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    • Nickels and bulldozers June 14, 2013
      “You’re picking up nickels in front of bulldozers” – warning to LTCM, quoted by Lowenstein What do gold, long-dated gilts, Japanese stocks, Brazilian bonds and the South African rand have in common? They are highly sensitive to a rethink on monetary policy – a rethink that  now looks a little closer to hand than we’d […]
      Wealth and Investment Management
    • Wait for it June 7, 2013
       “Grant me chastity… but not yet” – St Augustine At the risk of over-analysing market noise, we think the recent softening in stock prices is still best viewed as a dress rehearsal for a more pronounced setback when the normalisation of monetary policy begins. US growth has probably slowed in the second quarter, and the […]
      Wealth and Investment Management
    • A dress rehearsal? May 24, 2013
      Having hit yet another post-2007 high earlier in the week, the MSCI developed world stock index has fallen back in the last few trading sessions, led by a sharp sell-off in Japan but with the eurozone and the US following suit. As we write, it is down some 1.8% from that high and 1.2% on the week. Has the long-awaited setback arrived? If so, it is, as yet, s […]
      Wealth and Investment Management
    • A sobering thought May 17, 2013
      The job of the Federal Reserve is “to take away the punchbowl just as the party gets going” – William McChesney Martin We have been pretty relaxed about the rise in stock prices so far. Short-term charts look stretched, and some pull back is overdue, but valuations look unremarkable, and the primary trend is still […]
      Wealth and Investment Management
    • Are we nearly there yet? May 10, 2013
      “We get there when we get there” – Mr Incredible Another week, another post-crisis high for developed stocks (and another all-time high for the S&P500). How much further, realistically, can they go? The MSCI World index has now risen  21% in six months without even a 5% setback, which seems unusual. Many pundits go further, […]
      Wealth and Investment Management

What do we want? 20%!

What do we want? 20%!  This isn’t a demand for a wage increase – or for a cut in public spending.  It’s for something altogether different and potentially even more disruptive.  To find out what this is, read on.

No, this isn’t a story about workers’ pay claims in China or some other fast-growing developing nation – even though similar such headlines have indeed been in the press of late, given the rising demands for more of the benefits of these economies’ phenomenal growth performance to filter through to workers’ pay packets.

And, no, it isn’t a story about how much the UK chancellor or some other developed-country government finance minister needs to cut its spending – even though similar such headlines have indeed been in the press of late, given the increasingly pressing demands to curb massive budget deficits and fast-rising public debt.
 
What is it about then? The answer: this is how much US Treasury Secretary Tim Geithner appears to want the renminbi to appreciate against the dollar in order to restore the Chinese currency to some semblance of fair value – as it would replicate the sort of move that took place the last time that the Chinese authorities let the currency float, rather than hold it down by keeping it collared within a narrow band – as they have been doing of late, even after the June 19 move to shift to a so-called “dirty float”.*
 
The call from Mr Geithner did not actually make the headlines as it was tucked away in the 25th paragraph of his Testimony to the Senate’s Banking, Housing and Urban Affairs and House Ways and Means Committee.** Nevertheless, it does mark an important shift in US tactics, if not in strategy. For no longer is the US government hinting that the IMF reckon that the renminbi is perhaps undervalued. Rather, it is quoting a “big” (and “target”) number in order to both give the Chinese something to aim for and to encourage Congress to come up with proposals that match – or even exceed – the pain level that such an appreciation would engender for Chinese exporters. (The idea seems to be threaten tariff rises that would raise export prices even more than a 20% currency move, and perhaps the Chinese will at least let the renminbi appreciate a fair chunk of the “target” that Mr Geithner is setting them.)
 
Interestingly, Mr Geithner is also keeping the pressure on the Chinese to make the sort of structural reforms that the IMF have been recommending to help lower Chinese households’ (private) saving rate – and thus boost the growth rate of private consumption their. (The sorts of things he has in mind are some system of state protection for some of the costs involved with ill-health, old age and job loss: At the moment, households save about half of their incomes in order to self-insure against these things.) Likewise, he adopted a pretty hawkish line on abuses of WTO rules – threatening that “we are aggressively using the full set of trade remedies available” [to pursue US interests]. Again the message is clear: we need exports – and we don’t care if you help us by making our exports relatively cheaper or by demanding more of them. In other words, the means are of second-order importance compared with the ends.
 
What is the bottom line of all of this?
 
First, that we now have a time-table of sorts that the Americans are setting the Chinese. For, by the time that G20 meets in Seoul in November, the treasury secretary is expecting China to have demonstrated their commitment to rebalancing. (This Mr Geithner suggests will “be a key part of the agenda” for that meeting.) Otherwise, he is in effect threatening, do not expect us to sit idly by.
 
Second, that the pressure is building for something quite big to happen. We can think of there being two main scenarios from here. In the first of these, the Chinese bow to pressure – and the rate of appreciation of the renminbi rises. (Instead of 1% per quarter, perhaps 1% per month would look a sensible offering?) And perhaps too, in such a scenario, China offers some starters on structural reforms to put in front of G20, even if they would likely be small steps on a long road. This sort of sceanrio would be great for those investors who are long Asian currencies – recognising that, as a group, they are still cheap and thus able to sustain a marked appreciation.
 
The other main scenario is that the Chinese ignore the threat or offer too little for Mr Geithner to call off the guard dogs – and thus a scenario in which fears of a trade war start to escalate, as say Congress is given a longer leash – and greater support – in its proposals to “bash” China. That might well mean a stronger dollar in the short term, as investors look for currencies that in the past have tended to act as safe havens. But the more important hit would be to expectations of global growth – especially as the unease would come at a time when global trade is already beginning to slow (as we highlighted in a recent blog entry).*** In other words, in this sort of scenario, it might well be that the best trade to be in is being overweight high quality government bonds, such as Swiss or German ones – again something that we have been recommending people do, and continue to do so.
 
