U.S. vs China: Widened conflict between the U.S. and China no surprise at all

12 August, 2019

Tillspetsningen i USA/Kina-konflikten allt annat än oväntat

Sammanfattning / Summary in Swedish

Handelskonflikten mellan USA och Kina präglades av en rejäl tillspetsning under de senaste veckorna. Utvecklingen fick dessutom en ytterligare påspädning genom en något hastig försvagning av den kinesiska valutan yuan – en försvagning som USA:s politiska ledning kallade ”valutamanipulation”.

För egen del vill jag inte gå lika långt med mitt ordval. Hade yuanens växelkurs varit fritt flytande – och inte som i verkligheten flytande med uppenbara dagliga gränser – hade den istället högst sannolikt blivit ännu svagare under det gångna året. Överhuvudtaget ter det sig omöjligt att se president Trumps tre ekonomiska målsättningar och önskemål fungera på samma gång: ännu lägre räntor, god tillväxt och likväl en svagare dollar.

De senaste två veckorna har med all önskad tydlighet visat att USA/Kina-konflikten ej kan analyseras utan psykologiska, politiska och sociala infallsvinklar – https://blogg.lnu.se/china-research/?cat=13398 från den 3 juni.

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Readers of this blog may remember my previous skepticism about positive trade negotiations between the U.S. and China any time soon – unlike many other analysts did ahead of G20 summits and similar events. My doubts about a deal were – and still are – mainly based on the deep psychological divergence between the American president and the Chinese political leadership https://blogg.lnu.se/china-research/?cat=13398 from June 3. President Trump thinks that he has prerogative to interpret global developments in line with what he defines as “America first”; whereas the Chinese look at their history and development with obvious pride and dislike therefore all kind of humiliation from the other side of the Pacific.

One can be pretty sure that the Chinese have felt strongly humiliated in recent quarters. Since the American president does not like the Chinese (politicians), space for fruitful negotiations was very limited already from the beginning of the trade tensions more than one year ago – and has become even more limited in the past few weeks. This development was no surprise and does not bode well for decreasing tensions between the two global superpowers any time soon.

Is China really a currency manipulator?

In the beginning of August 2019, American Secretary of Finance Steven Mnuchin very angrily called China a “currency manipulator”. This was a kind of spontaneous comment since U.S. law also requires that three assumptions for such an unpleasant classification have to be met, certainly after careful analysis (see the illuminating information by the United States Government Accountability Office, GAO, https://www.gao.gov/new.items/d05351.pdf, find different access). However, this was obviously not the case in the beginning of August – but still in the Treasury’s evaluation from May 2019. Then, the conclusion from the analysis was that no important trading partner of the United States more recently had violated the three – by law – defined fairness indicators for exports to the United States (see the source below). However, China, Japan, Korea, Germany, Italy, Ireland, Singapore, Malaysia and Vietnam had failed more recently in two developments of the three trade- and currency-related indicators. For this reason, the above-mentioned countries are currently set on the Treasury’s so-called Monitoring List. Sweden still is not there – but probably not far away. https://home.treasury.gov/system/files/206/2019-05-28-May-2019-FX-Report.pdf (find different access).

Making a more general comment, each and every country is, in principle, free of choosing its exchange rate policy, China certainly as well. However, being listed by the United States as a currency manipulator may have serious consequences for China directly and for the global economy more indirectly. But it should be repeated that real market forces most probably would have given a weaker development of the yuan vis-à-vis the USD in recent quarters – because of China’s weakening growth and lagging reform activities.

In other words: In my view, China currently does not meet all the necessary criteria for being a currency manipulator – right in line with the conclusions of the Treasury only three months ago. However, when asking China for global currency responsibility, the same request could be sent to President Trump regarding American responsibility for global trade – preferably with China to follow with good energy to create more transparency and willingness to reform, giving this way benefit to both the Chinese and the global economy, the American certainly included.

Hubert Fromlet
Affiliate Professor at the School of Business and Economics, Linnaeus University
Editorial board

 

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The size of currency reserves in emerging countries – a reliable indicator?

6 August, 2019

Är valutareserven en pålitlig indikator för ekonomisk stabilitet på tillväxtmarknader?

Sammanfattning på svenska / Summary in Swedish

¤  Valutareservens storlek framstår inte nödvändigtvis som en pålitlig ekonomisk bedömnings- eller stabilitetsfaktor på en s k tillväxtmarknad (emerging market). Men det är givetvis bättre att valutareseven till exempel täcker tio månaders import än bara två månaders import. Emerging markets behöver normalt längre importtäckning genom valutareserven än etablerade OECD/EU-länder.

¤  En viktig indikation är också i vilken utsträckning valutareserven kan täcka eventuella bytesbalansunderskott och åtaganden från utlandsskulder. Graden av finansmarknadernas avreglering för gränsöverskridande kapitalrörelser kan dock utgöra ett viktigare analysinslag. China till exempel är i detta avseende fortfarande starkt reglerat. Vidare ger den tidsmässiga fördelningen av utlandsupplåningen (korta mot längre krediter) viktig information om behovet av utlandsvaluta inom överskådlig tid.

