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LQD: "Debunking the Dumping the Dollar Conspiracy"

by Magnifico Thu Nov 5th, 2009 at 04:57:32 AM EST

Originally published on October 8th

In response to Robert Fisk's the 'U.S. Dollar is Doomed' article in the Independent on Tuesday, Dean Baker, an American economist and co-founder of the Center for Economic and Policy Research, has an essay at Foreign Policy "Debunking the Dumping-the-Dollar Conspiracy".

Baker points out the scenario Fisk outlined in his anonymous sourced article has been a "persistent, recurring conspiracy theory" over the past decade.

Fisk says, the dollar will suffer a severe blow to its international standing and the United States might struggle to pay for its oil...

Fisk's theory would make a good plot for a Hollywood movie, but it doesn't make much sense as economics. It is true that oil is priced in dollars and that most oil is traded in dollars, but these facts make relatively little difference for the status of the dollar as an international currency or the economic well-being of the United States.

Baker explains that any market "requires a unit of measure" and while the dollar is convenient, "there would be no real difference if the euro, the yen, or even bushels of wheat were selected as the unit of account for the oil market."

"It's simply an accounting issue," he writes.

We don't need no stinkin' conspiracies - diary rescue by Migeru


Baker's reasoning echoes the argument made by many here at European Tribune.

In response to last month's news that the Iran was trading oil for euros, Jerome wrote that "The currency actually used to make the payment makes very little difference as long as the underlying currency to value the trade is the dollar."

To which earlier this week Migeru further refined with "it doesn't matter what currency oil prices are denominated in." Which is something Chris Cook has "always said", mind you.

Bernard added Mish's analysis that "it takes less than a second for Forex trades to take place. 24 hours a day, 7 days a week, one can sell any currency they want and buy any other currency."

Baker makes a similar point:

If oil were priced in either yen or wheat it would have no direct consequence for the dollar. If the dollar were still the preferred asset among oil sellers, then they would ask for the dollar equivalents of the yen or wheat price of oil. The calculation would take a billionth of a second on modern computers, and business would proceed exactly as it does today.

However, Baker concedes trading oil in dollars does increase the demand for dollars, but today not all oil is traded for dollar and the total dollar amount of daily oil trades is miniscule in comparison to the amount of U.S. dollars sitting in the world's currency reserves.

Even if all oil were sold for dollars, it would be a very small factor in the international demand for dollars, as can be seen with a bit of simple arithmetic. World oil production is a bit under 90 million barrels a day. If two-thirds of this oil is sold across national borders, then it implies a daily oil trade of 60 million barrels. If all of this oil is sold in dollars, then it means that oil consumers would have to collectively hold $4.2 billion to cover their daily oil tab.

By comparison, China alone holds more than $1 trillion in currency reserves, more than 200 times the transaction demand for oil. In other words, if China reduced its holdings of dollars by just 0.5 percent, it would have more impact on the demand for dollars than if all oil exporters suddenly stopped accepting dollars for their oil.

Baker points out that lower the value of dollar "was and is an official policy goal of both the George W. Bush and Barack Obama administrations." The U.S. government wants China to stop "suppressing the value of the yuan against the dollar." If Chinese goods become more expensive, then Americans will buy less good from China is the reasoning thus improving the trade balance. "Not too many people would be frightened by this prospect", he writes.

A little more than a week ago, BruceMcF posted an essay titled 'Celebrating the Fall of the American Empire' in which he linked to recent blog post by Baker who noted "China buy U.S. bonds to keep the dollar expensive and the yuan cheap. I admit I had a hard time following and understanding the scenario BruceMcF presented, but I took it to be what happened to the U.S. when China shifted away from using the U.S. dollar as a reserve currency and the subsequent (possibly positive) impact of the collapse of the dollar.

Baker summarizes "the dollars needed to finance the international oil trade are trivial compared with other sources of demand for dollars. The currency chosen for foreign reserve holdings can have an impact on demand for dollars, but this has nothing to do with the currency chosen to conduct the oil trade."

"The White House wants the dollar to decline anyway because it would improve the United States' trade balance", he adds. Baker concludes:

The dollar's value will likely fall over time (as it has been doing against the euro for the last nine years). But there is nothing in the cards to suggest a collapse, even if Saudi Arabia starts selling its oil for euros or yuan.

Personally as an American who once was able to afford to travel to Europe, I'd like ideally for the dollar to be at a 1-to-1 parity with the euro. But the trade balance between the U.S. and Europe is not the balance I suspect the White House is worrying about. From a personal perspective, since the dollar will probably continue to decline in value my personal emergency savings in dollars will continue to decrease in value. So, it would be best to switch out of dollars into other assets.

Even if the dollar doesn't collapse next year as BruceMcF's scenario depicts, now may be the last best chance for middle class Americans to emigrate comfortably. Leaving the U.S. will only continue to get more expensive.

