war against the US with this wave count. But I could be wrong about the count.
Don't underestimate the significance of Obama's upcoming meeting with the Dalai Lama.
I've been waiting for them to do this. It's possible that I'm having a GCE here, but what the hell:
Great post. Well played!
Yaun strengthens -> exports to US decline -> less money recycled into USTs -> more Fed monetization -> Yuan strengthens.
This goes on for a little while, maybe, before the both the US Dollar and Yuan collapse - along with all other Fiat that can only work in an environment of expanding private sector credit.
The machine can't work in reverse.
Global governments are assuming they can instantly impose draconian budget cuts and austerity measures upon their populations, while forcing people to continue to service their bloated debts and increasing taxes - so that the system can survive.
The only way to get people to cooperate is to tell the truth - which is that the "assets" everyone thought they owned were actually a mirage - and that there was never any real value there. Once people know that they've been tricked fair and square by the banks, they'll give up expecting things to get back to 'normal.'
Until then, all these efforts to "cut back" and "tighten our belts" is going to come across as diabolical and mean-spirited demands of corporate-government-bankers run wild.
Madcow
You are exactly right: but fixed assets are real, prices and phoney paper are the mirage.
Our almost elected shiny new President had a chance to tell this truth to the American people, and could have had the whole nation behind him, hunkering down, working together to contribute, instead of spend and borrow. Sadly, Goldman got to him through Hank in the fall of 08.
And Dubya could have done it, in the fall of 2001- he could have pulled the nation together as one, but instead he told the nation to go shopping (for more Chinese-made crap.)
We have a ticking time bomb of debt. Wallstreets private debts have been off-loaded onto the public and Government expenditures are not contributing one iota to the productivity of the country. They are just throwing money out the back door of a truck.
We are leaving a poorer, weakened country to our children and grandchildren.
Since this is Goldman talking their book, i expect two more weeks of dollar appreciation and some more funny noises from the PBOC.
After that, yuan devaluation by 5 %.
Home depot and Wal-Mart raising prices is unlikely in a deflationary environment dragged down by diminishing demand. The outcome may be just that the model is flawed and profit margins are hit.
Since you mentioned DESTABILIZING, golds reaction may appear neutral through equal and opposite forces tugging on it but my opinion is that it will also deflate. I am however more concerned about silver due to it's industrial qualities.
recently the chinese military said china ought to punish the usa for arms sales to taiwan by selling treasuries and other bond holdings. tightening monetary policy, revaluing the currency up and slowing the economy could be a back door way to doing that very thing without leaving footprints.
but in any event, as china said, there isn't enough money in the world to fund united states (without monetizing) spending.
Bruce,
I read your articles whenever I can, but I think your analysis is a little off on this one.(Although I agree on TLT)
The Asian countries have said that they will consider letting their currencies strengthen if China does so first. The Asian countries revaluing will be lose-lose for Europe and America, because all $ will flow to Asia.
How hard will it be for the West to finance its ballooning deficits under such a scenario? I'd say that if this rumor is correct, it's a win-win for China, a lose-lose for US/Europe, and a win-lose for Brazil.
You may be right. Like I said, this is murky. But we agree one one thing. Should this happen it is going to get the money moving again. Seat belts on.
They'll probably keep devaluing and then once everyone is at par with them jump it up 50 percent in value overnight with a dollar dump. It'll happen sunday night while everyone is asleep and they'll wake up to wal-mart scrambling to roll UP prices.
Something I read on this blog
Interest rates are a function of how much debt a counrty can carry. The higher the interest rates the lower the debt. The lower the interest rates the higher the debt.
Because the US has too much debt we need --- like Greece a low interest rate. Our rate is being held low by the Fed
When China raises interest rates --- as a result of the revaluation of the yuan ---- then the competition for safe seeking investors will begin. And the US can not raise rates because the debt is already too high.
Then the Chinese yuan begins to become the currency of the world supplanting the $$$$. The world flees to the yuan rather than the dollar because of higher rates
Maybe when Nixon brought capitalism to China -- he saved the western world from the dark ages of GS / JPM / FED / oligarchy
So what does this mean for commodities?
Thanks for a fantastic article and the presentation of various alternatives Bruce.
Just sell 'em a buncha out of the money equity layers of Collateralized Debt Interest-Only Squared Obligations on the no-pay MBS that Fannie and Freedie'll be rebuying and all'll be well 'cause it'll end well. Right?