¤  Ibland kan också en välfylld valutareserv snabbt leda till valutabrist och en ohållbar situation. Så skedde exempelvis i Mexiko 1994, i Thailand och Malaysia 1997 samt i Lettland år 2008.

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We still can note every month quite a number of comments on changes of the size of Chinese currency reserves (see my previous blog on chinaresearch.se) – also when economically irrelevant changes happen by just a few billion dollars. Of course, the size of currency reserves of a country deserves analytical attention (but usually not so much in OECD/EU countries).

Why is that need? There may be quite a number of reasons. Let me in this context sum up five of the most important ones.

Motives for a reasonable size of currency reserves

¤ Currency reserves must cover (normal and necessary) imports by emerging markets for quite some time. However, the definition of “quite some time” may vary. Of course, I like ten months import coverage better than only two months coverage.

¤ Currency reserves are also an important indicator for the ability to serve foreign debt commitments. Necessary reserve volumes for this purpose depend to a high extent on the size of the foreign debt. Usually, I would like to see that commitments from foreign debt and the current account are covered at least a couple of quarters ahead. But such a time horizon cannot function as reliable guidance either. Therefore, foreign-debt structure (short term vs long term) and bond rate differentials vis-à-vis USD bonds may give other and better indications than combined numerical warning signals for foreign debt and the current account balance.

¤ Currency reserves can be used to intervene on forex markets – usually not officially announced or confirmed – when the own currency is considered as being too strong or sometimes even too weak by domestic decision-makers, usually coming from the political sphere.

¤ The important development of an emerging country’s current account is also linked to the size of the currency reserves. However, deficits in the current account can only be financed in four ways,

  • by receiving foreign direct investments (FDI) -> usually the best way,
  • by borrowing money abroad -> with obvious limitations,
  • by selling treasury bills, bonds and stocks to other countries -> risky,
  • by reducing the currency reserves -> a very limited possibility.

¤ A relatively high level of currency reserves may also serve as a psychological indicator for economic and financial strength. This kind of function is certainly much more important in emerging countries than in advanced and at the same time well-working economies.

What is sufficient?

Unfortunately, there are no clear thumb rules about necessary currency volumes that may be high enough to have sufficient protection against a potential future economic and/or financial crisis. The mood of global financial markets may differ from time to time, and so may the quality of the government in the affected emerging market. Variations may also show up when it comes to contagion risks to other countries, to the GDP-growth situation in the global economy or to an emerging country’s ongoing deregulation process of the capital account.

Conclusion:
Altogether we should keep in mind that no safe prediction can be made about the sufficiently secure size of currency reserves in emerging markets. Mexico in 1994, Thailand and Malaysia in 1997and also Latvia in 2008 seemed to be on the safe side with the size of their pre-crisis levels of the currency reserves. However, developments became suddenly very stormy – and they derailed then very rapidly.

Hubert Fromlet
Affiliate Professor at the School of Business and Economics, Linnaeus University
Editorial board

 

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China’s currency reserves rose lately- really surprising and good news?

9 July, 2019

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Kinas lätt stigande valutareserv saknar ekonomisk relevans

Sammanfattning på svenska / Summary in Swedish                                

Kinas i maj lätt stigande valutareserv fick nyligen överdriven uppmärksamhet i en del analyser. Bytesbalansen är viktigare.

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In the middle of June, one could read that China’s currency reserves “surprisingly” had risen from billion USD 3095 billion in April this year to USD 3101 billion one month later – compared to market expectations at 3090 billion.

What caught my attention was not so much this little rise as such but the used description of “surprisingly” – and also the still ongoing publication of market expectations. Hereby, a feeling may be given to readers and appliers of this statistical indicator that forex reserves can be predicted with good accuracy.

However, this is by no means continuously the case. First, USD 5 or 11 billion is a very small amount related to more than 3000 billion of total currency reserves. Second, most central banks easily have the opportunity to influence their forex reserves in the shorter run by so-called forward agreements – an instrument which the Swedish Riksbank applied, for example, quite ambitiously some thirty years ago when the Swedish crown was burdened by both high deficits in public budget deficits and in the current account.

Consequently, the recent limited rise of China’s currency reserves does not necessarily reflect free market developments. Markets are usually neither informed on this issue by a central bank nor on the composition of the currency reserve. More interesting, however, is the fact that China lost close to USD 1000 billion of its currency reserves in the past five years, partly reflecting the strongly shrinking or even more or less eliminated surplus in the current account.

Unfortunately, financial markets still neglect the analysis of China’s current account. This may even turn out to be a malign neglect at some point in the future (see also my article on this issue in: chinaresearch.se from May 15 this year).

Hubert Fromlet
Affiliate Professor at the School of Business and Economics, Linnaeus University
Editorial board

 

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