The East is [in the] Red

Here's an interesting one: the Contrarian Investor reckons a credit bubble could be brewing in China.

For now, a cloud no bigger than your fist on the horizon; but sometime... This is how we ourselves started, back in the 80s.

Chinese SWF: a subtle assault on the US dollar?

Jim Willie (a notable gold proponent) submits an interesting essay on China's influence in the currency and commodity markets.

Gold bugs say that the price of gold and other commodities has been held down by parties interested in maintaining the credibility of the US dollar. Willie thinks that the entry of a large Chinese sovereign wealth fund may foil such market manipulation in future, especially since the Chinese can back their hedge fund loans with their US Treasury holdings. An attempt to break a Chinese-held commodity position, if successful, could lead to a selloff of Treasuries and so crater the bond market, leading to raised interest rates and/or a drop on the dollar.

Between a rock and a hard place. This is what it is to be a debtor.

Survival

In a Dublin talk last week, Dmitri Orlov bears out my repeated theme of diversity, dispersion and disconnection - the way in which efficiency and survival are at odds. It's also a theme of James Howard Kunstler. Even Rob Kirby's latest post refers to a "financial ecosystem" and asserts that the concentration of power at the top threatens the structure.

Big changes are on the way. Jesse reports on how the world is weaning itself off the dollar; the Contrarian Investor notes how China is cornering the market in rare minerals vital to modern technology.

There is a power struggle - a host of power struggles - going on. The good news is that life goes on, too. The bad news is that not everybody makes it.

Don't be the doughboy this time.

He who pays the piper calls the tune

A couple of stories catch my eye:

China is requiring new PCs to come with factory-installed Internet filters (don't tell our government)...

... and may be buying American military secrets from the US Government (I believe I suggested this as a possible development quite some time ago, but I'm still looking for the reference.)

Chinese Yuan now challenging US dollar as trading currency.

See here.

When the music stops, a dollar collapse?

Brad Setser's analysis is that Americans have been repatriating their dollars even faster than foreigners have been getting rid of theirs:

"Words cannot really capture the sheer violence of the swings in private capital flows that somehow produced a a rise (net) private demand for US financial assets."

At some point, the balance of these cross-currents will change, and then? Maybe the turning point will come when Americans are forced to sell financial assets to meet living expenses and medical costs.

Meanwhile, Tim Iacono comments on a proposal to substitute the dollar as the world's reserve currency, with drawing rights from the IMF, i.e. a mixed bag of currencies. China's central bank seems terribly keen.

I have a sense of something being held up, but not for ever.

Where is all the money going?

I read recently that both in the US and the UK, a significant part of the "quantitative easing" is repurchasing sovereign debt from foreign holders. In other words, money is being created to buy back government bonds from overseas investors.

This says two things to me: (a) the new money thus created is not going to help kick-start our economies, and (b) foreigners are losing confidence in us and want out, before inflation and defaults shrivel the value of their investment in us. As to the latter point, I said last August that I thought the Chinese wouldn't let themselves be swindled.

So I suspect we are still headed for slump, currency devaluation and, eventually, high interest rates.

Maybe a new currency, to whitewash the mess and make further progress towards some New World Order political grouping - Oceania, Eurasia etc. Any news on the Amero?

Symmetry; asymmetry

"China’s January surplus ($39.1b) is roughly the same size as the United States’ December deficit ($39.9b). It is reasonable to think it will roughly match the United States January deficit as well.

The extreme symmetry captures something real. Deficits and surpluses are shrinking globally now that the price of oil is at levels that roughly cover the oil exporters imports. Right now China’s (growing) surplus is clearly the main counterpart to the United States’ (shrinking) deficit" - Brad Setser

"I believe there is a greater than 25pc chance of a departure from the Eurozone given the social and economic behaviours of some countries within it" - John Moulton on the UK and the Euro.

Newsflash

All is well: the Dow has just sailed (well, snailed) back through the 8,000 barrier. But what's this? Brad Setser doesn't know what to think about China's role in US debt financing.

Here he thinks that a downturn in China's production will be panic their already-prudent populace into saving even more money, and
they'll also import less, which will screw our deflation down even tighter:

Bottom line: A big fall in activity in China will tend to drive China’s trade surplus up. It thus would tend to increase — not reduce — China’s (net) purchases of foreign assets. Someone in China will still buying foreign assets — and likely providing indirect support for the Treasury market — even if it is not China’s central bank. A big fall in activity also means less Chinese demand for the world’s products — as well as less Chinese demand for China’s products, which frees up capacity to export. That adds to the deflationary forces in the world economy.