Imagine how cheap US RE will lookif the yuan floats. Why not scoop it up at fat discounts when the next wave floods the market? I know this is not what Barney Frank intended. He wanted poor people w/o stable income to own big houses. Not even more poor people w/o any hope of good income sending the rent checks to a guy in Shanghai.
When they are done buying the best of America repeg. Once they are done polluting China they'll just send out eviction notices and Coming To America.
During the Paulson era frequent road trips in 06-07, the yuan was allowed to slowly appreciate against the buck, during that time commodites were on their way to the highs.
Grant the macro environment was much different then but I would speculate that the commodity $ repricing on a Yuan reval would be ofa relatively smallish magnitude.
It would make mcuh more sense to allow a currency reval before a rate hike to not have an overflow of funds coming into their system...
michelle obama's former designer goes bust in chicago ---
http://www.suntimes.com/business/2047071,maria-pinto-close-business-0213...
without truly free floating exchange rates market prices are warped which in turn cause people to make bad decisions....
in a world of floating exchange rates - and it has always been thus - there is no sound financial reason whatsoever to manipulate currencies....doing so creates huge pathological disturbances over time....
the yuan should be depegged from the dollar or the usa should impose compensating tarrifs....
This one's gonna be gooooood...
I believe that letting the Yuan appreciate in value would be good for China. It would raise the purchasing power of Chinese citizens. And there's simply no reason that China can't sell products to its own people instead of relying solely upon exports for revenue.
One child policy, no government retirement assistance and cultural similarities to Japan are all good reasons why China will not start consuming at levels necessary to keep factories pumping. The last time they were forced to consume was during the opium wars. Opium is a seductive drug, lead ladened toys are not.
I think this will happen within a week's time if it is going to happen. The Dollar will soar 2-3% on this news and it will be this buying spike that marks the end of the rally off of the November lows for the Dollar. It will then resume moving down over the next 6 months to new all-time lows as the market digests this adjustment. Euro will easily break $1.35 and should bottom between $1.30-$1.35.
so the Euro moves down towards 1.30, who else exactly will the dollar be moving down against........still looks like the sturdiest in the litter of runts....and I am no dollar fan !!!
shhhhhh! They are listening.
It seems that the world as it is can not function at the level it does, without massively prohibitive amounts of borrowings.
What is it? 10,000 Trillion dollars that people owe to other people?
There sure is an awful lot of faith out there.
i had read somewhere that china will be more invoved in forex soon!!
Yeah, that was me...
Out Of Control
Looming Problem of Local Debt in China-- 1.6 Trillion Dollar and Rising
To obtain an independent estimate, I collected data from thousands of sources, including regulatory filings, bond-rating reports and press releases of government-bank cooperative agreements. I estimate local investment entities' borrowing between 2004 and the end of 2009 totals some $1.6 trillion. The data are far from perfect because borrowing by low-level government entities and lending by small banks are difficult to track. Nonetheless, my evidence suggests that the scale of the problem is much larger than previous government estimates. At $1.6 trillion, the size of local debt is roughly one-third of China's 2009 GDP and 70% of its foreign-exchange reserves.
Wednesday, 10 February 2010
http://chinesepolitics.blogspot.com/
Hi Bruce
Interesting thoughts. Another couple of points would be:
1. Wages are going up in China and this revaluation would also be a equivalent to a stealth wage increase if import prices reduce.
2. Chinese society is historically linked with gold. A healthy Chinese society is good for gold even with a strengthening yuan.
Regards
R
IF (and that is a big if) China goes up by 5%. And the $ goes higher and gold takes a tank to 1050, then everyone in China will be able to buy gold (with their Yuan) 10% cheaper than a week ago. These things have a way of balancing out. The knee jerk may bring gold lower. But the demand will make it go higher.
Gold will only go higher when it is perceived to be a safe haven. It looks more like a derivative of a bunch of currencies than a go to place for money. The DESTABILIZING shelf I referred to is full. The wood is bowed from the weight. It is not stable at all.
>IF (and that is a big if) China goes up by 5%. And the $ goes higher
You lost me on that one. If China's currency appreciates, by definition the dollar declines.
"The two steps (assumes currency reval.) would prove that Chanos et al. were right all along. There is a bubble."
