On the «bombshell» dropped by China on 20 November 2013 (I)Valentin KATASONOV | 29.11.2013 | 00:00 Since 21 November, an article by well-known financial analyst and blogger Michael Snyder under the headline «China announces that it is going to stop stockpiling US dollars» has spread through the media like wildfire. (1)Michael Snyder’s articleWe quote: «China just dropped an absolute bombshell, but it was almost entirely ignored by the mainstream media. The central bank of China has decided that it is ‘no longer in China’s favor to accumulate foreign-exchange reserves’». Michael Snyder’s article predicts that China’s decision will have serious consequences for the United States. According to Snyder, even if this bombshell does not destroy America, it will still cause the country enormous damage. Can it all really be as the American analyst claims? The bombshell itself, according to Snyder, was dropped on 20 November. It was dropped by a deputy governor at the People’s Bank of China in a speech at an economic forum being held at the Tsinghua University. «It’s no longer in China’s favor to accumulate foreign-exchange reserves», writes Bloomberg, quoting the official’s speech. According to the official, the appreciation of the yuan benefits more people in China than it hurts. It is curious that Snyder, who is an experienced blogger («The Economic Collapse» blog) and a shrewd analyst, interpreted the official’s statement so emotionally. In our opinion, there is nothing particularly sensational in his words. Firstly, similar statements have been made in China before (always very cautiously), but they never lead anywhere. At the end of the 1970s, China’s foreign-exchange reserves grew continuously. It is possible to count on the fingers of one hand the short periods of time (months, sometimes quarters) during which China’s accumulation of reserves stopped momentarily. Secondly, the latest statement sounds really very vague. There is no mention, for example, of when exactly the central bank of China is going to stop buying foreign-exchange reserves. And the phrase itself – «It’s no longer in China’s favor to accumulate foreign-exchange reserves» – seems to be intentionally rhetorical.Thirdly, if the central banks and treasuries of some country or other stop buying US Treasury securities and even reduce their US currency reserves, they do not usually announce it so loudly. For example, over the period from the end of January 2013 to the end of July, the Bank of Russia reduced its stockpile of US Treasury securities from USD 164.4 billion to USD 131.6 billion, which means that over the course of six months, it reduced its portfolio of US Treasury obligations by USD 32.8 billion, or by 20 percent. And you will notice that it was done without much fuss. China in the iron embrace of the dollarThere is no need to say that much about the fact that the enormous and constantly growing foreign-exchange reserves were becoming a headache for the central bank’s senior management and the Chinese government. According to the Bloomberg agency’s calculations, over the period from the end of 2004 to the end of 2012, China’s foreign-exchange reserves (FER) grew by 721 percent and reached USD 3.3 trillion. While China’s share of the world’s FER stood at 14 percent at the end of 2004, by the end of 2012 this figure had increased to 30.2 percent. The agency estimates that at the end of 2012, US currency accounted for more than USD 2 trillion of China’s FER. At the end of the third quarter of 2013, it amounted to USD 3.66 trillion, which exceeds the annual GDP of a country like Germany. China does not disclose the composition of its international reserves by currency. However, from time to time the People’s Bank of China organises a leaking of information on the issue. The first such information appeared in September 2010. The country’s official financial publication, China Securities Journal, reported that as at the middle of 2010, two thirds of its reserves (65 percent) were held in US dollars, 26 percent in euros, 5 percent in pound sterling and 3 percent in Japanese yen. At a later date, expert estimates emerged putting the share of US currency in Chinese reserves at approximately the 2010 level. At the same time, representatives of the European Central Bank (ECB) admitted that the share of the euro in China’s international reserves was extremely small. It should be borne in mind that, to date, the People’s Bank of China has entered into currency swap agreements (the exchange of national currency units) with approximately 20 countries. And the currencies of these countries are in the reserves of the People’s Bank of China. The dollar was, and still is, the main currency in China’s international reserves. The US is China’s main trading partner, and all Chinese-American trade is conducted in dollars. Since China has a steady surplus in trade with the United States, there has been a continuous accumulation of US currency in China’s foreign-exchange reserves.China’s dollar currency reserves are no more than US Treasury notes, which are extremely difficult to redeem. China is trying to do it, directing part of its reserves into special (sovereign) funds which can put money into Treasury securities and bank deposits, as well as into the stocks and shares of foreign companies in the real economic sector. The US and other countries in the west, however, are preventing investments like these in every way possible and are introducing various