Use access key #2 to skip to page content.

starbucks4ever (98.71)

How China could throw a parasite off its back (but is missing the opportunity)

Recs

11

May 20, 2009 – Comments (10)

TMFDeej has a post titled "Is the dollar really doomed?" In it, TMFDeej makes a compelling case for the dollar - and the US economy. His main point is deceptively convincing: he argues that China would hurt itself by running things differently, ergo, we again come out ahead, letting China buy our toxic assets that we openly intend to multiply by zero by rampling up inflation. I agree, but for a different reason. I would argue that America is winning, but not through any objective advantages that it has (it has none), but merely through the stupidity, ignorance, incometence, and cowardice of its competitors.

Let us reverse-engineer the myths that seem to hold such powerful sway over the minds of central bankers in Beijing.

Myth 1. China can't sell its treasuries without hurting itself.

The only grain of truth in it is that China WOULD have to recognize SOME paper losses, and even that is only true because its incompetent leaders missed the right time for it (last November) and held on to their toxic assets until the Treasuries bubble did start to deflate. However, the argument that buying Treasuries = avoiding pain, doesn't hold water. If I realize what Enron stock means to my portfolio, then I should get rid of it precisely to AVOID greater pain. It doesn't matter that the stock will tank as I unwind my position. In the ideal world, I would find some greater fool to sell the stock to at the same high price, but in the real world, I must be grateful to all those bagholders who will buy the tanking shares from me for 10 cents on the dollar. Still, it's better to have 10 cents that to own all 100% of Enron. "Avoiding" pain in this situation does not really avoid anything. If you hide your head in the sand, thinking that you have thus "avoided" the predator, it just means that you have the brain of an ostrich. But where the logic of Treasury fans goes completely nuts is when they suggest that China should BUY MORE of the toxic stuff to INCREASE the perceived market value of the dog poo that it ALREADY owns. Now, this is just sheer lunacy. Buying more shares of Enron in an effort to prop up the price of existing shares is not a good investing thesis, but a sure way to ruin the remains of your portfolio. Any economist who advocates more purchases of Treasuries as a way to reverse the losses from the earlier purchases of Treasuries must be either an idiot or an enemy of the Chinese economy. If anything, THE ONLY PRUDENT COURSE OF ACTION FOR CHINA IS TO SELL AND RUN while the market still gives them something close to $2 trillion for that POS they bought. When stated correctly, the above argument should read thus: China should sell its treasuries to avoid hurting itself.

Myth 2. China must buy treasuries to keep its renmimbi low.

Reality. By keeping its currency low, China is only stabbing itself in the foot without any chance to increase its exports appreciably. If China is manufacturing shoes at the cost of $1 to be sold in New York for $100, then by accepting only 50 cents instead of $1 it will only lose one half of its already-too-small paycheck but it won't increase sales even by 1%. And conversely, if it starts charging $2 for the same pair of shoes, it won't make Walmart even THINK about taking production somewhere else because for them, either $1 or $2 or 50 cents mean the same thing: essentially zero cost. There is no chance American workers are regaining these jobs. For that China would have to raise the exchange rate at least fivefold and more likely, tenfold, or else American workers would have to accept $1-2 an hour. The fact is that China should stop buying treasuries, among other reasons, in order to help its renmimbi appreciate against the dollar and start receiving more adequate compensation for its labor. The fact that its exports are dropping does nothing to change that. It simply means that Walmart customers have some problem with paying $100 for that pair of shoes, and this is something beyond China's control. If Americans are refusing to purchase shoes for $100, these shoes won't be sold for $99.50 either. A $30 discount is needed, but it's only the Amricans who can make it happen because the percentage of Chinese labor in the cost structure is essentially zero. A stronger renmimbi would simply help China earn more dollars with no negative effect on its trade.

