Stacey Capps Leggieri, Fragilis from h2g2 (![[info]](http://p-stat.livejournal.com/img/userinfo.gif){kind=small} opheliasclone) wrote,@ 2005-07-22 16:50:00 |
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Discussing China's currency
I figure there are a lot of people reading this journal who don't know why they should care about the recent change in China's currency. And on a immediate personal level, they've got a point. But when it comes to understanding our society and its future, I'd like to do a little explaining. If I've wasted anyone's time, they can feel free to complain in a reply to this post.
On a technical note, this is a running matter of interest for me. I grew up in family where finances were never discussed and were often alluded to being very frightening. Even the word bank account was taboo. So I took an interest in learning about America's economy as a sort of stand-in.
China and America have had a very weird relationship in this way, and I've taken note of it. I'm also condensing some of what I've read online over the past couple of days. If anybody really wants sources, ask now. I'll probably have forgotten what info was where in a month or so.
So what's the deal?
For most of a decade, the Chinese yuan has been set at a little under 9 to a dollar. As the U.S. dollar changed price, the Chinese yuan changed with it. China's economy has been prospering. So there's reason to believe that the value of the yuan would have gone up significantly if it had not been artificially set.
This rise in the value of the yuan would have made Chinese goods more expensive on foreign shelves, which would in turn have cooled the growth of the Chinese economy. This would have eventually led to a sort of global economic stability. Instead, what we see is a fast rising Chinese economy with no end in sight.
This has caused consternation with Westernized consumer nations who are watching China take over their economic staples. In America, for example, the steel industry and the textile industry claim victim status. Also, various third world competitors feel they can't compete on fair terms with China, forcing them into a permanent second class status.
The recent change is that now the yuan is worth a little over 2 percent more than it used to be. Rather than comparing it only to the American dollar, a number of different foreign currencies will be used to benchmark the yuan on a daily basis. China won't say exactly which ones or what the formula will be, perhaps in part because they want to retain the right to change the formula as time goes on. Right now they are indicating that the value of the yuan won't change by more than 6% (up or down) per year.
American companies wanted this, thinking it will help them survive cheap imports. It won't.
American companies in particular have been lobbying the administration to pressure China. They are tired of retailers (WalMart in particular) asking them for a "China price" for their goods. Originally "China price" meant the manufacturer needed to offer a product at a price closer to China's goods and prove it was worth the extra coin. More recently, it has meant setting up special limited deals yielding zero profit in order to pacify a powerful retailer that is threatening to change to a Chinese company otherwise.
Unfortunately, the value of the yuan is a relavitely small factor in the cheapness of Chinese goods. The main factor is China's cheap labor, fueled by a lack of labor laws and extremely high population density. A change of 2% or so can probably be absorbed by most Chinese businesses. So there's no reason to believe American companies are going to get any real relief from this change.
Of course, American companies are hoping that 2% today means 6% over the next year, 18% over three years, and so forth. But China has absolutely no intention of sabotaging their own economy, or they would surely tell us so to keep us from grumbling. They're pacifying us because they are hosting this fall's world trade summit. They'll be free to make lucrative deals without being bogged down by talk of their currency.
At one point in the '80s, America was very seriously talking about trade embargoes and other extreme measures. China revalued their currency over the course of.... I dunno, a few months or a year. It went up by 3% and everyone hoped it would keep rising. No way. It was the same bait and switch then as now.
Instead, this change has a small but real chance of destabilizing our economy altogether.
China has spent a couple of decades now appeasing America's government to avoid sanctions. One way they did this was by purchasing lots of U.S. Treasury Bonds, the little IOUs the federal government sells to pay for each year's spending deficit. This has gone hand in hand with the valuation of the yuen as being pegged to the dollar, and it also served the function of propping up China's treasury reserves during the Asian economic crisis. Now the crisis is over, and China has received the message from us that they are not to hang with bated breath onto the dollar anymore.