restrictions and prohibitions for sovereign fund investments under the pretext of «protecting national security». There are suspicions that China is trying to convert part of its international foreign exchange reserves into gold, and that these gold reserves do not amount to 1,000 tonnes (China’s official figures), but several times more. Moreover, the overwhelming majority of China’s dollar currency reserves are not serving the interests of China but of America, which receives virtually free credit from China. On certain «mines» of Chinese manufacturingIf we are talking about the bombshells that China has dropped, or is preparing to drop, as part of its opposition to the United States, then we are not talking about the statement made by a deputy governor of the People’s Bank of China on 20 November this year. This statement could be compared to the explosion of the detonator. There have been quite a number of bombshells over the past three years, however. They have not yet exploded, but sooner or later they are going to explode. It would be more correct to call them delayed-action mines. Here are some of them: 1. The decision taken by the People’s Bank of China in the summer of 2010 to reinstate a «managed float» of the yuan. 2. The approval, in 2011, of the latest 12th Five Year Plan for China’s socio-economic development. The plan poses the problem of making the yuan an international currency, though it does not contain any kind of detailed explanation of what should be understood by the status of «international currency», or any algorithms for solving this problem. 3. The reaching of agreements between China and a number of other countries on a transition to the use of national currencies in mutual trade. Of these, China’s agreement with Japan, which stipulates the use of just the yuan and the yen in mutual payments, is particularly worth pointing out. Those involved are abandoning other currencies (including the US dollar). There is also an agreement on the mutual use of national currencies in payments between China and Russia. 4. The People’s Bank of China has also entered into currency swap agreements – i.e. the exchange of national currency units for the facilitation of mutual payments without using the US dollar – with a number of other countries (nearly 20 in total).5. The agreement reached between China and Iran at the end of 2011-beginning of 2012 for the payment of oil supplied to China in yuan. There is a parallel agreement with Russia that such payments will be executed with the mediation of Russian banks. 6. Beijing’s appeal on 6 September 2012 to every country that supplies China with oil proposing that oil payments be made in yuan (China’s main oil suppliers are Saudi Arabia, Iran, Venezuela, Angola, Russia, Oman and the Sudan).7. A statement by the central bank of Australia that it is planning on converting 5 percent of its international reserves into Chinese treasury bonds (this was preceded by talks between China and Australia). 8. The agreement reached in October 2013 between Beijing and London that currency trading between the yuan and pound sterling will begin at the Royal Exchange, as well as the permission given by the British authorities to Chinese banks, allowing them to open up branches in the City of London. The agreement between Britain and China virtually involves London’s transformation into a kind of offshore company for Chinese banks and financial companies. China previously entered into similar agreements with Hong Kong, Singapore and Taiwan. 9. The announcement in November 2013 by the President of the Shanghai Futures Exchange on the launch of a new financial instrument – a crude oil futures contract priced in yuan. It is assumed that this instrument will be used in the East Asia region. 10. The closed plenum of the Central Committee of the Communist Party of China held in November 2013, at which a plan was discussed for Chinese social and economic reforms for the period up to 2020. The outcome document, published after the plenum, says that one of the priorities of China’s economic policy is the transformation of the yuan into an international currency. An important tool for achieving this goal is called the rapid transition of the yuan to full currency convertibility. In reality, each of the steps listed above are delayed-action mines. The explosions of these mines could change the world beyond recognition. Each of these steps are worthy of individual analysis. Take Beijing’s appeal to its oil suppliers with the suggestion that payments be made in yuan, for example, made on 6 September 2012. After discovering this secret information, Lindsey Williams called it the sensation of the 21st century. In his opinion, 6 September 2012 can be interpreted as the day that China launched a nuclear strike against America and the Federal Reserve, and as the beginning of the end of the oil-dollar standard that has existed for almost 40 years. Of course Williams, just like Michael Snyder, is creating an artificial effect of sensation. Clearly, no nuclear strike took place against America and the Federal Reserve on 6 September 2012. It was nothing but the next delayed-action mine being laid down. All of the steps listed above are aimed at liberating China from the iron embrace of the American dollar on the one hand, and converting the yuan into an international currency on the other. It is true that there are big differences of opinion in the Chinese government about how these aims should