Published 6:25 AM, 22 Sep 2010 Last update 10:25 AM, 22 Sep 2010
The change of tactics by China and the reluctance of many world institutions to take risks is transforming not only the currency game and boosting the gold price but, in time, will affect world trade and share markets. I write this commentary on my way back from Johannesburg where I have seen first-hand the dangers that can arise.
With hindsight the past decade was all so simple. The US ran big deficits which China funded by buying US treasuries and bonds and the US used the money to buy Chinese goods.
Now China has changed direction. In the so-called ?Hayman declaration? the Chinese declared that they would no longer buy US bonds or treasuries (China's Hayman declaration, August 30). However China would not sell their US securities but would seek to diversify new investments including purchasing the Japanese yen.
I am always wary of such statements at conferences but my American friends tell me that the Chinese are doing exactly what they said they would do, and are not buying US securities.
In theory that should have sent the American dollar into a tail spin. It has fallen against the Australian dollar, Japanese yen and rand but not against the Euro. There are many reasons for these trends. One is that almost certainly Chinese are buying the yen in accordance with their Hayman declaration which is why Japan is so angry and has stepped up its buying of US securities to curtail the rise (Will the US let China bully Japan, September 17).
Another trend that is sucking money into the US is even more important and is brilliantly described by the veteran US economist Al Wojnilower when he explains that the major global institutions have ?decided that, when sizable amounts are at stake, US Treasury securities (or instruments directly or indirectly guaranteed by the Treasury) are the preferred ? perhaps the only ? global store of value.
?They are turning their backs on bank deposits, many sovereign credits, and other assets and markets where corruption has forfeited the public?s trust. That is why the demand for US Treasuries seems insatiable. The Treasury has become the printing press (more precisely, the electronic depository) for the world?s precautionary balances, a service for which we (the US) collect huge seigniorage in the form of lower-than-otherwise interest rates on our debts."
In former years the US would have basked in the glory that the world still needs US dollars but the US government is tightening its spending (where it thinks it can) and US banks are not lending to housing or small business on any sort of reasonable scale (Fear is holding America back, July 14). That?s why the US recovery is slow.
There is also the case down in Europe where the fear of a financial catastrophe is greater (In the midst if Europe's fall, September 8). Accordingly the transfer of money to the US is greatest out of Europe.
In effect the disappearance of Chinese lending to the US has been replaced by the capital power of fear out of Europe and for different reasons Japan. If the recent stock market rises are sending the right signal and are not just ?dead cat bounces? then fear should at some point subside which will see big rises in US interest rates to attract money. But that?s a way off.
Like Japan, the currencies that are benefitting are not happy. In South Africa there is pressure for severe clamps on money coming into the country and taxes on money leaving so as to stop the rise in the rand. In Australia we are slower in understanding what the rise in the Australian dollar means to key labour employing export industries like education and tourism. But when professors from Sydney and Melbourne get the chop and the tourism assets of Queensland fall further, we will understand. However the higher dollar will cap interest rates.
Trying to pick the repercussions of this major global change is very dangerous. What is important at this stage is that we understand the forces.