They will more than likely slow down or maybe even stop purchasing U.S. Treasury Bonds. They'll probably buy bonds from Europe, Russia, a few maybe from other Asian countries. They will do what any smart investor does and diversify their portfolio. This will almost certainly include purchases of internationally recognized brand names, giving China easier access to our markets. For instance, Chinese company Lenovo recently bought IBM's entire computer manufacturing and sales division including the ThinkPad trademark. In the UK, Nanjing Automotive has bought the MG Rover brand of car. In both cases, the Chinese government owns stock in the purchasing companies. Financial banks tied to the Chinese government made loans available to help.
If China stops buying Treasury Bonds from America, the deficit will loom much more largely in our consciousness. Right now America's getting away with two simultaneous wars and a repeal of many taxes on the super rich. This will be harder if nobody's willing to buy our bonds to make up the difference between what we spend money on and what we're receiving in taxes. If China's actions changed drastically enough, it might alert the world that America's economic math doesn't really add up. This could lead to a broad sell-off of American assets, which in panic form leads to much the same problem as the Great Depression.
There are things America can do to prevent the worst, but chances are it will do nothing.
One possibility might be to hock our future altogether by offering far better payoffs for bondholders in the distant future. China will still stop buying, but someone else will take up the slack. This sounds fine for now, but it sounds pretty awful a few decades from now. Many bond payoffs would come due during or shortly after the big hump where a great number of baby boomers are receiving medicare and social security. The result will be a spoilt economy where multinationals flee and leave people jobless, a near lack of government services, extremely high taxes, or some weird combination of the three.
Another possibility would be to scale back government spending and/or raise taxes to the previous levels or beyond. Neither looks very likely under the current administration. A Democratic President and Congress would likely repeal the new tax breaks for the rich. A Democratic Congress alone could allow them to eventually lapse. But that's a tall order when considering the current Republican lead in Congress. When it comes to the wars in Afghanistan and Iraq, there seem to be very few politicians on either side willing to voice an interest in reducing our military presence sooner rather than later. Maybe that will change. Maybe not.
If China stops buying Treasury Bonds and we keep on the present course, the government will have to borrow from lending institutions at higher and higher interest rates. Over time, lending institutions will show less and less confidence in America ever paying them back through any means other than by taking out another loan elsewhere. It will all start to look like a pyramid scheme where nobody wants to be at the bottom. As banks finally refuse loans to the American government, the American dollar will get devalued. Possibly quite a lot. A little's fine, but you only have to look at Mexico's peso to see just how bad it can get.
China probably won't call economic checkmate on America. We're their best customer. But remember, they are developing markets internationally and trying to end their dependence on us. If the day ever comes when they try to cash in a large percentage of those Treasury Bonds early, I'm going to get really worried.
Even if our economy is never threatened, the adjustment period could be a bit bumpy.
Ironically, the change in China's yuan will have more of a bearing on their imports than their exports. They will be able to buy more foreign goods for less. And what foreign good does China buy most these days? Why, oil, of course! Gasoline to fuel their growing economy.
Unfortunately, everyone else wants that oil too. But China's increased buying power and surging demand will probably make it more expensive for everyone else, at least in the short term. So from a consumer's perspective, that 2% savings you weren't going to get anyway is gonna bite you in the butt by the time that diesel powered truck vrooms into WalMart's loading dock with the stuff you want to buy.
Chinese businesses filled out a survey last year estimating that they could absorb a 5-10% increase in the value of the yuan. But giving China a 5-10% discount on oil in the global market would be harder to absorb. So if you drive, now might be a good time to consider a car with good fuel economy.
Speaking of fuel economy, I blame American car manufacturers' lobbying against fuel economy increases for their economic woes today. It's a sorry state when the only way these companies can make sales quotas is to sell cars at or below cost. Only Americans are silly enough to purchase gas guzzlers in today's economic climate, and even they're having second thoughts. By refusing to accept federal initiatives to increase fuel efficiency, Ford and GM et al have guaranteed they won't be able to compete internationally. And now that even Americans want to save cash on gas, they can't even compete domestically anymore.
