This article was published by The McAlvany Intelligence Advisor on Monday, September 14, 2015:
In his 2001 paper “Building Better Global Economic BRICs,” chairman of Goldman Sachs Asset Management Jim O’Neill developed the acronym for Brazil, Russia, India and China. He made the case that the BRICs symbolized the shift of global economic power away from developed nations, estimating that they might overtake the G7 nations – Canada, France, Germany, Italy, Japan, the United Kingdom, and the United States – as early as 2027.
Modifications were necessary to dampen O’Neill’s enthusiasm, with GS recalculating that it wouldn’t happen before 2050. By December 2012 the Council on Foreign Relations, in itsForeign Affairs publication, was forced to refute even that modest projection:
As with previous straight-line projections of economic trends, however, such as forecasts in the 1980s that Japan would soon be number one economically, later returns are throwing cold water on [O’Neill’s] extravagant predictions.
With the world economy heading for its worst year since 2009, Chinese growth is slowing sharply, from double digits down to seven percent or even less. And the rest of the BRICs are tumbling, too: since 2008, Brazil’s annual growth has dropped from 4.5 percent to two percent; Russia’s, from seven percent to 3.5 percent; and India’s, from nine percent to six percent.
Just three years on, China is now being forced to sell its primary political advantage over the United States: in the last year it has sold off $315 billion of its $1.3 trillion of U.S. debt, more than $100 billion being sold in August alone.
During the last presidential election, China threw its weight around, threatening to “use its financial weapon to teach the U.S. a lesson” if it insisted on flouting Chinese interests such as selling arms to Taiwan, for example.
Now it’s selling those dollars on the global markets in order to support the yuan from going any lower. In August it surprised those markets by announcing a two percent devaluation and is now having to defend it from falling further. According to Sue Trinh, the Senior Currency Strategist for the Royal Bank of Canada, it is still 15 percent overvalued compared to its competitors.
It’s also selling dollars to buy yuan to support its cratering stock markets and lending money to brokerages to buy stocks on their way down.
Here are the constraints now keeping China’s Keynesian aggressions in check:
- The foreign exchange market is huge almost beyond comprehension: nearly $7 trillion is awash among the world’s central banks. A mere $100 billion, or $315 billion for that matter, in that vast ocean is scarcely noticeable;
- Japan is likely to come to the rescue of the U.S. Treasury if China’s liquidations force interest rates higher. Japanese Prime Minister Shinzō Abe has been, as Bloomberg’s William Pesek expressed it, “as compliant a Japanese partner as Washington has encountered in decades,” and would likely accept a collect call from President Obama asking him to pick up where China is leaving off;
- In its own self-interest, China isn’t interested in shuttering the U.S. economy by forcing interest rates too high. Its rickety economy needs every trading partner it has to continue to buy its goods;
- U.S. Treasuries are still the safest, surest place for investors to place funds in an uncertain world. And their yields far outpace those of Germany and Japan; and
- If it is forced to devalue its currency further, China could start a devaluation war with potentially devastating consequences.
That doesn’t mean, of course, that the Keynesians running China couldn’t make a mistake and set in motion a cataclysmic disaster. As Tyler Durden of ZeroHedge expressed it:
All of these dynamics (i.e., a Fed rate hike, China’s massive U. S. Treasury dumping, an emerging market meltdown precipitating foreign exchange reserve drawdowns … ) simply cannot coexist for long without something snapping….
In this very unstable (environment), the smallest policy error will reverberate exponentially….
How quickly things change. From the schoolyard bully in 2012 China, the leader of the BRICs, is turning into the schoolyard’s 100-pound weakling.
Bloomberg.com: China Sells U.S. Treasuries to Support Yuan
Bloomberg.com: China Has Lots of Treasuries, Not Much Leverage
Foreign Affairs: Broken BRICs