China’s Currency Manipulation is a Form of Economic Stimulus


Yesterday we left off with the question of what happens to Australian stocks when the Fed ends its Quantitative Easing program later this month. It’s probably not that hard to figure out, once you think about it. The Fed has pumped over a trillion dollars into the mortgage market. Do you reckon some of that found its way into the stock market?

What’s more, if banks could borrow from the Fed at 1% and loan to the Treasury at 3%, that’ a nice little interest rate spread. That money could be dumped right back into the stock market too. It’s not exactly risk-free. But with the Fed on your side, a bank would be in the position of rebuilding its balance sheet slowly.

In any event, we reckon the end of the QE program will lead to falling stock prices. In today’s essay, our colleague Greg Canavan takes up the issue. He reckons the end of QE calls for a two-part strategy: get out of the way of falling asset prices and build a cash position is the first part. That’s where we are now.

The second part is picking through the rubble of an asset price crash for the really good stuff. In order to do this, you have to know how to value stocks. Of course if you get your timing right, you just buy a broad basket of stocks at the exact bottom and ride the elevator up. This is more of a trading strategy, and it’s what Slipstream Trader Murray Dawes is engaged in on a full-time basis

But for our part, we think the days where everyone can passively surf the index to higher and higher share prices are over. You’re better off finding companies that make good use of your capital and deliver higher returns on equity. Greg’s got his take in his article.

China’s Wen Jiabao has told the Americans to stuff it, although not in so many words. At a two-hour news conference in which he warned that removing stimulus too early would lead to second dip in the global recssion, Wen also defended China’s currency manipulation. Defying the global consensus, Wen said, “I don’t think the yuan is undervalued. We oppose countries pointing fingers at each other and even forcing a country to appreciate its currency.”

In a floating-exchange rate world, no one forces a currency to appreciate. If people don’t want to own it for yield or sound monetary and fiscal policies, it’s hard to “force” a currency to rise. You can, however, forcibly depreciate your currency by selling it and buying others. And that’s exactly what China’s been doing for years.

To be fair, China’s currency manipulation is a form of economic stimulus. It’s just less direct than Kevin Rudd’s method of giving people money. By pegging it’s currency to the U.S. dollar, China engages in a kind of perpetual devaluation. It preserves the price competitiveness of Chinese exporters. And more importantly for China’s economy, a humming export engine keeps employment high, achieving the primary goal of political stability.

But there’s no doubt that China’s policy is costing jobs in the Western world. To be fair, the U.S. is also a world-class currency manipulator. The central bank sets the price of money and, from time to time, considers how to keep the gold price from appreciating and exposing its fiat fraud.

And the U.S. is the only country in the world that enjoys the luxury of paying off its debts in the same currency that it alone can print. That is a privilege without peer in the global economy. The U.S. has enjoyed that privilege since 1971 because of its military and economic dominance and, to a lesser degree, because the rest of the world needed to do business in a stable currency and the U.S. dollar (for the most) part, fit the bill.

It doesn’t fit today. And that’s why everything is coming unstuck. As Bill shows below, U.S. tax receipts currently cover the cost of servicing the outstanding debt. But if, as we mentioned yesterday, market-based 10-year yields spike anywhere near where they did in the late 1970s, the cost of servicing the debt would eat up nearly all the current tax receipts.

After that, there’s only so much a government can realistically do. Printing money – radically devaluing the currency – is the only way out (if you’re not going to adopt Greek-like austerity measures on spending, which we don’t expect anyone in America at the government level to willingly do.)

Of course in the meantime, the deleveraging of the household and private sectors (see the 2009 in total credit market debt) is driving current demand for the dollar. That and the weakness of the euro. While these trends can see-saw a bit – don’t be surprised to see a euro rally on some kind of short-term Green band aid – it’s important to see the currency movements for what they are. And what are they?

Chimeras. The super cycle in paper money is blowing up. Currencies are moving relative to one another. But our guess is that relative to gold and tangible things, all of them will lose value. The dollar is bad. But it is less bad than the euro at the moment. And vodka and gold are less bad than the dollar.

But have we unintentionally made the argument for deflation? One reader thinks so.

Dear Dan,

“Your argument is incredibly difficult to follow because most of it seems to be a damn good argument for deflation. You finally get to the point that because deflation actually is happening, due to the failure of the private sector (the banks) to dole out the credit into the economy, then the government will do it itself. You then expect us to believe that the government will be more successful than the private sector at doing this. This is an extraordinary argument from The Daily Reckoning. Both you and Bill Bonner have been at pains for years to point out that government simply cannot do things as well as the private sector. Now you expect us to believe that they can revive credit markets. Have you gone over to the dark side? Are you now the new marketing arm of government?”

Nick M.

Nick. We don’t work for the Feds. Neither do we think the government will revive the credit markets. We think the government will replace the credit markets. What else are the nationalisations of the auto sector and mortgage markets about if not the elimination of the lender as the middle man.

It’s true that if lenders don’t want to lend and borrowers don’t want to borrow, achieving credit growth would be impossible and asset deflation and deleveraging would rule the land. But we’re advancing the argument that the response of the Feds will be to simply print money and give to people. This destroys the currency, rather than increasing the value of cash and Treasuries, as the deflationists argue.

Yes, we admit this is speculation about future government policy. But Australia previewed this strategy. The difference is that Kevin Rudd gave away money Australia had. Barack Obama is spending money out of an empty pocket. The argument against this is that the bond market would not permit such a policy and would immediately send yields sky high.

We don’t dispute this. But we think the big winner here is gold more than cash. A direct monetisation of the U.S. job market can hardly be the sort of thing that’s bullish for the U.S. dollar. And if the confidence game in the dollar is up, then the moment when people are willing to trade paper money for tangible goods at any price (the Misean “crack up” Greg cites below) can’t be far away.