Display:
This blog post on a Libertarian site takes an Austrian school approach to money - ie the World according to Rothbard and Mises.

Money » The Cobden Centre

Many people know the Bank of England is creating new money through quantitative easing but if the quantity of money is being increased, how is that quantity being measured? What is counted as money?

Their recognition of the reality in our current deficit-based system that money is a bank created credit object leads them to a model that appears to fairly accurately relate monetary changes in their measure "MA" with actual economic activity.

But getting right the circulation of goods and services and the creation of new productive assets is one thing. The relationship between money and productive assets, on the other hand, particularly land, is quite another.

My post in response to this blog item follows

Interesting post: congratulations.

Clearly you have identified a monetary measure more in line with reality than the conventional mess.

I see you quote Rothbard:

Money is the general medium of exchange, the thing that all other goods and services are traded for, the final payment for such goods on the market.

I think Rothbard's assumption is in error.

Money is not an object - a thing - it is a relationship.

As John Law put it in 1705 in "Money & Trade Consider'd..."

Money is not the Value for which Goods are exchanged, but the Value by which they are exchanged:

E C Riegel in his "Flight from Inflation" summarises the monetary relationship as follows:

The purpose of Money is to facilitate barter by splitting the transaction into two parts, the acceptor of Money reserving the power to requisition Value from any trader at any time.

The method of Money is to employ a concept of Value in terms of a Value Unit dissociated from any object. The monetary unit is any adopted value, which value is the basis relative to which other values may be expressed.

I prefer to define terms slightly differently.

A monetary system as I see it comprises goods and services circulating with "time to pay" (aka credit) by reference to a Value Standard (Unit of measure) and within a framework of trust.

By way of example there is the Swiss WIR - a trade credit clearing system, which has been operating since 1934 - and where billions of Swiss Francs' worth of goods and services change hands not FOR fiat Swiss Francs, but by reference to Swiss francs as a Value Standard.

The framework of trust - ie the enforcement mechanism or protocol in respect of debit balances - is provided by charges over WIR members' property. ie the WIR is a property-backed monetary system.

There are numerous proprietary barter systems all incorporating credit/time to pay - such as Bartercard - and all of them are monetary systems in microcosm.

What the Austrians think of as money, I would define as currency, being the unit of value FOR which people are accustomed to exchange goods and services.

John Law is relevant again here:

Every thing receives a Value from its use, and the Value is raised, according to its Quality, Quantity and Demand.

By that criterion gold is not really much of a currency, because you cannot live in it; heat your home or run your car on it; or type an email with it.

In my view, the three basic factors of production which have a generally acceptable use value are location (ie a Unit redeemable in land rental value); Energy ( eg a Unit redeemable in - say - 10 Kilowatt Hours) and Knowledge (ie the time value of intellectual property and the time value of an individual's innate knowledge, experience, gumption, contacts and everything else that dies with him).

It is our capacity to carry out unqualified labour (manpower) and our knowledge, individually and collectively, which back the credit we may issue as a sovereign individual.

But note that most of the bank created "money" in existence today is in fact based upon the use value of land, having come into existence as interest-bearing loans backed by mortgages. ie our money is largely deficit-based but asset-backed.

In my view, there is a fundamental qualitative distinction between "money" in circulation - which you have successfully isolated - and the vast bulk of money in existence which is what inflated asset prices (particularly land), and is essentially static.

All that QE does is replace this property-based private "static" credit with public credit. This money=credit can only cause inflation if it is lent or spent into circulation.

Since most UK wealth has become concentrated in few hands - which is what always happens when compounding interest combines with private property in land - then the solution to the crisis must necessarily involve systemic fiscal reform

This is in addition to a new approach to re-basing currencies upon Value generated by the issuer; rather than upon a claim over Value issued ex nihilo by a credit intermediary.

The key point is the recognition - to which you refer - that a unit of measure or "Value Standard", as I refer to it, is not necessarily the same as a unit of Currency, which is a generally acceptable ("fungible") object redeemable in value - whatever value.

In my analysis, a sustainable monetary system requires:

(a) an accounting system;

(b) credit or "time to pay";

(c) a Value Standard or unit of measure;

(d) one or more fungible currency Units;

(e) a framework of trust.

I see Money as a relationship, not an object: currency is an object.


"The future is already here -- it's just not very evenly distributed" William Gibson

by ChrisCook (cojockathotmaildotcom) on Thu Oct 8th, 2009 at 05:08:16 AM EST
European Tribune - LQD: "Debunking the Dumping the Dollar Conspiracy"

"The White House wants the dollar to decline anyway because it would improve the United States' trade balance", he adds. Baker concludes:

The dollar's value will likely fall over time (as it has been doing against the euro for the last nine years). But there is nothing in the cards to suggest a collapse, even if Saudi Arabia starts selling its oil for euros or yuan.

