TAGS: Currency, yuan, dollar, China, foreign exchange, Fed, reserve currency
The Chinese government is becoming serious about allowing the yuan to trade more freely in the world. This is a mature step for that government and is the only route for that currency to gain international acceptance.
The Chinese are beginning to take the administrative steps that allow this exchange to take place. This includes bank settlement processes and rules.
Although the rules do not specify Chinese agent and settlement banks, they say domestic agent banks may sign yuan agent settlement agreements with overseas participating banks. Domestic agent banks also may open inter-bank fund transfer accounts, denominated in yuan for overseas banks and cross-border trade transactions.
Commercial banks are allowed to provide yuan financing and other financial services, according to the regulation. A senior executive from a large state-owned bank said trade settlements should include financial services.
“The launch of trade settlement in yuan will naturally involve yuan financing,” he said. “As a result, an overseas market for yuan will be created and promote the internationalization of the yuan.”
Luo Zhiheng, a managing director at Bank of China International, said an overseas enterprise that chooses a bank in Hong Kong first opens a yuan corporate account. The bank in Hong Kong is then responsible for clearing settlements with the Bank of China (Hong Kong). And the Bank of China (Hong Kong) will conduct settlements with a domestic bank where the other trading partner has an account.
Among their needs is the one for capital controls – the Chinese themselves would yank their capital out of the country in a heartbeat … not to mention the ‘hot money’ crowd which would flee en- masse at the first sign of an noncollectable Chinese bank loan.
Another difficulty that the Chinese had to face with but seemingly don’t now is the requirement for the PBOC to print vast amounts of yuan to service all the new overseas yuan customers. This was indeed a problem. Long ago (2008) yuans were once scarce on the ground being hoarded (saved) by the citizens. No longer; since the Great Unwinding the Peoples Bank has been spewing enormous quantities of yuan for domestic purposes and the flood tide is sufficient to allow some of them to float overseas.
China’s strategy therefore is to ape the US’s dollar strategy and leave the world awash with cheap money, cheaper money riding on the back of cheap Chinese labor and poisoned consumer products, cheapest money, the strategy being the implementation worldwide of Gresham’s Law, the bad (money) drives out the good. Or rather, the worst money drives out the bad …
Where does this leave the dollar?
The dollar dilemma was – and still is – simple. The dollar is near worthless because of inflation. It’s a fiat currency that is devalued by constant monetary supply expansion. The last round of money- printing is a part of this inflationary piece. The matter is one of supply and demand. Usually there is demand for dollars, but sufficient supply to satisfy it … plus a little bit extra. The outcome of decades of ‘the little bits extra’ has been the erosion of most of the dollar’s purchasing power.
The other side of the dollar dilemma is the dollar is a proxy for what it buys. It clearly buys the US government, all bought and paid for by Goldman- Sachs; it is also proxy for all kinds of illicit drugs, military hardware, corrupt officials as well as the usual commodities, most importantly oil. This requires the Treasury Secretary to go to China periodically and assure the Chinese the dollar is strong. This is so on account of what the dollar will buy. The school children there will laugh at him because of the dollar’s loss of purchasing power.
There is a parallel yuan dilemma as well that centers around the dollars that it holds. This is actually a great problem for China as it cannot make up its mind about the value of these dollars, even as it accumulates more and more of them. It is tormented by the dollar dilemma. Are the dollars worth little because there are so many of them, or are they valuable because of what they can buy?
If they spend the dollars will what they buy with them be worth what they paid? Would they be worth more tomorrow? Would they be worth less? What would the impact be in China of spending them?
This tension has torqued Chinese currency and trade policy even as its neo– Keynesian stimulus plan and lending bloat leveraged against those dollars has pitched the argument in the direction of the dollar being valuable. The continued strong economic ‘growth’ depends on the increase in dollar reserves. This makes these dollars proxies for Chinese growth. Each dollar printed by Bernanke is buying some of it. Seeing this and measuring the value the dollars have to China, the US Federal Reserve is massively inflating the number of dollars it issues, trying to buy some Chinese growth.
China is giving the Fed a free lunch, just like always. Courtesy of China’s inability to come to terms with its dollar surplus.
The Chinese are hoisted on the same growth petard that the Treasury, Wall Street and the Fed are, just at a different level. If they want growth, they need to keep the stimulus pedal to the metal. They need to keep the dollar flows. In this way, the dollar reserves are the means by which the US exports whatever inflation the Fed creates to China.
If the Chinese dump dollars and reduce their reserves, they will have one less expensive item – Treasury debt – to spend on, the unspent yuan will make their way into circulation and fuel domestic monetary inflation. Damned if they do, damned if they don’t. The only way out is for the Chinese to abandon the growth- at- all- costs metric and take their chances with the angry mobs which make up the Peoples Republic of China.
Large street protests that turn violent, and that officials and security forces have been powerless to stop, have been on the rise in recent years, analysts say. The government usually avoids reporting the number of protests or riots in China, but an article in January in Outlook Weekly, a policy magazine published by Xinhua, the state news agency, said there were 90,000 such events in 2006, up from 60,000 in 2003.
In the end, the attempt to internationalize the yuan is simply vendor financing by other means. Unlike the dollar, which is proxy for Congressmen and Colombian cocaine, the yuan is simply a marker for poisoned dog food and other Chinese dump-ables. At the same time, the yuan will subject the Chinese to the same sorts of currency machinations that characterize other financial activities. As the Chinese enter the world’s financial markets more fully, expect them to become the greatest of all possible market fools, as they are vis-a-vis the Fed. They are right to be very cautious, they are wrong in that they are probably not cautious enough.
The final matter is the consequence of adding even more liquidity to the world’s currency markets. There are currently almost $600 trillion in interest rate and currency swaps outstanding. This is pyramided upon a world GDP of approximately $60 trillion total. These swaps are also proxies for the currencies traded but can be also considered to be pro- forma forward securities or futures contracts against the currencies in question. How much inflation is implicated in this 10/1 ratio? How much more would be implied if the Chinese were to thoroughly integrate their currency into the swaps and derivative markets which would certainly accompany currency integration? After all, the world’s GDP growth would not change as the result of yuan trading, only a form of redistribution via credit allotment. While the US, Japan and the Eurozone are in the grip of deflation, the resulting liquidity propelled inflation would have to find a home somewhere; in China, SE Asia and energy producing countries in particular.
It is hard to see how this would be a benefit to the Chinese.