... and here he worries about the switch from long-term purchases of Treasuries, to ones with short maturity dates:

At the same time, it is risky to finance a large external deficit with short-term debt. Even for the US. If the US deficit starts to head back up again — as, for example, the effect of the recent fall in oil prices wears off and a large fiscal stimulus in the US stimulates the world economy — without a shift in the composition of inflows, there would be cause for concern.

It's said that Charles Colson, an aide to President Nixon, had this motto framed in his office: "When you've got them by the balls, their hearts and minds will follow." Funny, until you're on the receiving end.

A hand hovers over the chain

Marc Sobel:

Do I understand the net of this posting to be that the US is much more vulnerable to a quick run on the debt, i.e. being mainly financed by short term debt which constantly has to be rolled over ?

Brad Setser:

Yes, that risk is rising...

Read the whole thing here.

Under the floorboards

The Contrarian Investor reports that the Chinese will have difficulty stimulating demand within their own country, if the Western buying spree stalls. Poverty, compulsive saving by those who can, and stacks of cash hidden under corrupt officials' floors mean that helicopters filled with banknotes won't tempt the population to get out and blow their wads.

Murky business

Brad Setser does a very interesting bit of detective work and concludes that much of the UK's holdings of US Treasury securities, are on behalf of China. He gives us a graph demonstrating that when the UK's official holding declines sharply (usually in June), China's suddenly rises.

Setser estimates that China owns $1.425 trillion in Treasuries and Agencies, which is equivalent to about 10% of US GDP. ("Treasuries" are debts directly owed by the US Government, "agencies" are debts of the US Government's organisations, as explained in this Federal Reserve handbook from 2004.)

He ends by calling for more transparency in British accounts of these holding - that would be most welcome all round, generally. Half our problems (and, I assume, opportunities for fatcat swindlers) stem from our not knowing the real position of the world's finances.

How will the future look?

Thanks to the glacial catchup by the mainstream media, the public is finally worrying about economic depression, and consoling itself with the thought that we've messed it up for everyone, so at least the Chinese won't prosper and come over here as tourists, overdressed, overpaid and taking too many pictures for their digital photoframes at home.

Short-sighted, I think. On the CapitalistsatWork blog, I comment:

I think we should turn our eyes, not on the Depression, but how things will look afterwards. The East will generate demand as it aspires to the lifestyle we used to enjoy, and meantime we have been allowing them to transfer the means of production to their co-prosperity sphere. So the Chinese factories will re-open, perhaps after some of the light industry has relocated to Thailand, the poorer parts of India, and other neighbouring regions?

And I shouldn't discount India as potentially the real industrial powerhouse of the 21st Century, while China scrabbles about annexing territory for extra lebensraum, water and wood.

I think, by the way, that econinvestguru Marc Faber took up residence in Chiang Mai, northern Thailand, not to pursue a monastic existence (hardly characteristic of the formerly ponytailed playboy), but because he's close to "where it's at", or even better (and typical of this farsighted man), where it will be.

Europe is keeping China (and America) going

A very interesting piece by Brad Setser, where he shows that the EU's currency strength and growing imports from China have offset the levelling in demand from America. His bottom line is that China's making money from us and lending it to the US.

China to devalue its currency?

I said some time ago that Far Eastern creditors weren't going to let themselves be swindled by currency depreciation; now it is rumoured that China (and maybe another country also) will take their revenge and begin a dangerous round of competitive devaluation around the world.

The sixfold path to Chinese hegemony

The Mogambo Guru does a (tragi-) comedy riff on a Chinese piece he's read. Here's a list of tunes that the Chinese author is calling the piper to play:

1. The US should cancel the limits on high-tech exports to China, and allow China to acquire advanced technology and high-tech companies from the US

2. The US needs to open its financial system to Chinese financial institutions, allowing all Chinese financial firms to open branches and develop business in the US

3. The US should not prevent Europe from canceling the ban against selling weapons to China

4. The US should stop selling military weapons to Taiwan

5. The US should loosen its limits on numbers of Chinese tourists and allow them to travel freely to the US

6. The US should never restrain China’s exports to the US and force RMB appreciation in the name of domestic protectionism and employment pressure

Given the relationship between government and journalism in China, I half-suspect that the article may have had input, shall we say, from official sources. Looking at the implications of these demands, we may begin to tremble.

Below, I put in graph from the statistics quoted in that article. To my layman's mind, it's clear that bailouts transferring debt from other piles to the national pile, are a waste of time: it's debt cancellation that's needed.

Utter stupidity

A silly gloat here, about China being dragged down when the overspending stops.