Personally as an American who once was able to afford to travel to Europe, I'd like the dollar would ideally be on a 1-to-1 parity with the euro. But the trade balance between the U.S. and Europe is not the balance I suspect the White House is worrying about. From a personal perspective, since the dollar will probably continue to decline in value my personal emergency savings in dollars will continue to decrease in value. So, it would be best to switch out of dollars into other assets.

Luis de Sousa's recent diary  A video on the future of the dollar (and money) seems relevant here. The US wants the dollar to drop (by half in 14 years - that would be 5% inflation annually) but it doesn't want it to drop precipitously (no more than a 1/3 drop against gold in real terms)
CNBC invited Jim Rickards, a senior managing director at a firm called Omnis to comment on the latest G-20 meeting and the future of the dollar. His testimony shows some rare lucidity about the present problems with our monetary system. Bearish on the dollar, bullish on gold, don't mistake him for a gold bug, for he is well aware of the consequences of a flight to the "barbarian's relic".

If gold goes to 1500$ [...] it has to with the fact that the dollar is imploding [...]

Rickards links an oped article at the Wall Street Journal penned by Federal Reserve governor Kevin Warsh to the G-20 meeting in an interesting way: it is a camouflaged warning against a fast drop of the dollar against other currencies, especially gold.

The Fed needs the dollar to get down by about half in the next 14 years, we have 60 trillion dollars of liabilities [...] there's no feasible combination of growth and taxes than can fund those liabilities. [...] They need to do that, but that's a dynamically instable process, they would like to do it gradually, and that's the plan, but if the market gets ahead of it, if the market sees this playing (which probably they will) you could have a very rapid collapse of the dollar [...]

The secular declining trend of the dollar has been resuming since early September, fueled by the carry trade proportionated by null interest rates in the US. This is leaving a lot of people uncomfortable, both those issuing the dollar as those pilling it up.



En un viejo país ineficiente, algo así como España entre dos guerras civiles, poseer una casa y poca hacienda y memoria ninguna. -- Gil de Biedma
by Migeru (migeru at eurotrib dot com) on Thu Oct 8th, 2009 at 06:56:56 AM EST
A strong dollar has typically been the policy of the US Republican party.  The Democrats have traditionally been comfortable with (and even pursued) a weak dollar.

"Beware of the man who does not talk, and the dog that does not bark." Cheyenne
by maracatu on Thu Nov 5th, 2009 at 08:40:38 AM EST
[ Parent ]
That seems accurate in a certain manner of speaking, but in the sense that looks at Clinton and Obama in terms of policies rather than rhetoric and notices that they are mostly from what used to be the moderate wing of the Republican party.

The Hedge Fund Democrats want an importers dollar, since it gives them more clout in foreign financial markets.


I've been accused of being a Marxist, yet while Harpo's my favourite, it's Groucho I'm always quoting. Odd, that.

by BruceMcF (agila61 at netscape dot net) on Fri Nov 6th, 2009 at 06:08:00 PM EST
[ Parent ]
Without other comment to the article or other comments:

Even if all oil were sold for dollars, it would be a very small factor in the international demand for dollars, as can be seen with a bit of simple arithmetic.
...
...it means that oil consumers would have to collectively hold $4.2 billion to cover their daily oil tab.

By comparison, China alone holds more than $1 trillion in currency reserves, more than 200 times the transaction demand for oil. In other words, if China reduced its holdings of dollars by just 0.5 percent, it would have more impact on the demand for dollars than if all oil exporters suddenly stopped accepting dollars for their oil.

His comment about the oil being a virtual drop in the actual dollar bucket by comparing it with a one time reduction of China's holdings is a little specious. If one is going to pshaw a daily removal of oil dollars taken out of the Forex equation, then one must consider the daily reduction of China's holdings; that is lot of 1/2 percent daily drops. Two months is a quarter trillion dollars.

Leaving the US will only continue to get more expensive...most arguably correct. The question is for how long. And for how long will living in the US be expensive - lowering of income, raising of prices even within the borders?

Never underestimate their intelligence, always underestimate their knowledge.

Frank Delaney ~ Ireland

by siegestate (siegestate or beyondwarispeace.com) on Thu Oct 8th, 2009 at 09:20:04 AM EST
If one is going to pshaw a daily removal of oil dollars taken out of the Forex equation, then one must consider the daily reduction of China's holdings; that is lot of 1/2 percent daily drops. Two months is a quarter trillion dollars.

Referencing the daily dollar value of oil purchases is misleading. However, assuming that the yearly draw-down in Chinese dollar reserves would be equal to the yearly purchase of dollar denominated oil is also misleading. It would assume that China would either cease or greatly reduce its inflow of US dollars. I have no doubt they would like to reduce their holdings of a currency they know is going to depreciate, but were they to demand currencies other than the US$ for their exports, the US demand for those exports would quickly dry up.  This could be very good news for Mexico, Hati, etc. but it would be a disaster for the Chinese economy.