Not so fast, it could just mean they see a recovery in the US and are not afraid to tighten the belt now. Don't forget, the yuan is already pegged to the USD. As for Goldman's insight, they seem to be excellent fortune tellers, for now.
Leo,
You are the only one that sees a recovery.
Whooooooo ooooh there El Hosel !!!!
I gots some cheap Chinese made solar panels to sell ya. And I didn't have to pay any of that darn R and D stuff. Just sent a few of our agents into the American transplanted factory and copied everything we needed.
So we can sell them cheap, I mean really cheap.
Oh one little problem, the Sun burns a hole thru them panels, but we send out free replacement panels-- so no problem.
Better get in before we run out of stock. Wait 2 panels for one- how about that. Hey wait come back.. English boy....English boy.....
Of the possible scenerios on this, the one that you describe, where China is moving because of their high level of confidence in the US recovery, is in my opinion the least likely of all.
I don't believe that for a second, and they certainly would not set domestic policy on that hope.
On all of this I have relied on the comments from GS. Who knows if they have this right. But if this does come to pass then it is only fair that you give credit to the rest of the statement. "They are doing this to cool an overheated economy".
Should this come to pass you have to put this one on the deflationary side of the scale.
Really? I thought the Chinese were good at math.
LOL!!!!!
Interesting that China will need to appreciate the value of it's currency in the same way the US will soon have to devalue its.
Can anyone explain the sudden loss of momentum in Gold futures? -is everything closed for President's day?
we don't even know where obama is taking us, and China is an enigma wrapped in a riddle, covered with a Klondike Bar.
At some point perhaps they will FLOAT their currency, but the rest of the global banking system is beginning to reassess that policy. If you think about it, the concept of trading currencies makes no sense at all.
The problem here is what happens when China moves the peg and nobody likes it?
and were the Chinese to unilaterally fix their currency, that might raise a lot of eyebrows. (I am suggesting that the rest of the G however many are moving toward a central fixed currency regime) Despite the problems in Greece the idea is more likely than ever. Such a program assumes more interdependency, (ie bailouts)
but the Chinese have gone their own way for a long time, and the global economy is moving toward a pax americanus of economic fascism, "one way, or the highway." and rogue states will be punished.
China is in some ways like Germany a hundred years ago, late to join the nation states, and moving aggressively to catch up. and all those two wars proved was the German capacity for punishment. China has a long history of being invaded and occupied. similar perhaps.
The lack of comments on this article reveals something about the floods of comments on other articles. Write something complicated and you loose them; write something simplistic and the dunderheads come out of the closet.
Somebody enquired, "Is there no volume control on ignorance?"
Yeah, there is.Write something sophisticated that requires a degree of knowledge and you loose most of them. Seems ZH commentary is being infested with political zealots and propagndists, akaa, lowlifes.
Hey there Noah Vail Einer
Don't know if this article is a complicated simplification or a simplified complication, but shur nuff- big brains like you get it.
Rather that having a volume control on ignorance, let's design a mute button for condescension.
If Goldman is mouthing a Yuan devaluation, watch yer ass. Goldman likes to set up the bets.
And the modern day "miracle" of China was born of Walmart and Jack Welch, assisted by offshore bank accounts for our political elites. Yes, those same guys who are keeping their accounts hidden from the public through their patty cake deal with the Swiss government.
So here's to you, ya cheeky bastard.
...because your comment adds so much to the debate retard. And this is hardly a complicated subject - perhaps for a neophyte. There are varying opinions on this topic ranging from a devaluation to an appreciation.
a few what ifs?
1. what would happen if china did revaalue and at the same time freed some capital to leave the country. what happens to the crosses/
2. what are the inflationary implications and moneatry policy implications of the revalue in the usa. what happens to commodity prices - do they have to rise in $ terms - notwithstanding demand picture - to offset the increased yuan purchasing power - if only for wesatern world conservation via the major ibanks?
3. what happens to the price sof oil in $ terms as the great 'discounting mechanisms" looks past the demand pocket? If it moves higher what does it mean for the petro balance which likley obviates any expiort improvement in a capacity long world?
4. does a revaluation mean anything when the wage gap is still of exponential magnitude and chinese manufacturers are already moving offshore to vietnam who by the way has devalued how many ntimesd?
5. what do the gold flows look like after sh=uch a move. Us trades a revalue for rthe real?
When you are trying to make the point that you are smarter than others, you shouldn't misspell the word "lose"... twice.