For the moment, we do not have a strong call on the probability of one scenario being a lot higher than for the other. (But we suspect the probability of an alternative, third “muddle along” scenario, in which nothing much happens, is low.) So, thinking of the world as being bi-modal at the moment seems to us the sensible frame of mind when thinking about how to invest, as we have been highlighting in recent editions of our flagship products,  Compass and Signpost. But, also important in such circumstances is watching to see if the probability of the two main scenarios alters, as quite a small nudge up in one versus the other might require, and hopefully elicit, a substantive shift in tactical asset allocation. So, we will be keeping a close eye on this issue in the run-up to Seoul.
 
Michael Dicks
Chief Economist
 
* For more on that, see our blog entry made at the time…
http://barclayswealthblog.com/2010/06/21/china-comes-clean-with-its-dirty-float/
 
** Mind you, with a committee name that long, it is surprising that anyone even makes it to the main text. For those who nevertheless want to, see… http://www.treasury.gov/press/releases/tg858.htm
 
*** For more on the deceleration in trade, see…
http://barclayswealthblog.com/2010/08/27/a-summer-break/

China comes clean with its dirty float

Like most, we expect the renminbi to appreciate following the shift from a currency peg. But we think that the pace of change won’t make a big difference to China’s trade surplus or its inflation rate.

Earlier this year we made the case for the Chinese bowing to external pressure to free up the renminbi this spring.
 
There were two main reasons for expecting a move. First, the huge current account surplus that China has been running – and which other nations at the G20 have been arguing warrants a greater shift towards balance in order to more fairly bear the burden of the financial crisis. Second, the Chinese economy has also exhibited signs of having problems of its own, in the form of rising inflation.
 
A shift from using a currency peg, to let market forces drive the renminbi (RMB) higher, would help to both limit China’s competitiveness (and hence her trade surplus and the pressure from overseas to “play the game” in terms of burden-sharing), but also help reduce price pressures at home.
 
The Greek crisis led, amongst other things, to a big drop in the trade-weighted value of the euro – which therefore also meant an appreciation of the renminbi. The Chinese appeared to be using this move as an excuse to go cold on  the idea of returning to a “dirty float” of the renminbi – or as some people call it a “crawling peg”. (In other words, rather than let the currency float by itself – driven by market forces – the authorities set limits for how much the currency can move before they restrict its value, say by 1/2% per day.) Thus, like many analysts, we had been thinking of pushing out our “spring” move to the autumn or later in our next edition of Signpost, due for publication early next month.
 
In fact, the authorities announced on Saturday that they had decided to make a further reform to the RMB exchange rate regime, in effect going back to the pre-financial crisis regime that they employed – with daily bands within which the currency can move of 0.5%. By not changing the central rate of this band from the current dollar exchange rate (of 6.826 RMB per dollar), however, the authorities chose to signal that they do not see the currency as needing to appreciate.
 
Going ahead, most people see a rise in the renminbi as inevitable. We agree. But, the authorities will still determine how much market forces will be allowed to be brought to bear to push the currency higher. We suspect that a 5% appreciation over the next year – which would take it to about 6.60 by the middle of next year – is the sort of pace that the Chinese authorities would find acceptable, and would be seen by other G20 countries as “playing the game”.
 
Such a pace of change will not make a huge difference to either the trade surplus or to Chinese inflation. (It is just too small a shift to alter, meaningfully, either trade flows or consumer prices.) But, it does show that, after a lot of push and shove, China is willing to play the game.

Chinese currency appreciation: Wen on when

The Chinese premier has been outlining the arguments against yen appreciation. This may reflect worries that the US will label current policy as “currency manipulation”.

Wen Jiabao, the Chinese premier, still appears to be fighting hard against a yuan appreciation – pointing out in answer to a question from the FT at the end of the National People’s Congress that it might be counter-productive for countries to put more pressure on China to let its currency rise in value.
 
Interestingly, he went further than merely pointing out that China remains concerned about the safety of its investments (in treasuries) – which it obviously does not want to see drop in value in yuan terms – as they would if China revalued its currency against the dollar. For he highlighted that “attempting to pressure others to appreciate, for the purpose of increasing exports… [amounts] to protectionism”. He also argued that “if you restrict trade with China, you are hurting your own countries’ firms”. And he suggested that “the Chinese currency is not undervalued”.
 
This language rather suggests that the tensions at the highest level in China as to how best run exchange rate policy remain very high. Probably the latest comments are best seen as a reminder that China is very concerned that the US might declare their policy as “currency manipulation”. (Twice a year, the US administration writes a currency report, in which it can describe foreign governments in these terms. Choosing to do so does not necessarily entail further action. But it would be seen, in current circumstances, as a big first step down the road of introducing import tariffs if China did not play ball, and revalue.)
 
We doubt that the US will choose to do that in their next report, due by April. So, Mr Wen should be able to sleep easy a while longer. Interestingly, he did repeat the message delivered a number of times during the NPC, that China will “continue to reform the CNY exchange rate regime” and move it closer to a partly-market-based, “managed-float” regime. In other words, given where market forces are pushing, it will bow to these pressures to a degree. But we still don’t know when Mr Wen will press the button. Presumably if the Americans play the ball, by doing nothing in April, a first step not long thereafter would not be unreasonable to expect.

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