Posts Tagged ‘currency manipulation’

What can you do to protect yourself from increasing currency volatility?

Sunday, September 19th, 2010

Six months ago, we wrote about America’s consideration to label China as a “currency manipulator” in Watch April 15 2010: simmering tensions between US and China. Just before the deadline, China appeared to make a little concession about their RMB, thus avoiding the “currency manipulation” label.

Today, currency tension between the US and China is rising again. The little concession that the Chinese government made was simply not enough. American lawmakers are getting impatient and are itching to enact laws to slap China with trade sanctions. Should that happen, it will be the beginning of a damaging trade war between the world’s largest economies. Their charge is that China’s artificially low currency is responsible for (or at least contributed to) America’s economic woes. But as we wrote in Watch April 15 2010: simmering tensions between US and China,

But the mob wants to find a scapegoat to blame for their woes. It so happens that the most convenient scapegoat is China (specifically, China?s policy of artificially holding its currency down) because at this point of the cycle, China is looking very good. It is perceived that this policy worsen America?s unemployment rate. By implication, it is perceived that with China?s official unemployment rate much lower, China is ?prospering? at America?s expense.

Currency tensions between China and the US are nothing new. As we wrote in that article, it’s been around for the past 3 to 4 years. Many times, the rhetoric about America labelling China a “currency manipulator” came and went away without eventuating into reality. However, that does not mean that it will never happen. As America’s economic woes worsen, the pressure to find a scapegoat will increase. As a result, the probability of a trade war will increase.

The Chinese, on the other hand, are not standing idle, waiting for a trade war to happen. For starters, they are establishing trade and investment links with Asia, Middle-East and Africa. Secondly, it is no secret that they have been diversifying their colossal hoard of reserves away from the US dollar. Given the well-known intention of the Federal Reserve to print more money, diversification has become increasingly urgent. But that in itself is not easy because given the colossal size of the money involved, any whispers and hints about any particular Chinese diversification strategy will move the markets quickly in a big way. For example, the recent rumours that China was buying up Japanese government bonds probably helped to contribute to the surging yen. As a result, the Japanese government became very unhappy because a very strong yen will negatively impact on their export-oriented economy. In response, the Japanese government may take concrete actions (beyond just talking about it and taking token measures) to weaken the yen, in which the end result is more Japanese purchase of US government debt.

In such an environment of competitive currency devaluation and price volatility, what should investors and savers do?

To us, it is clear that having all your savings and investments confined to a single country or currency is an increasingly risky proposition. Currency exchange rates will become more volatile, with implications on asset values, price inflation and economic growth (see Real economy suffers while financial markets stuff around with prices). For example, in Japan, real businesses are suffering as a result of the rising yen. The Germans, on the other hand, are secretly gloating whenever the euro weakens. In Australia, should the banking system fall into a crisis as a result of the bursting of the property bubble, the consequence of a resulting collapsing Australian dollar will be price inflation (see Can price inflation occur in the midst of debt deflation?).

If currency volatility goes to the extreme, investors will even have to question the idea of national currency as a store of value. So, what can investors and savers practically do to mitigate against this?

Quite some time ago, we talked to the guys at and learnt of how a lot of their clients (presumably the “rich”) use them. In case you do not know, (a regulated company operating in the financial services industry) enables

… you to hold gold, silver & platinum that is fully insured and stored securely in specialised bullion vaults in London, Zurich and Hong Kong. All metal is owned directly by you with no counterparty risk.

You can “easily buy gold, silver & platinum and take delivery of physical bars of gold.”

What their clients did was to use their account as a conduit to link their bank accounts all over the world. This strategy makes sense as it gives investors and savers the flexibility to shift their savings all over the world, using gold, silver and platinum as an anchor for the store of value. In an environment of currency volatility, this flexibility is a valuable aid in helping to protect your hard-earned savings from hare-brained government interventions.

However, for those who are ultra-pessimistic and distrust any assets that have any hints of paper, the only way to go is to take possession of physical gold and silver (see How to buy and invest in physical gold and silver bullion).

Watch April 15 2010: simmering tensions between US and China

Tuesday, March 23rd, 2010

April 15, 2010 is a day worth watching. It will be the day when the US Treasury will issue a report, designating whether China is a “currency manipulator” or not. While the repercussions of China being labelled a “currency manipulator” are worrying, this issue is hardly new. In fact, as we wrote in US shooting own foot with tariff on Chinese goods three years ago,

At present [April 2007], the US Congress is simmering in antagonism against China for her trade surplus against the US. They see China as a convenient scapegoat for America?s economic woes, accusing her of misconducts that includes currency ?manipulation,? unfair trade practices and so on.