This all goes to show that American businessmen, like everyone else, should be careful what they wish for.
I figure there are a lot of people reading this journal who don't know why they should care about the recent change in China's currency. And on a immediate personal level, they've got a point. But when it comes to understanding our society and its future, I'd like to do a little explaining. If I've wasted anyone's time, they can feel free to complain in a reply to this post.
On a technical note, this is a running matter of interest for me. I grew up in family where finances were never discussed and were often alluded to being very frightening. Even the word bank account was taboo. So I took an interest in learning about America's economy as a sort of stand-in.
China and America have had a very weird relationship in this way, and I've taken note of it. I'm also condensing some of what I've read online over the past couple of days. If anybody really wants sources, ask now. I'll probably have forgotten what info was where in a month or so.
So what's the deal?
For most of a decade, the Chinese yuan has been set at a little under 9 to a dollar. As the U.S. dollar changed price, the Chinese yuan changed with it. China's economy has been prospering. So there's reason to believe that the value of the yuan would have gone up significantly if it had not been artificially set.
This rise in the value of the yuan would have made Chinese goods more expensive on foreign shelves, which would in turn have cooled the growth of the Chinese economy. This would have eventually led to a sort of global economic stability. Instead, what we see is a fast rising Chinese economy with no end in sight.
This has caused consternation with Westernized consumer nations who are watching China take over their economic staples. In America, for example, the steel industry and the textile industry claim victim status. Also, various third world competitors feel they can't compete on fair terms with China, forcing them into a permanent second class status.
The recent change is that now the yuan is worth a little over 2 percent more than it used to be. Rather than comparing it only to the American dollar, a number of different foreign currencies will be used to benchmark the yuan on a daily basis. China won't say exactly which ones or what the formula will be, perhaps in part because they want to retain the right to change the formula as time goes on. Right now they are indicating that the value of the yuan won't change by more than 6% (up or down) per year.
American companies wanted this, thinking it will help them survive cheap imports. It won't.
American companies in particular have been lobbying the administration to pressure China. They are tired of retailers (WalMart in particular) asking them for a "China price" for their goods. Originally "China price" meant the manufacturer needed to offer a product at a price closer to China's goods and prove it was worth the extra coin. More recently, it has meant setting up special limited deals yielding zero profit in order to pacify a powerful retailer that is threatening to change to a Chinese company otherwise.
Unfortunately, the value of the yuan is a relavitely small factor in the cheapness of Chinese goods. The main factor is China's cheap labor, fueled by a lack of labor laws and extremely high population density. A change of 2% or so can probably be absorbed by most Chinese businesses. So there's no reason to believe American companies are going to get any real relief from this change.
Of course, American companies are hoping that 2% today means 6% over the next year, 18% over three years, and so forth. But China has absolutely no intention of sabotaging their own economy, or they would surely tell us so to keep us from grumbling. They're pacifying us because they are hosting this fall's world trade summit. They'll be free to make lucrative deals without being bogged down by talk of their currency.
At one point in the '80s, America was very seriously talking about trade embargoes and other extreme measures. China revalued their currency over the course of.... I dunno, a few months or a year. It went up by 3% and everyone hoped it would keep rising. No way. It was the same bait and switch then as now.
Instead, this change has a small but real chance of destabilizing our economy altogether.
China has spent a couple of decades now appeasing America's government to avoid sanctions. One way they did this was by purchasing lots of U.S. Treasury Bonds, the little IOUs the federal government sells to pay for each year's spending deficit. This has gone hand in hand with the valuation of the yuen as being pegged to the dollar, and it also served the function of propping up China's treasury reserves during the Asian economic crisis. Now the crisis is over, and China has received the message from us that they are not to hang with bated breath onto the dollar anymore.
