Chinese Fire Drill!
I jokingly refer to the economic meeting taking place this week between the US and China as this really is more of an exercise in futility than any meaningful policy agreement. It basically boils down to the US stance that China needs to allow its currency to float freely in the marketplace, and China rebuffing this view.
Many economists believe that the Chinese Yuan is undervalued by some 30-40%, though I’m willing to bet that it is much more undervalued than those estimates. Because of the peg of the Yuan to the Dollar, China is essentially a “black hole” that sucks up the excess liquidity in the market and allows them to amass tremendous currency reserves. This creates global economic imbalances and makes it more difficult to achieve stability.
However China will claim that the US is the currency manipulator and not them; and by and large they are correct in that assessment. But this is in response to Chinese monetary policy and not the other way around.
Do not expect any meaningful progress on this front, and it will take more than the US alone to convince China otherwise. So expect the same dance to continue, with China growing at exponential rates and the US to continue to buy cheap Chinese goods while increasing the size of its deficit.
This week is somewhat light of news with CPI data expected from both Europe and the US later in the week, and the UK inflation report is due out as well. Euro zone GDP figures and US retail sales figures will round out the week.
This morning is starting with both US stock and commodities markets higher, as some bargain hunting and yield-seeking appears to be taking place. Risk is still at a premium in the market, and last week’s rumor about Greece leaving the EU could highlight Euro price action.
In the forex market:
Aussie (AUD): The Aussie is higher across the board as carry trades are re-established heading into the week. The Australian employment report is due out on Wednesday, and further rate hikes from down under can’t be ruled out.
Kiwi (NZD): There’s not a lot of news on tap for New Zealand this week, but keep an eye on China’s trade outlook report which should show that attempts to slow down their economy have not squashed demand for imports, which could help the Kiwi.
Loonie (CAD): The Loonie is mostly higher and expect it to trade in lock-step with oil prices after headwinds from last week’s better than expected employment report have firmed up economic outlooks. (Click chart to enlarge)
Euro (EUR): CPI data due out on Wednesday and GDP figures due out on Friday will be the primary drivers of Euro fundamentals this week. While the news of a potential Greek departure has the market on edge, this is not credible at this point and the EU needs to take a hard look at how to help the countries that need restructuring in the face of potential rate hikes, especially after last week’s policy meeting. (Click chart to enlarge)
Pound (GDP): Declines in the fundamentals are just what the BOE is hoping for as their stance has been to allow growth and inflation to slow on its own rather than to affect monetary policy which could accelerate that proposition.
Dollar (USD): Friday’s CPI data will be important to the Dollar though it will not show last week’s decline in commodities prices. While the Fed looks at inflation ex food and energy anyway, this might not garner the type of response the market is expecting. Risk themes still persist in the market, and QE3 is not off the table just yet.
Yen (JPY): The Yen is weaker across the board, as bargain hunting and yield-seeking is taking place to start the week. A bunch of data is due out on Wednesday including trade balance figures, but expect the Yen to trade on risk themes.
The economic meeting between the US and China this week will be largely ineffectual, but Wednesday will bring a slew of economic data form China that will show whether or not their economy is slowing. CPI data, retail sales, and industrial production figures give the markets a better idea.
Right now, growth is slow in the “established” economies and emerging markets growth is what is sustaining the global economy, led by China. This makes sense considering that they have all of the money.
But by not allowing market forces to direct capital efficiently through the use of their Yuan peg, a lot of the imbalances created are a direct result of their policy. Unless something is done to correct this situation, things will remain status quo and it will only be a matter of time before something has to give.
Let’s face it all economies want to grow; but by playing by different rules, China has created an unfair game. The global economy cannot allow this to continue if we hope to achieve hegemony. My guess is that if we you added up all of the global debt out there and subtracted it from Chinese currency reserves, the number would still be positive.
China should no longer be allowed to hide behind the “emerging market” veil that they claim, as they are now the world’s second largest economy. If they are not willing to accept the downsides of the free markets, then they should no longer be allowed to reap the benefits either.
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