The policies the US has followed have been flawed, but the USA is hardly the only nation that finds itself in a bind as a consequence. Parts of the US financial sector are the only ones in the USA who have benefited at this point. Only time will tell if they can hang on to their gains. Right now Goldman and Morgan seem to be the big winners, but at the cost of poisoning the water in which they swim.      

"It is not necessary to have hope in order to persevere."

by ARGeezer (ARGeezer a in a circle eurotrib daught com) on Thu Oct 8th, 2009 at 12:42:06 PM EST
[ Parent ]
I agree that it is extreme to treat any extra demand for dollars as a result of oil contracts being settled in dollars as being as much as one day's transactions, but it is both a conservative value for the purposes of the argument - the amount of extra demand is certainly less than that - and a convenient one, since the information on the value of oil sold per day is readily available.

And by contrast, should China change the weight in its Singapore peg market basket, it would easily amount to a more substantial impact on FX markets than the dollar value of one day's worth of oil.

I've been accused of being a Marxist, yet while Harpo's my favourite, it's Groucho I'm always quoting. Odd, that.

by BruceMcF (agila61 at netscape dot net) on Thu Oct 8th, 2009 at 04:18:51 PM EST
[ Parent ]
...
I took it to be what happened to the U.S. when China shifted away from using the U.S. dollar as a reserve currency and the subsequent (possibly positive) impact of the collapse of the dollar.

China has already switched away from 100% reliance on the dollar in its peg, but the presumption of most people is that the US$ still has a very large weight in the basket of currencies that China is presently pegging against.

In the mini-utopia, it was not just China that essentially dropped the US$ from its peg, but most of the other major neo-mercantalist nations as well. Presumably the various Caribbean dollars would still be pegged to the US$, but not the East Asian, Southeast Asian, and South Asian currencies that are presently pegged directly to the US$ or that we presume to be pegged primarily to the US$.

So its a loss of the counterweight from multiple neo-mercantalist nations that presently buffers declines in the US$.

On a sidenote, the Singapore basket peg should not be confused with the kind of basket peg adopted by the Koreans in the 80's in their transition from a US$ peg to a float ... they adopted a trade-weighted basket, so even if they did not announce the composition, it could be inferred to reasonable precision from public information. The Singapore peg does not publish the composition, which makes it far more difficult to infer whether a given move is just the natural consequence of the weights of different currencies in the basket, or is the result of a shift in the peg.

Note that since the (undated) rates given in the look back from Jan 1 2020 were mostly around 50% of current rates, in the story when it was called a currency collapse, there was a bit of hyperbole in that. In a full fledged currency collapse, it would not be surprising if the dollar lost 75% or 80%.

I've been accused of being a Marxist, yet while Harpo's my favourite, it's Groucho I'm always quoting. Odd, that.

by BruceMcF (agila61 at netscape dot net) on Thu Oct 8th, 2009 at 06:20:47 PM EST
China is still almost entirely pegged to the US Dollar, as shown by the exchange rate of the Yuan and other currencies to the US dollar. If China had, in fact, changed its peg to other currencies, the relationship between the Yuan and the US dollar couldn't be a flat as it is. It wouldn't make much sense for an exporting nation like China to peg to any other major currency either, given those currencies' appreciation. As the Euro and other currencies appreciate in relation to the US dollar, China's exports become even more affordable to people in those areas, allowing exports to increase.  

This kind of dynamic helps to keep US dollars in use for international trade even as merchants complain about how US dollar devaluation affects their ability to buy high-quality, non-American things that they want.

 

by santiago on Fri Nov 6th, 2009 at 10:30:38 AM EST
[ Parent ]
That is a fantastically stupidly scaled chart.

On the left axis we have a range of 0 to 9 with two currencies priced at around 1 USD and one currency priced around 8 USD. Big waste of space and depressed ranges.

On the right axis we have a range of 85 to 130 for the Yen value of 1USD.

The range of variation of the Yuan exchange rate is about 20%, comparable to the range of variation of the Australian Dollar and the Euro exchange rates. The range of the Yen exchange rate is about 30%, also comparable.

The difference between the Yuan and the other is in the daily volatility. The Yuan's rate is managed whereas the others are not. But the peg is sliding, the exchange rate is definitely not flat as you claim. It just has lower day to day volatility.

En un viejo país ineficiente, algo así como España entre dos guerras civiles, poseer una casa y poca hacienda y memoria ninguna. -- Gil de Biedma

by Migeru (migeru at eurotrib dot com) on Fri Nov 6th, 2009 at 10:42:34 AM EST
[ Parent ]
The range of variation has almost nothing to do with this.  Scale it however you want, and you get the same story -- the relationship between the dollar and the Yuan is essentially flat , while the relationship between the Yuan and anything else is variable and trending in one direction or another.  This proves that Chinese central bankers are pegging to the dollar first and foremost.  Sorry for the inclusion.  It's a tradeoff when trying to put too many things on one chart.
by santiago on Fri Nov 6th, 2009 at 12:19:04 PM EST
[ Parent ]
sorry for the confusion, not "inclusion."
by santiago on Fri Nov 6th, 2009 at 12:19:45 PM EST
[ Parent ]
Now we're doing the proper comparisons, Yuan to USD compared with Yuan to EUR and yes China is actively managing its Dollar exchange rate and not its EUR exchange rate.