Myth 3. There is no one but Americans who can consume that surplus of goods

I already mentioned that the volume of Chinese-American trade is determined by the cost of American inputs and is outside the control of China anyway. But even if China did have control over it, consuming the surplus domestically would always be an option. True, there are SOME export products that would have a hard time finding domestic buyers (for example, American flags), but these are exceptions. The main bulk of exports is made up by products which would find plenty of willing buyers in China. And here is how it's going to work. You print some yuans in exactly the same way as Bernanke prints greenbacks, and distribute them among the population, which then takes these yuans to the supermarket and buys the produce of domestic factories that had been earmarked for export. With productive capacity that's more than able to meet that demand, there will be no inflation, but simply monetization of transactions within the domestic economy. The lack of Chinese demand is a myth, whose origin really lies in this simple observation: if I am a farmer and I stop growing food for myself because some Harvard-trained economist has told me I'm too poor to buy my food from myself, and if instead I convince myself to hand over my farm's produce to my rich neighbor for just $.99, then, sure enough, I WILL be both poor and hungry, and with only $.99 in my pocket, I surely WILL fail to increase my domestic consumption within that flawed economic paradigm. But as soon as I call the Harvard economist an idiot, kick him down stairs, and apply my own brain to my little problem, I will immediately see that in fact, I can easily afford all the food that my farm produces. All it takes is to put a "10,000,000 yuan" sticker on the food, print and give to myself a paper with says "10,000,000 yuan", clear the transaction, and enjoy my new-found economic independence.

Myth 4. There is no better use for that currency reserve anyway.

Again, it is an argument one should only hear in a nuthouse, and that should never be a part of economic discourse. First, if you don't see any use for dollars, you should never have agreed to work for those dollars, period. There is one and only one excuse for the Chinese to produce anything in exchange for a stack of green paper, and it is to use this stack of green paper to buy something they may need. So my first comment is: make up your mind, and decide what American products you wish to have. If you can think of something you need, then go ahead, buy it now and don't wait for Bernanke to make your dollars worthless. If nothing comes to your mind, then shut down your exports so you don't give away stuff for free. It's happy people that don't need anything, so you can count yourselves happy.  You will then be running an economy based on autarky (i.e. self-sufficiency), which is by itself a good thing provided you REALLY don't need to import anything. North Korea thinks it doen't need this Western stuff like IPhones, so it doesn't export anything either. You will be like them. If, on the other hand, you DO need something that America can provide, then stop pretending you don't. On my part, I admit that it's tough to find legitimate goods and services in a country that produces nothing but financial bubbles, but for all that, even I can easily identify some American products that you might actually benefit from in case you wonder what to do with those 2 trillion dollars that you have:

-American farmland. Useful for growing corn, wheat, soybeans, and for raising cattle.

-ISRG medical robots. Useful for improving the health of the population.

-A dozen of promising solar companies. Useful for handling the energy needs of China. It's not so much the hardware but the technology that you'll be paying for.

-Iron ore deposits.

-DE tractors, CAT heavy machinery, fertilizer producers, steel and copper industry.

-Buy Intel. They've got some cool technology. 

-Buy some cars from bankrupt Chrysler if you care for them. 

-IBM notebooks. Time to make your people computer-literate. 

-Innovative nanotechnology start-ups. It's high risk, but the potential return cannot be overestimated.

-Buy Hollywood, shut it down, and have the place bulldozed, if only to silence that propaganda mouthpiece.  

-Buy timberland. There is plenty in New England and it holds its value over time.

-Buy commodity futures. This way your industry will never run out of raw materials. 

-In case you think of something else later on, buy some INVESTMENTS now - you know, those things that provide a stream of cash. Buy some rental real estate if you're smart. If you're stupid, buy stocks. Get some corporate bonds that pay high yields.

-Buy Moody's, if only to stop these clowns from telling everybody: "American Treasuries gooda, China companies no gooda".

-Buy Nobel-Prize winning scientists, import them into China, and employ them in your university system. 

-If after all this, you still have a surplus of dollars, invest them into US Treasuries, but into a new kind of Treasuries - the ones that will carry a variable yield and be indexed not to official CPI figures (like the TIPS we have now), but to the actual number of dollars printed by the Fed as reported by an independent international auditing committee. Bernanke will be foaming at his mouth at this suggestion, but you will explain to him that you won't lend him money on any other terms.

This dispells the "no better alternative" myth. There is always an alternative if you're not an idiot.

Having said all this, I now have to agree wholeheartedly with TMFDeej that there is no viable alternative to the dollar, because of the incredible stupidity of the pig-headed Chinese leaders whole lack of brains won't allow them to see any alternative to snapping up more debt obligations of a subprime treasury. Of course, all of the above also applies to Japan, Korea, Singapore, and others as well. And sure enough, against that background even a dimwit like Bernanke looks like an intellectual giant. 

 

 

10 Comments – Post Your Own

#1) On May 20, 2009 at 2:07 AM, DarkToast (53.15) wrote:

I hope the grand poobahs in the Chinese government don't read this.

Report this comment
#2) On May 20, 2009 at 4:08 AM, kaskoosek (88.43) wrote:

Zloj

Thank you very much for this post.

I think that Americans have their heads stuck up their ass and want to continue to beleive that $$ will have buying power in the future.