Dan Denning
for The Daily Reckoning Australia

Dan Denning
Dan Denning examines the geopolitical and economic events that can affect your investments domestically. He raises the questions you need to answer, in order to survive financially in these turbulent times.


  1. If “Printing money – radically devaluing the currency – is the only way out”, then how is it the “Fed ends its Quantitative Easing program later this month.”?

    And if the “Fed ends its Quantitative Easing program later this month.” how will “you just buy a broad basket of stocks at the exact bottom and ride the elevator up.”?

    This article says nothing.

  2. Comment by Justin on 17 March 2010:

    If “Printing money – radically devaluing the currency – is the only way out”, then how is it the “Fed ends its Quantitative Easing program later this month.”?

    And if the “Fed ends its Quantitative Easing program later this month.” how will “you just buy a broad basket of stocks at the exact bottom and ride the elevator up.”?

    This article says nothing.

    The article says plenty.. it says nothing specific.. If you are trying to get specific dates of specific events in specific countries… then your best bet would be a fortune teller..

    The article says currencies are bad, some worse than others.. gold will be less bad
    The article says stocks are due for a correction and if you have some you should at least consider selling to get yourself into a cash position to by in at the new low… if you want a specific date of that low and a specific amount of the low you will never get it
    forums like these do not have answers, no one has answers.. not even economists and financial advisors…
    Articles like these and other like forums are the writers opinions based on the information available.. You make up your own mind about what is right/wrong true/false likely/unlikely in the articles..

    China keeping it’s currency devalued keeps their exports cheaper so people will buy more goods from China.. If China’s currency was to get to a point that starts to make China exports too costly buyers will seek the next cheapest country to buy from… India, Brazil etc.. so China is in no hurry to have it’s currency increase in any real value at the moment.

    Balance of trade between China and US is about 1:4 ie The US buys 4 times the value of goods from China than China buys from the US.. The US argue that if the Chinese currency was to increase then the balance of trade figures will go a bit more in the USA’s favour, maybe 1:3 still high but better overall for the US.

    March 17, 2010
  3. Please excuse my ignorance, but can somebody tell me why the US does not have the option of simply refusing to pay back US securities held by China?

    Obviously China would stop buying it if that happened, but wouldn’t that force the US to stop importing so much cheap stuff, and lead to a Renaissance in American manufacturing? Prices would rise obviously, but so would employment.

  4. Geo: “…wouldn’t that force the US to stop importing so much cheap stuff..?”

    Probably a demand-and-supply issue. Shopping to outfit rentals recently, it was difficult to find _anything_ at all which wasn’t ‘Made in China’. More surprising, while crossing Canada last year, was our realisation that _some_ Chinese goods were a quarter the cost of those in Australia. Same item, but 25% the cost. Yes, it appears that the retail outlets concerned were Chinese-owned (thus cutting out the middle man) but it also seemed the goods _must_ be being ‘dumped’ in Canada. This may be one likely future here…
    particularly if the US cut back consumption… .

    Biker Pete
    March 17, 2010
  5. The least popular thing I have said on these shores is that the Yuan overvalued to the USD is a crock and if it weren’t for Chinese responding by generating demand the world would have sunk. But now I have allies, see report on UNCTAD report (can’t get at original today). The Yuan may be overbalued by 10% already and it can’t appreciate without more unlocking of domestic savings and that is a deep mindset, deeper than one broken by simply introducing a welfare safety net.

    This UNCTAD report would not have made daybreak without EU support. They are alarmed by the US bent toward military aggression.

    I hope many will come around to this point of view quickly before the Americans start firing bullets. It has taken quite some time for the deflation before inflation case to get legs and we can’t afford such a long cycle with US excuse makers & sabre rattlers already putting bullets into the chamber on both Iran and China. They have leaked through a Scots paper that they are already shipping bunker busters to Diego Garcia. Bluff again maybe but desperate banksters are sure to go hard over toward some new ends.

  6. Interesting link, Ross…

    … and the banner presents an invaluable opportunity for any here who look at US property prices with longing and envy… . :)

    Biker Pete
    March 17, 2010
  7. Ah yes, once again the recommendation is to buy gold… but what exactly are we to buy? Physical gold? Certificates? Shares in gold miners? What good are any of these when the world descends into anarchy as the Daily Reckoning forecasts. Shares in gold miners will be worthless, so too will certificates. Physical gold? It won’t achieve much for you. You can’t eat gold, or do much else with it, and in a world where life has become nasty, brutish and short, it’ll be no value for pretty jewels and fancy crowns. Canned food might be good… at least it has some utility. A gun would be better. I mean, a stockpile of gold is only going to remain yours if you can protect it…

    Perhaps instead, we should all recognise that the era of increasing wealth and increasing consumption is over. Focus instead on your health and learn a few rewarding hobbies and skills. Forget about forecasting macro- or micro-economics and securing untold wealth. Instead, spend your money now on things that are always beneficial. If the world descends into chaos, you’ll be glad to be fit and healthy. In the event of another Great Depression, starting out healthy and happy might make all the difference. If there is another boom and you miss out, then you’ll at least have the consolation of health and happiness.

    I’m off to take my own advice. I’m not going to try to find the best prospective junior ten-bagger gold miner on the ASX. No, I’m going to go buy a couple of longshanks, row down river, drop in some crabpots and practice fishing for whiting on the sandflats. And when you’re all sitting in your houses hoarding your gold and starving to death, I’ll be cheerfully feasting on muddies and whiting.

  8. Good plan, CJ!~ You wouldn’t throw back a few lizards, would you? :)

    Biker Pete
    March 19, 2010

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