be achieved and what should be understood by an «international» yuan. It is exactly for this reason that the decision was taken to make the latest plenum of the Central Committee of the Communist Party of China a closed plenum. Judging by a number of signs, it involved an extremely heated discussion, and the struggle between free marketeers and statists continued. The free marketeers are slowly but surely pulling the rope over to their side, although the statists are not laying down their arms. The wording of the outcome document is rather vague. Nevertheless, it is difficult not to notice the trend towards the future liberalisation of China’s economic policy. The logic of Chinese liberalsLet us return to the statement by a deputy governor of the People’s Bank of China on 20 November this year. Its meaning becomes a little clearer if it is compared with the statement made several days before by the governor of the People’s Bank of China, Zhou Xiaochuan. He announced that the central bank would «mostly» abandon currency interventions. So these kinds of statements by Chinese central bank officials were not made from the time when the yuan’s fixed rate was cancelled. You will recall that up until 2005, the yuan had a fixed rate of exchange against the US dollar and other freely convertible currencies. Moreover, the rate was clearly undervalued, which stimulated the export of Chinese goods to the global market, including to America. It was this undervalued exchange rate for the yuan that became an important reason for China’s winning pace throughout the world it, and it caused an active surplus in the country’s balance of payments and trade. Under pressure from America and other rival countries, Beijing was forced to abandon the yuan’s fixed rate of exchange and switch to a so-called «managed float» of the national currency’s exchange rate. Firstly, this regime stipulated that fluctuations in the yuan’s exchange rate should be minimal (so as not to throw national manufacturing and trade out of gear). Secondly, the yuan should continue to be a «cheap» currency as before. And for this, so-called currency interventions were needed. These refer to the banal purchase of «green paper» by the central bank of China, or the creation of an artificially inflated demand for US currency, in other words. Hence the dollar’s inflated exchange rate and the yuan’s undervalued exchange rate. This is how the central banks of all the countries on the periphery of global capitalism act, however.The logic of Chinese liberals is very simple: China does not need a stable and cheap yuan. It is far too costly for the country, since they have to concern themselves with the constant purchase of American currency and the accumulation of reserves. A completely free yuan does not need large reserves. Thus the headache that has been plaguing the country’s government for many years is disappearing, and the liberals would now like to put a lid on the matter. (To be concluded...)(1) Michael Snyder. China Announces That It Is Going To Stop Stockpiling US Dollars // The Economic Collapse, November 21st, 2013
On the «bombshell» dropped by China on 20 November 2013 (II)Valentin KATASONOV | 01.12.2013 | 00:00The possible repercussions of «liberating» the yuanWe, however, are not going to put a lid on it as the Chinese liberals would like to do, but are going to continue examining the chain of cause and effect: 1. A free yuan would begin its own rapid rise; from cheap, it would quickly become expensive. 2. A rise in the yuan’s exchange rate would lead to a fall in the international competitiveness of Chinese goods. There would be a relatively rapid fall in the volume of exports, and imports would increase. China’s surplus trade balance would quickly switch from positive to negative. 3. The enormous foreign-exchange reserves that China has at the moment would, over several years, melt away like the winter snow melts into slushy puddles. 4. Chinese businesses, deprived of a market, would begin to grind to a halt, and millions and tens of millions of employees would find themselves out on the street. The real economic sector would quickly begin to deteriorate. 5. In order to stop businesses going bankrupt, and for the government to import essential goods, China would have to resort to help from foreign creditors and investors. 6. The West would give this kind of help willingly. As a result, assets in the Chinese economy would pass into the hands of transnational corporations, while in terms of external public debt, China would be in a worse position than Greece is today. 7. In dismantling its foreign exchange regulations for capital transactions, China could find itself completely unprotected from the impact of global financial crises. Speculators like Soros could start speculating on the fall of the yuan. China would then need their foreign-exchange reserves to withstand these financial speculators, but would no longer have them. 8. Very quickly, the yuan would become a weak currency, having lost even those few signs of an international currency it has now, in 2013. Moreover, the weakness of the yuan would not depend that heavily on whether the dollar maintains its own position or not. The yuan would be weak against the currencies of those countries that have preserved their real economic sectors. The unfortunate experience of JapanAt this point, one could think of the dismal fate of Japan, which two decades ago seriously thought that the yen could draw