For the past three years, both sides seem to be going round in circles regarding the Chinese currency peg issue. It seemed that China was repeatedly on the verge of officially being accused of currency manipulation, only for that charge to be withdrawn from the final assessment. Based on statistical probability, the chances for that charge to be issued again are slim. But as our long-time readers know us, we are no fans of using statistical probabilities to ‘predict.’

One thing is clear: the pressure for officially labelling China as a “currency manipulator” is much strong today than three years ago. Firstly, President Obama is more inclined towards that than former President Bush. Secondly, the US economy today is at a more advanced stage of deflation (i.e. unemployment, fall asset values, economic stagnation) than three years ago. Thirdly, mid-term elections are coming and consequently, there are a lot of domestic pressures for Obama to get tough on China.

In the face of further economic stagnation, the US is sliding downward towards mob rule. With a clear understanding of Irving Fisher’s debt deflation theory of the Great Depression, we can easily understand that for an economy heavily addicted to debt, all it takes for the economy to slow down is a slowdown in credit growth. As we wrote in Australia?s credit growth is still falling,

Marc Faber once said that for an economy that is addicted to debt, all it needs to tip it into a recession is for credit growth to slow down- no contraction of credit is required. Also, as Professor Steve Keen explained, at this stage of the debt cycle, the aggregate spending in the economy is made up of income plus change in debt. In the absence of income growth, a slowdown in credit growth implies declining aggregate spending by the private sector.

Currently, the US is in the midst of a generational shift in culture/mindset from borrowing to saving. That is, in economic terms, the US private sector is de-leveraging. The symptoms of de-leveraging will be asset price deflation, economic stagnation, rising unemployment and so on, which will be counteracted by increase in government debt and spending (which itself is limited by market’s confidence in government debt).

In lay-person’s terms, the US is suffering because they are on cold turkey from debt. In contrast, the Chinese are postponing their pain by going further into debt (i.e. policy of inflation and force-feeding of credit into the economy). This result in an illusion that America is suffering while China is ‘prospering’ (which is worsened by Chinese government’s propensity to doctor the figures to look good in order to save ‘face’).

But the mob wants to find a scapegoat to blame for their woes. It so happens that the most convenient scapegoat is China (specifically, China’s policy of artificially holding its currency down) because at this point of the cycle, China is looking very good. It is perceived that this policy worsen America’s unemployment rate. By implication, it is perceived that with China’s official unemployment rate much lower, China is ‘prospering’ at America’s expense.

The problem is that if China is to acquiesce to America’s demands today, it will not solve the America’s problem tomorrow. In fact, the immediate effect will be to worsen America’s (and China’s as well) economic woes. Price inflation will rise and market based interest rates will go up, worsening America’s debt deflation problem. The reason is because the Chinese currency control had been in place for too long and that resulted in long-term structural changes to both the US and China’s economies. Removing the control immediately means that both economies will have no time to adjust, compounding the current level of pain for both sides.

For China, if the words of its Vice Commerce Minister Zhong Shan are accurate, the profit margins of many Chinese exporters were less than 2%. By appreciating the yuan, many Chinese exporters will go under, which by implication will have serious impacts on unemployment in China, and by extension, on social stability.

SEO Secrets e-bookBut as we wrote before in Chinese government cornered by inflation, bubbles & rich-poor gap, China has their own inflation problem that will eventually threaten social stability. They are already taking tentative steps to rein in inflation (see Is China going to allow its banks to fail in the upcoming (potentially gigantic) wave of bad debts?). Letting their yuan appreciate is very likely part of their overall plan to re-balance their economy. It will happen eventually. But the problem is, the Chinese wants to do it gradually. But the US politicians, on the other hand, want China to do it quickly in order to appease their electorates. Already, we have American economists like Paul Krugman (who is of the same ideology as Ben Bernanke with regards to money printing to solve economic problems) writing inflammatory articles and egging for a economic fight with China.

So, April 15, 2010 will be an interesting date to watch. If China gets labelled as a “currency manipulator,” then trade tensions jump up a level. If left unchecked, that will result in trade war. If trade war is left unchecked, the gloves will come off and there will be more unsportsmanlike actions from both sides (i.e. covert dirty war). If dirty war goes unchecked, there is a risk of shooting war. We are not saying all these things will happen- our point is that there will be a time and sequence for things to happen.