En un viejo país ineficiente, algo así como España entre dos guerras civiles, poseer una casa y poca hacienda y memoria ninguna. -- Gil de Biedma
by Migeru (migeru at eurotrib dot com) on Fri Nov 6th, 2009 at 12:22:55 PM EST
[ Parent ]
That FED chart starts in 2005. Here's the longer view (from my diary on the savings glut):

Compared to the 10-year poriod to 2005, China is letting its dollar peg slide.

En un viejo país ineficiente, algo así como España entre dos guerras civiles, poseer una casa y poca hacienda y memoria ninguna. -- Gil de Biedma

by Migeru (migeru at eurotrib dot com) on Fri Nov 6th, 2009 at 12:29:23 PM EST
[ Parent ]
Yes, it is, as it has to because it becomes too expensive for the Chinese treasury to subsidize its exporting interest groups indefinitely, and that is who is really complaining when "China" says it wants a different reserve currency.  But the long flat segments that show up in this chart show dollar pegging interrupted by periods of float or devaluation (or vice versa), not pegging against other currencies.  If it were trying to switch it's peg to another currency we would have to see longish flat segments in exchange rates with other currencies, and I don't think that's the case. (I haven't checked well enough to say for sure, though.)
by santiago on Fri Nov 6th, 2009 at 02:44:17 PM EST
[ Parent ]
It doesn't cost the Chinese treasury anything except RMB¥ to discount its exchange rate - and that's not something that it runs out of the ability to produce, after all.

And its peg is to a basket of currencies, and they do not reveal the composition of the basket or the pegged rate, so they could definitely reduce the weight of the dollar in the basket but manipulate the peg to mask the move - where you would notice it is not in the exchange rate data but in the foreign exchange reserve data.

I've been accused of being a Marxist, yet while Harpo's my favourite, it's Groucho I'm always quoting. Odd, that.

by BruceMcF (agila61 at netscape dot net) on Fri Nov 6th, 2009 at 06:12:23 PM EST
[ Parent ]
I disagree.  A peg is observed in the exchange rate -- if flat it's being pegged.  Nothing else can produce a flat exchange rate given that their rates observed in other currencies are anything but flat. And the data show that China is currently not using a basket of any kind -- just the US dollar. It appears to have given up on any semblance of either a basket or a float in mid 2008, so they're certainly not walking their talk if they still claim to be pegging to a currency basket.

It costs the Chinese either Yuan (buying power in China) or other currencies (buying power in other places) to prop up the value of the US dollar.  This is a policy subsidy that benefits a narrow exporting class in China, and it hurts those in China who would rather purchase more stuff made in Europe or save their purchasing power in Yuan for later years. (China suffers from high inflation, partly due to buying dollars with Yuan.)  Either the Chinese authorities are ignorant of this, or they must be shifting blame for their policy decisions regarding export-oriented growth onto the US.

by santiago on Fri Nov 6th, 2009 at 09:43:30 PM EST
[ Parent ]
... I disagree that a traffic circle should be called a traffic circle, because of all the openings in the circumference ... I think it should be called a traffic celtic cross ...

... but a peg is an immediate target in trading in some other currency. You can obviously walk the peg in order to target some other objective - including in order to maintain a stable exchange rate in another currency - so a currency peg can easily show up as a moving exchange rate.

What doesn't happen with a peg, if it is performed competently, is a lot of volatility in the exchange rate. A relatively stable exchange rate with a lot of "noise" along the way would be an indication that something other than direct pegging to maintain that exchange rate is taking place.

Mainstream economists, of course, get sloppy about it, since they can ignore the differences that make a difference with absurd assumptions about expectations and information - witness the neutrality of money assumption for an especially obviously absurd assumption completely unanchored in reality which is nevertheless the "normal" assumption to make.

However, when considering open money in the real world, you have to distinguish between the currency whose exchange rate you are targeting by buying and selling that currency, and the exchange rate management targets that you have.

We all assume that there is a substantial weighting of dollars in the composite currency peg that the Chinese in fact use, but the volatility in the exchange rate that you have shown suggests that there may not be as heavy a weighting as we have been assuming.

That is, what would you see if country A was pegging with currency B while trying to keep A:C exchange rates steady? In a period that B:C was moving rapidly, the peg would be reset frequently ... possibly daily, certainly once a week or more ... between each reset, the A:C exchange rate would move like the B:C exchange rate, and with each reset the A:C exchange rate would jump back toward the target A:C rate.