level with the US dollar or even replace it. Incidentally, based on many relative economic indicators, the Japan at that time looked even better than China looks today. Present-day Japan is still in the world’s seven leading economically developed countries, although it now plays second fiddle. Let us once again go back to the outcome document of the last plenum of the Central Committee of the Communist Party of China. It particularly highlights the need for the rapid currency liberalisation of China’s capital transactions. Put simply, in order to carry out cross-border transactions (the export and import of capital), Chinese and foreign investors should not experience any kind of difficulties in converting the yuan into foreign currencies or, likewise, foreign currencies into the yuan. Why the hurry? Evidently, the Chinese liberals are working out their chess game more than one move at a time. They are aware that should the yuan’s exchange rate be liberalised, the country would very quickly be deprived of export revenue, with everything that that implies. They are aware of it, and are expecting export revenue to be replaced with money from foreign investors. The latter would require a full conversion of the yuan, of course, not only in order to invest their own dollars and euro into the Chinese economy, but also in order to freely withdraw investment income from the country in those same dollars and euro. However, replacing export revenue with foreign investment is an extremely complicated business. Suffice it to say that in 2012, revenue from Chinese exports amounted to nearly USD 2 trillion, while the influx of direct foreign investment in the Chinese economy was just USD 120 billion. No kind of currency liberalisation is able to guarantee complete substitution, if for no other reason than that the world does not yet have that amount of direct international investments. Also in 2012, direct cross-border investments as a whole consisted of just USD 1.3 trillion. As global experience shows, the full liberalisation of capital transactions in countries on the periphery of global capitalism usually leads to speculators with their hot money, rather than strategic investors, swooping down on the country. Investors like these do not develop the economy, but pick at its assets and destabilise the work of those businesses still clinging to life. The full liberalisation of capital transactions at the end of the 1980s-beginning of the 1990s that took place in a number of ASEAN countries known back then as the «Asian Tigers» resulted in these tigers becoming pitiful kittens. The result of liberalising the movement of capital fully emerged during the financial crisis in Southeast Asia in 1998. It inflicted incalculable damage on the economies of these former tigers... At the November plenum of the Central Committee of the Communist Party of China, emphasis was placed on stepping up the export of capital from China. A strong yuan is definitely needed to improve the efficiency of this kind of export. Following the cancellation of the yuan’s controlled rate of exchange, the Chinese currency’s exchange rate will go up for a time. I do not know how long this growth will continue. Maybe a year or two, but it is unlikely to be more than that. This is the time that capital should be withdrawn from China and invested in financial and non-financial assets in other countries. It seems that Chinese liberals are getting ready for the escape of capital (and their own capital at the same time) from the country of «victorious socialism». Liberal Chinese officials only need highbrow conversations on the yuan as an international currency and currency liberalisation for an escape from the country. As it happens, according to the international non-profit organisation Global Financial Integrity (GFI), during the first decade of the 21st century, capital was illegally removed from China to the tune of USD 2.74 trillion. In 2010 alone, the illegal withdrawal of capital amounted to USD 420 billion, which is approximately equal to one quarter of China’s total export revenue in that same year. The removal of capital from China is risky for its organisers and beneficiaries (corrupt officials and associated businessmen). It is these shady exporters of capital that are primarily lobbying for the speedy cancellation of all restrictions on the withdrawal of capital, the conversion of the yuan and its transformation into a strong currency. On the fears of Michael SnyderLet us once again return to Michael Snyder’s article. He is an American. Therefore, he is most concerned about the repercussions for America of the People’s Bank of China stopping any further accumulation of dollars. In his opinion, the brunt of the Chinese bombshell will fall on the United States. America has still not had time to recover from the events in October of this year. You will recall that government funding in the country was put on hold because the US Congress did not approve the federal budget for the next financial year. And the main reason why it was not approved is that the government had exhausted its borrowing limit. The events in October show how shaky the well-being of satiated America really is. It depends on countries like China that are faithfully buying up US Treasury bonds. In October this year, every tenth dollar of these bond loans was from China. Losing 1/10 of its loans would be keenly felt by America. What is more, other donors to Uncle Sam could follow