Tuesday, July 28, 2009


Why are they meeting now? Both parties have pressing requests to make of the other.

What They Both Want

The most likely mutual (though especially Chinese) motive is to quickly prop up the USD.

What China Wants

The Chinese want to protect:
1. their over $800 billion in USD forex reserves
2. their dollar denominated profits from their largest export market
3. the survival, borrowing, and purchasing power of the US market

In addition, the Chinese Premier has already signaled his interest in Chinese companies making more overseas acquisitions. There will be US businesses on the menu, particularly those holding natural resources, technologies, or marketing channels the Chinese want. China would like to see these go smoothly.

What The US Wants

1. continued Chinese purchases of US Treasury bonds
2. greater access to Chinese markets for US exporters
3. greater Chinese consumer spending, especially on US products

The Win-Win Solution

Let the Chinese buy US companies, give the US what it wants.

In sum:
More Chinese imports from US and more Chinese purchases of US assets, particularly of companies holding natural resources, technologies, or marketing channels the Chinese want. It's a mostly win-win situation.

China Gets

1. Hard assets which will help fuel future export growth in exchange for their otherwise weakening USD
2. Support for the value of their own USD forex holdings, around $800 Billion and growing, by increasing US exports
3. Reduced total and proportional USD forex holdings
4. Continued US purchasing of Chinese exports. That is, Beijing will be able to buy US Treasury Bonds and thus fund US consumer purchases of Chinese exports without significantly raising their total or proportional USD holdings, since the new dollars and/or treasury bonds coming in can be used to buy US assets.

Wouldn't ownership of US assets mean more USD flowing in? Perhaps, depends on the asset purchase. If Chinese companies bought raw materials or technology that can be transferred to Chinese production, or US-owned marketing channels outside of the US (like GM's Opel car distribution network in Europe), then not necessarily.

The US Gets

A much better chance at avoiding an economic crash, or at least a long period of stagnation.

Does Either Party Have a Choice?

Not really. The Chinese are stuck with a pile of dollars that is too big to get rid of without destroying its value. They need to spend them where the dollars will be easily accepted without raising suspicion that the Chinese are dumping dollars. The US needs to export more, generate more jobs, and get continued purchases of US debt to buy time to solve its deeper economic problems .

What It Means for Global Markets

In the longer term, the very minimum affects include:

1. In Forex: A recovering US economy, trade balance, and dollar
2. In Commodities: tightening supplies with more Chinese control over them
3. In Global Stocks: Unclear, except that anything that gets growth going in these economic behemoths is likely to mean higher stock prices
4. Expanding Chinese exports, economic power, and influence

Disclosure & Disclaimer: The opinions expressed are not necessarily those of AVA FX. The author may have positions in above mentioned instruments.

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