To infer which currency or currencies dominates the composite peg, you'd look for a currency or mix of currencies that show a rapid change in B:C exchange rates when there is a lot of volatility in the A:C rate, and slow change in B:C exchange rates when there is less volatility in the A:C rate.


I've been accused of being a Marxist, yet while Harpo's my favourite, it's Groucho I'm always quoting. Odd, that.

by BruceMcF (agila61 at netscape dot net) on Sat Nov 7th, 2009 at 05:23:45 PM EST
[ Parent ]
Bear in mind, though, that since China abandoned the single currency peg, it can manage its US dollar exchange rates in distinct ways - it can, for example, discount the RMB¥ against the € when the € rises against the US$, rather than directly pegging against the dollar. That is, rather than pegging to the US$, it has the option of pegging to something else and shifting the peg to mask the fact that it is no longer pegging to the US$.

If they were doing that, the chart would look like a relatively flat RMB¥/US$ rate, but with more volatility than if the RMB¥/US$ rate was directly pegged.


I've been accused of being a Marxist, yet while Harpo's my favourite, it's Groucho I'm always quoting. Odd, that.

by BruceMcF (agila61 at netscape dot net) on Fri Nov 6th, 2009 at 06:19:49 PM EST
[ Parent ]
That's the same thing as pegging to the US dollar. It has exactly the same effects on welfare distributions and provides no protection against decreases in buying power of US dollars, which is the only reason the Chinese are complaining about the fall in the dollar's value -- it makes Chinese exports to the US less competitive relative to others and it makes American exports more competitive in China and elsewhere. This  is especially problematic for Chinese agriculture where avoiding dependency on American corn, soybeans, and meat is a high-level development policy concern.
by santiago on Fri Nov 6th, 2009 at 09:55:22 PM EST
[ Parent ]
That was poorly worded. I meant to say that a decline in the dollar's value relative to the Yuan would make American exports, particularly agricultural, more competitive, threatening China's policy of agricultural independence (which it has long enjoyed).  A decline in the value of the Yuan, due to pegging to a declining US dollar, reduces Chinese purchasing power abroad which has negative welfare effects for anyone in China who wants to buy anything made somewhere other than America or China.
by santiago on Fri Nov 6th, 2009 at 10:14:14 PM EST
[ Parent ]
... have to decide is whether the value of resources available from the US or the value of a discounted RMB¥ in selling in the US market.

Clearly if the Chinese stop propping up the dollar, the dollar drops dramatically against the Yen and the Euro, so the risk in other export markets is not substantial. That is, one cannot equate a decline of the US$ against the RMB¥ as a decline of all currencies against the RMB¥ when that same decline would remove the functional support of the US$ exchange rate.

reduces Chinese purchasing power abroad which has negative welfare effects for anyone in China who wants to buy anything made somewhere other than America or China

... is clearly a complete red herring - the question for retention of political power is providing employment until the pace of labor force expansion starts slowing. For a wide range of imports, the government does not risk losing political power as a result of "welfare effects for anyone who wants to buy anything made somewhere other than America or China" - those positional good imports that are not important for maintaining production are worth whatever their price is in RMB¥ - if the exchange rate was higher, more expensive imports in foreign currency would be required to maintain the same positional status.


I've been accused of being a Marxist, yet while Harpo's my favourite, it's Groucho I'm always quoting. Odd, that.

by BruceMcF (agila61 at netscape dot net) on Fri Nov 6th, 2009 at 11:04:33 PM EST
[ Parent ]
Clearly if the Chinese stop propping up the dollar, the dollar drops dramatically against the Yen and the Euro, so the risk in other export markets is not substantial. That is, one cannot equate a decline of the US$ against the RMB¥ as a decline of all currencies against the RMB¥ when that same decline would remove the functional support of the US$ exchange rate.

No one is saying this.  If the China stops propping up the US dollar, the dollar will fall relative to the Yuan, and American agricultural imports will rise, while exports of finished goods to America will fall. This has problematic implications for China's export-oriented development policy and agricultural independence policy.

On the other hand, if China continues pegging to the US dollar, but the dollar declines in value anyway because of the continuing US current account deficit, this causes the Yuan to also decline in value relative to other currencies.  That's a good thing for exporters, which is why they do this, but it's not a good thing when trying to buy things, including investment in assets, in those other countries.  That's the self-induced paradox of China's unsustainable, export-led growth strategy.  It's a Chinese-caused economic problem, not an American one.

by santiago on Sat Nov 7th, 2009 at 08:14:54 AM EST
[ Parent ]
If the China stops propping up the US dollar, the dollar will fall relative to the Yuan, and American agricultural imports will rise,

And the oil required to make those agricultural products will be procured with which stash of hard currency?