It is more wishful thinking rather than logical analysis.

 

 

Report this comment
#3) On May 20, 2009 at 8:18 AM, portefeuille (99.60) wrote:

-IBM notebooks. Time to make your people computer-literate.

They have already bought that in 2005.

Report this comment
#4) On May 20, 2009 at 10:49 AM, Gemini846 (60.71) wrote:

Would be interesting to see a breakdown of where those notebooks are sold.

On the other hand I learned what a "red chip" is today. :)

Report this comment
#5) On May 20, 2009 at 10:59 AM, starbucks4ever (98.71) wrote:

Would be interesting to see a breakdown of where those notebooks are sold.

Would be more interesting to see where these notebooks are produced. The CPU is still produced here, I believe. 

Report this comment
#6) On May 20, 2009 at 6:10 PM, Alex1963 (28.69) wrote:

Zloj

Thoughtful analysis & a good read but I disagree with some of it.

Point 1) They may not be selling their T-Bills for the leverage it gives them politically. If they want to be the only superpower or at least a co-power with us (assuming we can hang in there) it helps them immeasurably to keep us beholden. 

Point 2. same. Also perhaps they feel as I do that the US tho severely weakened a as a future exporter my yet still be relatively stronger than many other economies so again score the political points and take the finacial hit. Plus they have a history and many agreements hammered out with us and understood, as opposed to relying solely or way more heavily on untried new partners Meantime keep expanding their relationships with other nations. (To use your analogy what if Enron owed you a personal favor for you holding their shares that you could use in a variety of ways-like getting shares below retail in another company? Maybe you have Buffet sized ownership of shares. Or could put you on the board of an unrelated company with far better prospects?)

Point 3 - funny! but if based on this premise then to me flawed " already mentioned that the volume of Chinese-American trade is determined by the cost of American inputs and is outside the control of China anyway." Way too simplified IMO. Not "determined" but certainly influenced. Again what about the politic/ecomnomic realities and manipulations of trade barriers, quotas, protectionism, incentives, internal subsidies etc. The dollar/remnimbi cost is just one angle (tho very important in my view also)

Further I agree they can and will look to maintain growth by looking internally but only to the point where the population becomes too largely middle class. IMO they would be worried about the political fallout of too many citizens whose needs are met and now have discretionary time and money/resources for making trouble. They have plenty of room to grow IMO before they may become "threatened".

4. This staement doesn't really work "First, if you don't see any use for dollars, you should never have agreed to work for those dollars, period." When they began this relationsipe I doubt they knew. You seem to imply they never should have started if they didn't have a use for dollars they new would plummet in value. Well if that is what you did mean then you have compressed years of trade history into one decision. Naturally they percieved an advantage and of course US dollars were and still are the reserve currency. I think they were caught as unawares as most other perfectly competent and rational people. Plenty saw pieces of this global meltdown but nobody that I am aware of saw this perfect storm. Even so I don't know that they'd have done too much differently. If you have a powerful neighbor who by ther actions may put you in a position to gain considerably more power and influence for yourself but you have to take a costly (but manageable IMO) hit might you consider it? Let's ay they are literally your neighbor and they are running their house into the ground and asking you for help in keeping it maintained. You might think "hmm this is hurting my value being next to these fiscal Beverly Hillbillies but they are well connected and can hook me up socially plus if they lose the house maybe I'll buy it on the cheap. Pls they are always complaining to the neighbors about how I discilpline my servants and embarrasing me. And they were constantly blocking my strategic investments. And bitching about the smoke from my fireplace. And that I should recycle more and on and on. This'll really make them think twice in future" LOL. Maybe they have calculated they can leverage this into 2 trillion of NET profit! It wouldn't surprise me in the least.

Your shopping list included something that some chinese are shopping for here already: real estate. I believe they are likely to buy billions worth.

5. If China wants to seriously have a shot at an alternative reserve/trade currency and I believe at this point that they do then they having us beholden and literally indebted will help immensely. Also they have not had time yet IMO to get a feel for Obama and what they may be able to maneuver for or what may be asked of them. To make any precipitous moves now would be foolish for "just" the finacial advantage they MIGHT gain by following the analysis you have outlined. (Tho I realize some of it is tongue in cheek and pretty funny)

My final observation is a general comment. I see this on Caps all the time and I think it leads to many misleading assumptions-the world is not run by accounts or people who think only in terms of "monetary investment returns. There are very complicated political forces here and particularly for China who I believe intends to be, and is on track to attain, super power status. If someone cannot make sense of the market or politics from a fiscal or economic worldview then perhaps widening that view will help make sense of things. Mistakenly believeing the Chinese are stupid is a grave error IMO. I belive many people, particularly westerners simply cannot appreciate the subtlety and long range thinking involved here. Think Go vs chess. (I put a link & excerpt from wiki below for those interested) They are often mistakenly viewed as similar but they are very different. For myself I tend to believe they know exactly what they are doing and I hope we have very sharp people on our team who can penetrate their motivations because they could very easily help us to become an obsolete power before we even realize we've been out maneuvered. 