They will more than likely slow down or maybe even stop purchasing U.S. Treasury Bonds. They'll probably buy bonds from Europe, Russia, a few maybe from other Asian countries. They will do what any smart investor does and diversify their portfolio. This will almost certainly include purchases of internationally recognized brand names, giving China easier access to our markets. For instance, Chinese company Lenovo recently bought IBM's entire computer manufacturing and sales division including the ThinkPad trademark. In the UK, Nanjing Automotive has bought the MG Rover brand of car. In both cases, the Chinese government owns stock in the purchasing companies. Financial banks tied to the Chinese government made loans available to help.
If China stops buying Treasury Bonds from America, the deficit will loom much more largely in our consciousness. Right now America's getting away with two simultaneous wars and a repeal of many taxes on the super rich. This will be harder if nobody's willing to buy our bonds to make up the difference between what we spend money on and what we're receiving in taxes. If China's actions changed drastically enough, it might alert the world that America's economic math doesn't really add up. This could lead to a broad sell-off of American assets, which in panic form leads to much the same problem as the Great Depression.
There are things America can do to prevent the worst, but chances are it will do nothing.
One possibility might be to hock our future altogether by offering far better payoffs for bondholders in the distant future. China will still stop buying, but someone else will take up the slack. This sounds fine for now, but it sounds pretty awful a few decades from now. Many bond payoffs would come due during or shortly after the big hump where a great number of baby boomers are receiving medicare and social security. The result will be a spoilt economy where multinationals flee and leave people jobless, a near lack of government services, extremely high taxes, or some weird combination of the three.
Another possibility would be to scale back government spending and/or raise taxes to the previous levels or beyond. Neither looks very likely under the current administration. A Democratic President and Congress would likely repeal the new tax breaks for the rich. A Democratic Congress alone could allow them to eventually lapse. But that's a tall order when considering the current Republican lead in Congress. When it comes to the wars in Afghanistan and Iraq, there seem to be very few politicians on either side willing to voice an interest in reducing our military presence sooner rather than later. Maybe that will change. Maybe not.
If China stops buying Treasury Bonds and we keep on the present course, the government will have to borrow from lending institutions at higher and higher interest rates. Over time, lending institutions will show less and less confidence in America ever paying them back through any means other than by taking out another loan elsewhere. It will all start to look like a pyramid scheme where nobody wants to be at the bottom. As banks finally refuse loans to the American government, the American dollar will get devalued. Possibly quite a lot. A little's fine, but you only have to look at Mexico's peso to see just how bad it can get.
China probably won't call economic checkmate on America. We're their best customer. But remember, they are developing markets internationally and trying to end their dependence on us. If the day ever comes when they try to cash in a large percentage of those Treasury Bonds early, I'm going to get really worried.
Even if our economy is never threatened, the adjustment period could be a bit bumpy.
Ironically, the change in China's yuan will have more of a bearing on their imports than their exports. They will be able to buy more foreign goods for less. And what foreign good does China buy most these days? Why, oil, of course! Gasoline to fuel their growing economy.
Unfortunately, everyone else wants that oil too. But China's increased buying power and surging demand will probably make it more expensive for everyone else, at least in the short term. So from a consumer's perspective, that 2% savings you weren't going to get anyway is gonna bite you in the butt by the time that diesel powered truck vrooms into WalMart's loading dock with the stuff you want to buy.
Chinese businesses filled out a survey last year estimating that they could absorb a 5-10% increase in the value of the yuan. But giving China a 5-10% discount on oil in the global market would be harder to absorb. So if you drive, now might be a good time to consider a car with good fuel economy.
Speaking of fuel economy, I blame American car manufacturers' lobbying against fuel economy increases for their economic woes today. It's a sorry state when the only way these companies can make sales quotas is to sell cars at or below cost. Only Americans are silly enough to purchase gas guzzlers in today's economic climate, and even they're having second thoughts. By refusing to accept federal initiatives to increase fuel efficiency, Ford and GM et al have guaranteed they won't be able to compete internationally. And now that even Americans want to save cash on gas, they can't even compete domestically anymore.
This all goes to show that American businessmen, like everyone else, should be careful what they wish for.