Recall that the definition of American agriculture is "the process whereby farmland is used to turn fossil fuels into food." So the price of oil in US$ establishes a floor for viable prices for agricultural products (most oil substitutes are pegged to oil, price-wise). And the price of oil in US$ will go up when the US$ drops, because the US is a net importer of oil.

- Jake

Friends come and go. Enemies accumulate.

by JakeS (JangoSierra 'at' gmail 'dot' com) on Sat Nov 7th, 2009 at 09:22:45 AM EST
[ Parent ]
The relationship between oil and agricultural prices is actually somewhat more complex and ambiguous. The direction of causality is actually greater from agricultural commodities TO oil rather than the other way around, driven by fertilizer prices more than anything else. (I.e., natural gas -> fertilizer -> ag prices AND fertilizer -> oil)  Oil prices are almost always shown, empirically, to RESULT from changes in other commodity prices, contrary to the way most narratives assume happens.

Also, fuel is a significant but still not a very large part of the cost of agricultural production (less than 10% of total variable costs, if I recall).  So variation in oil price is going to be less important than the variation in the value the dollar and won't be a limiting factor regarding terms of trade.

by santiago on Sat Nov 7th, 2009 at 11:34:37 AM EST
[ Parent ]
Natural gas prices are locked to oil prices (with a delay) under most contemporary contract regimes.

And the empirical relationships of the century of abundant oil may or may not apply to the century of scarce oil.

- Jake

Friends come and go. Enemies accumulate.

by JakeS (JangoSierra 'at' gmail 'dot' com) on Sat Nov 7th, 2009 at 08:40:47 PM EST
[ Parent ]
Contemporary contract regimes don't have a lot to with any of this. But yes, it is true that the relationships of a scarce future can't be so easily implied from those of an abundant past.
by santiago on Sun Nov 8th, 2009 at 12:44:34 AM EST
[ Parent ]
FT.com / Commodities - Oil-gas price link to weaken

While oil has been transformed during the past 30 years into a vibrantly traded global commodity, natural gas trading remains fragmented, with prices in all regions but the US mirroring the oil price.

But that is all about to change, says the International Energy Agency. The looming surplus in gas supply is set to put pressure on the current market structure, helping gas to break from crude oil and trade independently.

The cost of West Texas Intermediate, the US oil benchmark, has risen 70 per cent since January, while Henry Hub natural gas, the country's benchmark, has fallen 22 per cent since the beginning of the year, bringing the divergence between oil and gas prices close to record levels.

Gas exporters are, nonetheless, reluctant to break the oil-gas link. Russia's state-owned Gazprom and Algeria's national company Sonatrach fear, the draft says, "a move away from oil-price indexation on the grounds that gas-to-gas competition would be more likely to result in lower gas prices".

Analysts say that gas exporters will fight to maintain the oil link and keep long-term contracts, on the assumption that revenues will be higher.

While the changes in pricing systems are likely to happen over time, the integration of the regional markets seems more distant. "The North American market may remain largely disconnected from the rest of the world," the draft says, pointing out that rising domestic supplies are displacing imports of liquefied natural gas.

"A truly global gas market - characterised by strong price linkages between all the main regional markets - is still some way off," the draft adds.

I believe that a global market in natural gas "Units" - issued by producers in exchange for fiat money or 'money's worth' and redeemable in payment for natural gas - may form the basis of an 'Energy Clearing Union'.

Supply arrangements, and 'spot' transaction prices, will be agreed bilaterally, but there will be a choice of settlement in fiat currencies, 'Units' or any other 'money's worth' acceptable to the seller.

"The future is already here -- it's just not very evenly distributed" William Gibson

by ChrisCook (cojockathotmaildotcom) on Sun Nov 8th, 2009 at 04:45:18 AM EST
[ Parent ]
You said a true thing and then moved on to act as if the Chinese propping up the dollar has no impact on the US$:€ exchange rate. But of course, if the Chinese peg directly to the dollar, the dollar exchange rate with all currencies it floats against is higher as a result.

That's the way a mixed floating/pegged system working through exchanges works - the floating currency that is the subject of the pegging operations rises in value relative to other floating currencies.

Except when taking sloppy mainstream economic shortcuts involving assumptions un-anchored in reality that in effect assume money neutrality when discussing demand and supply of one currency for another, there are not two pure cases to consider, but four, and in practice countries can adopt mixes of the pure cases:

  • Pegging to the dollar, targetting the US$ FXR
  • Pegging to the dollar, targetting some other FXR
  • Pegging to something else, targetting the US$ FXR
  • Pegging to something else, targetting some other FXR

It might seem that the second case is just for logical completeness, since we are moving from a period of the West Pacific Rim pegging to the US$ - though it was of course relevant, for example, to the transition from the £sterling to the US$ in the former British Empire in the late 40's and 50's.