As for investing I am bullish on China for at least the next 6 months but with the global market the way it is I look no further than that.

You gave me some good points to think about and add to my own continuously evolving aanalysis of China. I hope this reply does the same for you. 

Good post rec from me

Alex 

http://en.wikipedia.org/wiki/Go_(board_game)

Excerpt 

"The reasons why computer programs do not play Go well are attributed to many qualities of the game,[74] including:

The area of the board is very large (more than five times the size of a chess board). Throughout most of the game, the number of legal moves stays at around 150–250 per turn, and rarely goes below 50 (in chess, the average number of moves is 37).[75] Because an exhaustive computer program for Go must calculate and compare every possible legal move in each ply (player turn), its ability to work out favorable lines of play is sharply reduced when there are a large number of possible moves. Most computer game algorithms, such as those for chess, compute several moves in advance. Given an average of 200 available moves through most of the game, for a computer to calculate its next move by exhaustively anticipating the next four moves of each possible play (two of its own and two of its opponent's), it would have to consider more than 320 billion (3.2*10^11) possible combinations. To exhaustively calculate the next eight moves, would require computing 512 quintillion (5.12*10^20) possible combinations. As of June 2008, the most powerful supercomputer in the world, IBM's "Roadrunner" distributed cluster, can sustain 1.02 petaflops.[76][77][78] At this rate, even given an exceedingly low estimate of 10 flops required to assess the value of one play of a stone, Roadrunner would require 138 hours, more than five days, to assess all possible combinations of the next eight moves in order to make a single play."

 

 

Report this comment
#7) On May 20, 2009 at 6:51 PM, starbucks4ever (98.71) wrote:

You know, Alex1963, I believe very strongly that any model should be kept as simple as possible. Yes, you can always bring in  a dozen of additional assumptions, which would help you explain all the facts, but more likely than not, it will prove a waste of time. Then again, maybe it's my Russian background. We've been told again and again: "don't try to question the wisdom of your leaders, they know a lot more than you do", and each time it has turned out that they didn't know a damnedest thing. Each time it happens, whether it's Stalin keeping his finger up his ass before the German attack, or Khrushhev planting corn in the Arctic circle, or Gorbachev making every mistake imaginable, or Yeltsin bungling his Chechen campaign, or Putin messing up with Ukrainean elections, it's always the same story: the dust settles,  and then instead of some strategy that is so clever it's incomprehensible you just see some trivial idiotic mistake. It works here as well. When Buffett bought COP at the peak price, you would think it was some geniuses sitting in some secret bunker looking at some exclusive data using some super-secret algorithms that provided Buffett with this piece of market advice that we shouldn't dare to question. A year passed by, and what do you see had actually happened? Turnes out, nothing really very profound, Buffett had simply bought into the peak oil theory, like any rookie investor and their cousin did at the time. So I believe it will happen this time as well. Remember my words: 5 years from now some reported will ask Wen Jiabao, "Wen, how could you put all your eggs in that one Treasury basket?", and Wen will repy: "I just thought US Treasuries were safe", and there will be nothing more profound than that. 

Report this comment
#8) On May 21, 2009 at 8:05 PM, Alex1963 (28.69) wrote:

zloj

Hmm OK except for you last sentence this seems quite an unrelated response. Are you suggesting my "model" is overly complex as compared to yours? Or based more on assumptions than your thesis? I hope not.

I get that you have a rather cynical and dim view of some leadership. Perhaps you're right about Jiabao I have an open mind but I still stick to my points above which is basically that however China arrived in this situation I contend they will get some excellent mileage out of it.  

All the Best

Alex 

 

 

Report this comment
#9) On May 21, 2009 at 9:47 PM, starbucks4ever (98.71) wrote:

I HOPE you're right. But I don't believe it.

Report this comment
#10) On May 24, 2009 at 5:59 AM, ttboydxb (28.86) wrote:

Great post, always looking into what will happen when / if the treasury bubble bursts, and how it would affect China, this post kinda hit on that, thanks! +1 Rec

Report this comment

Featured Broker Partners


Advertisement