by Migeru
Wed Jul 28th, 2010 at 07:08:24 AM EST
FT.com: China offers vote of confidence in euro
The comments come a week after China bought several hundred million dollars worth of Spanish bonds, signalling a return by Asian investors to the eurozone's peripheral markets after an absence of two months.
...
While there was a high level of concern in Beijing about the European economy when the euro first started to fall sharply in value, there have been signs in recent weeks that opinion was shifting. Even before Mr Wen's comments yesterday, several policymakers had made more upbeat statements about Europe, while influential economists have made the case for China providing some support for euro assets.
...
According to people familiar with Spain's recent bond issue, China's State Administration of Foreign Exchange, or Safe, which manages the foreign exchange reserves, was allocated up to €400m ($505m) of Spanish 10-year bonds in a debt deal last Tuesday.
Comment and analysis below the fold.
originally posted 19 July
front-paged by afew
China's much-publicised purchase of Spanish bonds means that Wen Jiabao's words about the Eurozone are not just paying lip service to Merkel in her state visit. I suspect this development has much to do with Europe's brilliant China policy as Jérôme cleverly put it 3 months ago:
Europe has quietly and successfully implemented a 20% re-evaluation of the yuan against the euro without a peep from either the markets or the Chinese. This will protect domestic activity against subsidised competition from Asian exports, it will protect workers' jobs and their wages from the ever-downward pressure from Chinese wages and working conditions, and it will protect our energy intensive industries from freely-polluting, carbon-unconstrained factories out there.
The devaluation of the Euro with respect to the Yuan (via the Yuan's dollar peg) has now reached something like 30%, so it has to start biting China's trade policy. This necessitates, at the very least, a shift in the peg from a 100%-minus-
epsilon dollar basket to a noticeable weighting of the Euro, and this leads to China buying more Euro debt and less Dollar debt to add to its foreign reserves. This comes on the heels of
China Ratings Agency Downgrading US Debt From Moody's, S&P's, and Fitch's AAA Rating (h/t Jesse's Café Américain)
Currency wars. Well at least a Phony War for now. See, nothing has happened. All is well. Move along. Nothing to see here. Status quo intact.
The US sovereign debt gets a stiff downgrade, cut down from number one in the world, to a distant thirteenth place by China's Dagong Credit Rating Agency. Governments like China do not take actions like this randomly, and their quasi-state organizations do not march to the beat of their own drummer. It will be interesting to watch this develop, and calculate the strategy, to figure out the next steps.
Within the Eurozone, Spain's yields are enticingly high with respect to Germany's, and China is betting on the Eurozone bond market not fragmenting. This may arguably go against a recent observation by Krugman (sorry, can't google it...) that the rising spreads among Euro bonds mean that the Euro bond market is fragmenting and so the Euro can no longer compete with the US dollar as a reserve currency because the German bond market just doesn't have the depth of the US bond market. I think in this case Krugman was making the mistake of equating "international investors" with "US/Western™/private" investors, and forgetting the deep pockets of China and the effect it can have by itself on bond markets.
In fact, just by virtue of China buying peripheral Euro bonds it lowers the periphery's risk of default or (perish the thought) ejection from the Eurozone, so China's own intervention ensures that the Spanish bonds it's buying are underpriced. And, I suppose, encouraged by the unexpected Asian appetite for its bonds, Spain is diving head first, as reported by BusinessWeek: Spain Picks Nomura as Primary Dealer to Boost Asia Debt Sales
The Spanish Treasury added Tokyo- based Nomura Holdings Inc. to the list of primary dealers of the country's government bonds as it seeks to boost debt sales in Asia. Nomura will be added to the current roster of 21 dealers starting next month, a spokesman for the finance ministry said, confirming a report in the Expansion newspaper.
Now, while Chinese support will relieve the Market (and Marketista) pressure on Spain's government, we all know having someone else buy your bonds so you can buy their products is not healthy or sustainable in the long term. A case in point is the famed savings-glut/debt-binge symbiosis between China and the US. In this regard,
BruceMcF wrote the following in the comments to my diary on the Savings Glut Theory some 18 months ago:
If the US is engaged in the borrowing, clearly the role of the Chinese here is in accommodating, not in causing, the long term unsustainable GDP growth model. And that accommodating entails finding a mechanism for providing the external finance so that the US could continue to purchase Chinese exports, even though the US was on a growth path that is unsustainable in the long term. Now, is this recessionary? Compared to what alternative? The Chinese have simply been in no position over the past two decades to dictate to the United States that i[t] must adopt a sustainable GDP growth path. The only choices that it has had have been to either accommodate the growth path, putting off the day of reckoning, or refusing to accommodate the growth path, bringing forward the day of reckoning.
Given their own position of riding a massive demographic transition from the insanely unsustainable pro-population-explosion policies of Mao to the population-control policies of Deng, instituted in 1979, the Chinese really had no choice but to accommodate.
The only side with actual freedom of action in the bilateral relationship was the United States, and our political elite ch[o]se to pursue a financially unsustainable GDP growth path.
Clearly Spain is in no position to force the economic hand of China, so China is doing this of its own volition in this case, just like Germany was doing before, though the case of Germany buying peripheral Euro debt is slightly different as
BruceMcF again explained in a comment to JakeS' diary on the Savings Glut Theory a month ago:
Evidently, China is in part responsible for the imbalance because of its discounted exchange rate policy, just as the US is in part responsible for the imbalance because of the same discounted exchange rate policy. After all, China could not discount the ¥RMB/US$ exchange rate on its own without the US electing to tolerate the discount. All the US need do is to discount back, and the originally discounted exchange rate nation will be under proportionally more imported inflationary pressure than the originally overvalued exchange rate nation. Its a game of chicken race to the cliff with the Chinese car starting out closer to the cliff.
Greece and Germany are a different case because they have an exchange rate pegged at €1:€1. Under a fixed exchange rate system, the surplus country has more power to determine policy stance than the deficit country.
So, in this vein, Spain would be well advised to use the temporary respite in Market pressure conceded by China to press ahead with the promised but as yet unrealised transition to a "new economic model" not based on tourism and bricklaying.