China is presently doing a mix of the first and the second, since they adopted a Singapore Peg early in this decade. However, they have the option at any time to switch to mixing all four - for example, shifting the currency basket they peg against to a trade-weighted basket and targetting a stable synthetic FXR against that basket would be a mix of pegging with the US$ and other currencies and targetting US$ and other floating currency exchange rates.

If they switched to that, the floating currencies would be far closer to the situation you imagine, where the pegging operation against one currency does not affect its FXR with the currencies it floats against.

And the Chinese could also switch their target to one that does not include the US$ - they could drop the US$ from their pegging currency basket entirely, or in a less extreme scenario simply shift the focus of their exchange rate management from the RMB¥:US$ to some other FXR, like RMB¥:€

Given that a pegged exchange in a mixed pegged/currency world must be held at a discount in order to be effective - a peg at a premium is subject to speculative attack, draining foreign exchange reserves, while a peg at a discount is of course immune to speculative attack, since capacity to generate domestic currency cannot be drained - pegging countries are net demanders of floating currencies.

Assuming that the currency that they are pegging can be ignored and all that has to be considered is the exchange rate that they are managing via the peg ignores the fact that the same target rate achieved with different currency pegs implies different relative demand for the floating currencies and hence a different exchange rate between the floating currencies.


I've been accused of being a Marxist, yet while Harpo's my favourite, it's Groucho I'm always quoting. Odd, that.

by BruceMcF (agila61 at netscape dot net) on Sat Nov 7th, 2009 at 10:20:41 AM EST
[ Parent ]
I certainly agree that China's propping up the dollar, and how they go about doing that, has an affect on the dollar-euro and dollar-other exchange rates. (I think the affect is unlikely to be very large, however, but I haven't really looked at enough to say for sure, so I admit I could be wrong on that.) I did not mean to imply otherwise. However, that's a US Treasury  problem, not China's problem.  For China what matters is how its own currency and international buying power are changed by its exchange rate policies -- the gross and distributional welfare/development effects of favoring exports over imports or vice-versa.

The fact that China has the option to switch how it manages it's exchange rate policies -- and always has -- leads to the question of why they are choosing to track the US dollar so tightly right now. I think the most reasonable place to start is the political-economy equilibrium view: the current policy of pegging to the dollar best balances the current internal and external demands on government policy for the welfare of various interest groups.  This means that moving away from that peg -- as US exporters and domestic industry wants -- needs to be understood as a set of conditions requiring a shift in the demands of Chinese interests (only one of which is its relationship with the US and others) on China's government.  

China is pegging the dollar because it is in its best interests to do so, and it will change as soon as it is in its best interests to do otherwise.

by santiago on Sat Nov 7th, 2009 at 12:19:00 PM EST
[ Parent ]
The fact that China has the option to switch how it manages it's exchange rate policies -- and always has -- leads to the question of why they are choosing to track the US dollar so tightly right now.

The evidence you have presented suggests that they are not targeting the US exchange rate with US currency transactions as heavily as previously and are targeting it more heavily with other currency transaction than previously suggests that they are are not taking for granted that they will continue to be targeting the US$ as heavily as they are now doing.

The peg is of course the actual piece of wood being placed in the actual hole that is actually being used to hold onto - anyone who has climbed a peg board in gym know that there's no implication of a peg holding its position for a long period of time if there is a different objective in mind.

I think the most reasonable place to start is the political-economy equilibrium view: the current policy of pegging to the dollar best balances the current internal and external demands on government policy for the welfare of various interest groups.

How about starting with the Iron Law of Oligarchy - an Oligarchy's first priority is staying in power. The number one threat to the oligarchy's hold on power is if there is no job creation to put large numbers of the new entrants into the labor force into employment. The oligarchy has for over a decade now used aggressive neo-mercantalist exchange rate policy as an essential element of its strategy to use export markets as a safety valve generator of employment.

"Political-economy equilibrium" sounds very much like an effort to export a theory that is radically incomplete in explaining economic behavior so that it can be radically incomplete in explaining a broader range of sociopolitical behavior. I suppose there is a sillier application of equilibrium theory than Chinese growth over the past 20 years, but none spring immediately to mind.


I've been accused of being a Marxist, yet while Harpo's my favourite, it's Groucho I'm always quoting. Odd, that.

by BruceMcF (agila61 at netscape dot net) on Sat Nov 7th, 2009 at 06:25:33 PM EST
[ Parent ]
I'm not sure why you think employment policy explains so much about a non-democratic regime's methods of keeping power, and I'm not sure that "keeping power" is even a very good explanation of Chinese governance objectives in general. As far as silliness is concerned, I think I'd better just let you rethink your last outburst of "iron laws" and the like. It seems you're lapsing into some simplistic paradigms of Chinese politics here, and political science in general, don't you think, especially coming from someone so well versed in the institionalist critique social science?
by santiago on Sun Nov 8th, 2009 at 01:02:07 AM EST
[ Parent ]


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