When will the experts understand that Chindia will have the tools and skilled workers to rebuild their fortune, AFTER the Crash? Why on Earth has the East been subsidising the improvident West for so long, if not as part of a plan to extract all the means of production it could?

Do the experts not realize we have been in a state of economic warfare for years?

The Chinese and US mortgage-backed securities

... and while we're discussing the potential in backing the horses that China bought into:

New York Times, 4 September 2008:

China’s central bank is in a bind.

It has been on a buying binge in the United States over the last seven years, snapping up roughly $1 trillion worth of Treasury bonds and mortgage-backed debt issued by Fannie Mae and Freddie Mac.

The $1.7 Billion Payday: How Bill Gross Made a Killing on the Bailout - Seeking Alpha (14 September 2008)

... The upshot is, Treasury Secretary Paulson was happy to make an example out of equity investors like Miller, who knew they were taking a big risk in pursuit of a big return.
But no way, no how was Paulson about to blow out the holdings of one of America’s top creditors (China).

By some estimates, China has now amassed as much as $1.6 trillion in foreign reserves, with more than two-thirds of that parked in U.S. debt instruments (agency debt, treasury bonds and so on). Burn those guys in a bailout plan? You’ve got to be kidding. Fiscally speaking, that would be like shooting ourselves in the foot with a machine gun.

So Gross had a pretty good lock on the situation. He knew it was sharp to align his interests with China’s. And to further ensure a positive outcome, the Bond King took every opportunity by ranting and raving from his soapbox -- a mighty big soap box -- about how government should be on the lookout for mortgage holders, and how letting mortgage owners suffer would be a travesty.

When news came out that the Fannie and Freddie debt holders would indeed be kept whole (as China demanded and Gross knew would happen), the value of those debt holdings soared, giving Gross a $1.7 billion pop in the value of his fund.

Business Week, 27 Sept 2008 (via Fox44 website)

"Perfect" Bond Asset Class?

Bill Larkin, portfolio manager for fixed income at Cabot Money Management in Salem, Mass., advises people to stay away from Fannie and Freddie debt except for shorter-dated maturities, since the agencies' fate remains to be seen. If they become part of the government, investors will win, whereas if they are broken into pieces, investors will lose because the debt will be much less liquid. He recommends other government agency debt such as that issued by the Federal Home Loan Bank or Ginnie Mae. He also suggests people buy these bonds to hold until maturity instead of buying them to trade them.

Aha!

I said in the previous post that I remembered some US official flying to China last year to flog mortgage-backed securities to them. Found it (13 July 2007) on Bloomberg:

... U.S. Department of Housing and Urban Development Secretary Alphonso Jackson is in Beijing to persuade the Chinese central bank to buy more securities from Ginnie Mae, a corporation under HUD that guarantees $417 billion in federally insured, fixed-rate mortgages.

... Ginnie Mae is ``in a better position than most'' to offer mortgage products because, unlike Fannie Mae and Freddie Mac, it provides the full backing of the U.S. government, Jackson said. Mortgage securities offer China's central bank better returns than U.S. Treasury bonds at the same level of credit risk, he said.

Now the chickens are flying back to roost.

Snap! And crackle...

On Thursday, I noted that, in the last 12 months, America has paid over $400 billion in interest payments on "the debt", AND increased the debt outstanding by around $1 trillion, making a total of $1.45 trillion. (I know I'm adding apples and oranges, but both elements are burdensome obligations.)

Now, noting the drop on the Dow and the cost of rider-bribes to the bailout bill, Karl Denninger is at the fruit-summing game:

Bailout Bill $700 billion
Additional Pork $150 billion
Dow (-484) in 3 hours $600 billion
Total carnage to you, The Taxpayer $1.45 trillion

The government is feeding the woodworms. Mish is convinced that deflation is inevitable ("There has never been hyperinflation in history with falling home prices.")

So you'd be forgiven for thinking, "What's the point in destroying even more money on this bonfire? Cut out and burn the rotten wood first, then rebuild the house."

Not so easy. The situation is especially bad because it's spilling over into international relations. Some American official (I forget who) flew over to China last year to get the Chinese to buy into mortgage-backed securities. Did the US really think a powerful partner would allow itself to be cheated when the package turned out to be rotten? (And didn't the Chinese know that, anyway? Isn't it possible they bought the rubbish because they were confident they could force the US Government to make good on it?)

I would almost say, buy into the packages the Chinese bought; but I expect there are ways to make the Chinese the preferred creditors and stiff everybody else.

Remember that Denninger has been saying recently, buy a good home safe and get your cash out of the bank? Let's see how unreasonable his doomster position turns out to be.