The China Ultimatum
There’s been a finance related news item that’s been doing the rounds on various sites which started with a story by the Telegraph’s Ambrose Evans-Pritchard expanding on the threat that China may use its current financial position as a weapon against the US economy if they continue to pressure Beijing to strengthen the Yuan. All very dramatic it sounds too :
China threatens ‘nuclear option’ of dollar sales
The Chinese government has begun a concerted campaign of economic threats against the United States, hinting that it may liquidate its vast holding of US treasuries if Washington imposes trade sanctions to force a Yuan revaluation.
Two officials at leading Communist Party bodies have given interviews in recent days warning - for the first time - that Beijing may use its $1.33 trillion (£658bn) of foreign reserves as a political weapon to counter pressure from the US Congress. Shifts in Chinese policy are often announced through key think tanks and academies.
Described as China’s “nuclear option” in the state media, such action could trigger a dollar crash at a time when the US currency is already breaking down through historic support levels.
It would also cause a spike in US bond yields, hammering the US housing market and perhaps tipping the economy into recession. It is estimated that China holds over $900bn in a mix of US bonds.
The thing is, can they really do that? I’ve had these sort of discussions with people before and the typical counter argument goes that they wouldn’t do that because it would harm them more as much as the US but this is a flawed argument based on the notion that money is important to the Chinese government; I rather suspect that ideology and power is a higher priority, so I’d say its possible they might want to do this.
Is China Playing Puppet Master?
But would it work?
China-US: Double bubbles in danger of colliding
China recycles trade surplus into US Treasury bonds
American companies may have forgotten what Henry Ford propounded when he first built his Model T: If you do not pay high enough wages to your workers, they can’t afford to buy your product. One simple basis for that Bush boom is that China is recycling its US$100 billion-plus trade surplus with the US back into dollars, and especially into US Treasury bonds. Almost half of the US Treasury bonds are now owned in Asia. So China is financing Bush’s bold economic experiment: running two or more wars simultaneously with a huge budget and trade deficit, and equally huge tax handouts for the richest Americans.
So China is financing the American consumers, locking the two counties into a circular feeding cycle and fuelling the debt and asset bubbles.
Talking of bubbles lets get the final word from the bubble king himself, Alan Greenspan, Jedi Master of stating the bleedin’ obvious :
Why investors fear a China treasury dump
“Asked at a commercial real estate conference if investors should be worried about this oft-cited concern, Greenspan said: ‘I wouldn’t be, no.’
“Still, Greenspan said the reason such a withdrawal was unlikely was that China would not have anyone to sell the securities to…
So there you go. They could cause a shock but it would loose its force very quickly as the buyers would dry-up almost immediately, but who knows what tomorrow will bring.
You know that my website’s name is based on the Chinese adage and this has been there policy - building strength around the world - I wrote a long post a long time back on the whole matter. I also keep the Chinese government site in my sidebar.
This appears to be the first real rattling of the sabres and I think the U.S. knows it has a sleeping moster on its hands. Leave Russia out of it for now.
Even if the Chinese don’t dump they’re not going to be happy propping up the US by exchanging manufactured goods for junk paper indefinitely.
As other markets for their goods develop, including their own internal markets, they’re going to be a lot fussier about who they trade with and what currency they’ll accept for their goods.
But at this moment in time if any one country is holding the US by its economic nuts it’s arguably Saudi - though there’s not so much about that, or the implications, in the newspapers…
Absolutely true Stef. The symbiotic relationship between Saudi Arabia and the US is an interesting one but has been souring since the Iraq invasion with a slow migration into Euro holdings [I wrote about it here]; Bush’s “new vision” of the ME is not to the Saudi advantage.
I’ll admit that the Chinese strategy seems somewhat opaque but remember that cheap manufactured goods in a globalized economy depend entirely on cheap oil, once we are past peak the model breaks-down. This will leave import economies with a broken local manufacturing base and poor investment leverage in the face of accumulated debt, but I’m sure the Chinese have thought of this.
One thing is for sure, the next twenty years are going to be a rollercoaster ride.
“The notion that China cannot exercise its power without losing its US markets is wrong. American consumers are as dependent on imports of manufactured goods from China as they are on imported oil. In addition, the profits of US brand name companies are dependent on the sale to Americans of the products that they make in China. The US cannot, in retaliation, block the import of goods and services from China without delivering a knock-out punch to US companies and US consumers. China has many markets and can afford to lose the US market easier than the US can afford to lose the American brand names on Wal-Mart’s shelves that are made in China. Indeed, the US is even dependent on China for advanced technology products. If truth be known, so much US production has been moved to China that many items on which consumers depend are no longer produced in America. ”
http://tinyurl.com/2c7ue5
China’s “Nuclear Option” is real - Info. Clearing Hse.11/8/07
By Paul Craig Roberts
Also 80 ‘ish mostly well informed comments.
didn’t credit you earlier - sorry. Have done so now.
That would be scary. Can I get free investment tips here, or no?
ubermouth @
Now would not be a good time for the inexperienced investor to enter the market, it seems that you have to be an institutional investor to get a free bail-out after you have made idiotic investments.
james @
No problem, thanks.
ziz @
Interesting article, thanks. Although the author also gives credence to the “Nuclear Option” [which I dispute] but then goes on to describe a tactic more akin to a slow roasting, which I think is more likely. Either way, the US economy has its balls in a vice.
I read this excellent article few days ago. I have been reading on the markets since then avidly. Nobody knows how this ‘bras de fer’ between China and the US will end. The US is loosing grip. Remember, in one of his Al-Jazeera adresses Bin Laden stated that he will drag the US to financial decline. War are certainly profiting some but definitely sucking the economy. Our modern economies have never lived long wars. There is economic revival after wars when miltary investment and wars are followed by a relative period of peace and reconstruction. But I am not seeing this trend anywhere. The ‘Reconstruction’ of Afghanistan and Iraq are going awry and the prospects for peace are very slim. In my opinion, this will be the big burden on present day western economies.
Hmmmm, drunken conversations with the mid and back-office would suggest that in a “sh*t hits the fan” scenario, the US of A could invoke a force majeur (sp?) clause and, as they all have ID numbers (even those stored electronically), the TBonds could simply be cancelled just as those bearer bonds mugged off a city messanger back in 91 (?) were.
But then the US should lose it’s AAA rating . . .