China. The US Treasury’s loss of nourishment from China could lead to a sharp rise in interest rates on US government bonds, which could lead to a whole host of problems for the American economy. A significant rise in the percentage of so-called interest expenditure (expenditure on the servicing of public debt) in the federal budget, for example. A rise in the cost of loans and credit lines would also become unavoidable, which would put paid to any hopes of restoring the American economy as set forth in the quantitative easing programme. Yes, Michael Snyder and other Americans do have cause for concern. For the moment, however, China cannot be regarded as the main reason for America’s troubles. The fact is that in September 2012, the US Federal Reserve System launched a third round of quantitative easing (QE). Its official aim was to restore the American economy, which was suffering from the financial crisis, and bring unemployment down to a safe level. To accomplish this, the FRS throws USD 85 billion into the finance and banking sector every month by purchasing the mortgage-backed securities of American banks on the secondary market (for USD 40 billion) and US Treasury obligations (for USD 85 billion). Quantitative easing has resulted in the Federal Reserve becoming the main buyer of Treasury securities over the last year. Foreign central banks and other buyers have found themselves with very little. Why the FRS made such a sharp turnaround over the last year is difficult to say at present. Maybe it is because Washington decided to insure itself against possible boycotts from central banks in other countries. From this it follows that: even if the statement by a high-ranking official from the People’s Bank of China on 20 November becomes a reality, i.e. the central bank of China stops buying American securities completely, the collapse of America will not happen immediately. The collapse of America might happen, but for a different reason – it will be because the Federal Reserve is unable to withstand the overload caused by the need to purchase enormous amounts of US Treasury bonds. China anticipates difficult times aheadFor China to stop accumulating dollars, meanwhile, would be suicidal. The Chinese economy is like an aeroplane that has been circling in the air for a long time because the pilot cannot see a convenient place to land. The petrol is running out and there is a danger that the aeroplane is going to plummet to earth. Beijing could only have decided to stop its accumulation of dollars if it had an alternate airfield on which it was possible to land the aeroplane called the Chinese economy. This airfield should be understood to mean China’s domestic market. The Chinese government has been conscious of it for a long time and over the past ten years has made weak attempts to reorient its manufacturing industry and other sectors of the economy towards satisfying domestic demand and creating a single national economic system. The country continued to be dragged along its tracks by the West, however, until the end of the 1970s-beginning of the 1980s. The country was unable to move over to the rail tracks of independent economic development. China did not have a domestic market then, just as it does not now, which is why it depends on external markets and the American dollar. It appears that any plans to reorient the Chinese economy towards the domestic market were put paid to at the November (2013) plenum of the Central Committee of the Communist Party of China. The Chinese government decided to continue its policy of further integrating China into the global economy, but the nature of this integration is changing before our very eyes. Beginning with Deng Xiaoping, China has spent the last three decades conquering the world’s commodities markets. The country turned into a global workshop serving half the world, and China was the model for a dependent type of industrial capitalism that had retained its socialist rhetoric. Socialism in China is understood to mean an eastern variety of state capitalism. Following the global economic crisis, since about 2010, something has emerged that Beijing finds completely unacceptable: China’s opportunities for the extensive development of the world’s commodities markets have been exhausted. The country’s economic growth rates have begun to slow, which is not yet a catastrophe, but it is worrying. Between 2010 and 2011, China’s party-state leadership agonisingly searched for a way out of the emerging impasse. The 12th Five Year Plan, adopted in 2011, implicitly reflected the adjustment of the country’s economic policy: an orientation towards the speedy development of its domestic financial market, the gradual opening up of this market to the outside world, and the development and conquest of the world’s financial markets. China’s leaders embarked upon a policy to transform industrial capitalism into financial capitalism. Financial capitalism has already been long-established in the countries of the «Golden Billion», however. The West, and first and foremost the United States, does not need competition in the form of Chinese financial capitalism. China’s creation of its own domestic financial market, the partial internationalisation of the yuan, and full monetary and financial liberalisation are just speeding up China’s conquest by the Grandees of Western financial capital. There is a strong possibility that China is going to be facing some hard times in the years to come.