The Chinese Central Bank could wind down its US$ reserves more slowly over an extended period of time with a "phony peg" where it uses larger offsetting &Euro;, ¥ and £ transactions to maintain the US$/¥RMB exchange rate at a rough balance.
The signal that this was going on, as long as the Chinese themselves were silent (or engaged in active deception) about what they were doing, would be the US$ dropping against the other major trading currencies, with greater volatility in ¥RMB/US$ exchange rates but rough stability in the average rates. Also, because of guanxi, one would also expect substantial numbers of Chinese retail financial institutions to be unwinding US$ holdings at the same time.
So as long as those rough facts were not observed (cough), we could be confident that the Chinese were not pulling that trick.
Remember that the US produces twice the world average oil per person but consumes at five times the world average rate. A substantially lower US$ would give breathing room in world oil markets for everyone else. And the lost income opportunities for Chinese exporters in their second largest market might be offset some by the increased income opportunities in their largest market, the EU. I've been accused of being a Marxist, yet while Harpo's my favourite, it's Groucho I'm always quoting. Odd, that.
A substantially lower US$ would give breathing room in world oil markets for everyone else. And the lost income opportunities for Chinese exporters in their second largest market might be offset some by the increased income opportunities in their largest market, the EU.
If that scenario comes to pass, what are the effects on the EU?
On one hand, the EU sells capital equipment to the US (and O&M deals for it). If those deals become unprofitable overnight...
On the other hand, American oil imports would fall off a cliff, which would avert/abate the next oil shock. Whether the EU would be institutionally capable of using that breathing room to its advantage is less clear.
So in the short term, much depends on a number of unknowns, including the precise order in which events happen (most economic events are non-commuting, a fact that quackonomists will happily ignore).
In the medium term, if the € becomes the major currency targeted by countries pursuing a neomercantilist industrial policy, there is no reason to expect the current generation of leadership to perform any better than their American counterparts. One can hope that parliamentary democracy will prove more resistant to quackonomics than the form of elective monarchy the US seems so fond of. But I would not be willing to bet my pension on it.
- Jake If you only spend 20 minutes of the rest of your life on economics, go spend them here.
One can hope that parliamentary democracy will prove more resistant to quackonomics than the form of elective monarchy the US seems so fond of. But I would not be willing to bet my pension on it.
For export-driven growth, the high €/everything exchange rate makes it difficult to gain market share in places apart from places that face external finance constraints which the EU is in a position to relieve in support of exports to hose countries.
For development-driven growth, the reduction in € cost of resource imports gives breathing room in terms of the chicken and the egg problem of consuming energy due to the economic expansion before the full sustainable energy resource to be provided by some of the investments being made by a substantial portion of the development-driven growth policy.
The first is a fight against other export-led growth strategies, the second is exploiting other export-led growth benefit for the benefit of increasing long term economic capacities. I've been accused of being a Marxist, yet while Harpo's my favourite, it's Groucho I'm always quoting. Odd, that.
If they can, that particular national psychosis can be managed. Otherwise, its a mess. I've been accused of being a Marxist, yet while Harpo's my favourite, it's Groucho I'm always quoting. Odd, that.
... reserves is not what maintains the discounted exchange rate ... its the ongoing operations to depress the value of the ¥RMB against the major floating currencies that maintains the discounted exchange rate.
It follows that the only thing you can do with your foreign reserves is prop up your own currency.
That has not always been so, and may cease to be the case in the future.
In the old-fashioned mercantilist frame of reference, reserves represented the number of other people's mercenaries you could buy rent. So military force was used to maintain a trade surplus in the face of an overvalued currency (having an overvalued currency and a trade surplus allowed people to eat their cake and have it too in terms of ForEx reserves).
In the event that previously stable militaries disintegrate into mercenaries, we may be heading back to '99. 1799, to be specific.
Viewed in this light, Blackwater, et al take on rather ominous undertones.
the only thinkthing that China might do is start borrowing dollars (whether the public or private sector does this is immaterial) to fund its economic or military activity, using its currency reserves to back that debt (basically, the Chinese central bank can safely allow the Chinese economy to accumulate an amount of dollar-denominated debt equal to its dollar reserve holdings
Within an well-functioning economy, having financial assets denominated in the national currency gives an ability to command resources that are available within the nation. Because of that, people often confuse financial assets and resources, and that confusion is what is behind people's mental model of what China's options are.
But when you are using reserve transactions to stabilize exchange rates, then that's what you are doing with them.
That is, you can drive a car to work, you can drive a car to the beach, you can't drive the same car to both places at once (assuming that you do not work at the beach, of course). If a central bank is issuing enough currency to discount its exchange rate, net purchases of foreign currency with domestic currency is required.
Or, when two countries bilaterally agree to maintain a stable exchange rate, the central bank that has to do more discounting to maintain it ends up with more reserves denominated in the other currency ... but its not "financial investment", its a side-effect.
Indeed, that is part of the story of how the ERM fell apart. Speculators realized that Germany's Central Bank, which had to do the discounting to maintain the Mark/£ rate, likely would not in fact do it if really pressed, bet that way, and their betting that way put pressure on the exchange rate. The Bank of England trying to prop up the exchange rate from their side just threatened to exhaust their reserves while at the same time providing fresh sources of finance for the speculative activity ... like trying to put out a kitchen fire by pouring kerosene on it. I've been accused of being a Marxist, yet while Harpo's my favourite, it's Groucho I'm always quoting. Odd, that.
part of the story of how the ERM fell apart. Speculators realized that Germany's Central Bank, which had to do the discounting to maintain the Mark/£ rate, likely would not in fact do it if really pressed
Isn't such a system inherently stable unless the central bank with the largest currency in the system sees it as its job to curb exchange rate fluctuations? The brainless should not be in banking -- Willem Buiter
(1) Strong restrictions on cross-border flows of financial wealth; or
(2) Action by the central bank of the currency facing upward pressure to maintain the exchange rate.
Of course, (1) would be contra to having an Economic Union in the first place, leaving (2).
In that context, it was the Bundesbank that controlled the currency facing upward pressure. If they had stood ready to buy as many £sterling as required to stabilize the rate, the speculative pressure could never have brought down the system.
But "stand ready" means as a priority over whatever the domestic impacts may be ... in a system with freedom of movement of financial wealth, domestic reserves cannot be generated to acquire foreign reserves without those domestic reserves getting out there.
The UK could also have relieved pressure by increasing financial demand for £sterling by raising their cash rate, but for domestic policy reasons were unwilling to do so. Germany could have also relieved pressure by reducing financial demand for Marks by dropping their cash rate, but were unwilling to do so, AFAIU for the same domestic policy reasons that they were unwilling to stabilize the rate directly.
And of course while the Bank of England would have been willing to prop up the £sterling with a "large enough" pool of foreign exchange, a central bank protecting an exchange rate premium sooner or later does not have a large enough pool of foreign exchange.
Hence the Euro: for those EU economies relying primarily on fix-price product sales within the EU, the exchange rate that is never subject to speculative attack is the money:bank-settlement-account exchange rate of 1:1. I've been accused of being a Marxist, yet while Harpo's my favourite, it's Groucho I'm always quoting. Odd, that.
However, the country with the larger GDP has an easier time dealing with that upwards pressure, in proportion to that GDP (or to the size of its money supply).
So Germany had an easier time defending exchange rate bands than smaller ERM economies. The brainless should not be in banking -- Willem Buiter
I think you are assuming a constant size of the swarm of sharks. I've been accused of being a Marxist, yet while Harpo's my favourite, it's Groucho I'm always quoting. Odd, that.
