I’ll tell you. China will pay for its economic boost by destroying the US dollar. Let me explain… China is sitting on some $2 trillion in foreign currency reserves. Between 60 and 70% of that is invested in dollar assets like US Treasury bonds and government-backed companies.
All that cash has effectively subsidised American consumers. It has allowed them to live far beyond their means. But it really does little to benefit China’s citizens. Right now, the ten year US government bond yields just 2.99%.
At the same time, the American government is set to issue a record level of new Treasury bonds to fund its own bail-out plans. The Paulson and Obama plans together will cost at least $1.4 trillion. That is a colossal amount of money. And it will have to be funded by issuing new debt.
As far as I can see, that leaves the US Federal Reserve as the only reliable buyer of Treasuries. And to pay for that flood of new paper they are going to have to run the printing presses overtime. They are going to have to create more “money” out of nothing air. The faster those presses spin, the faster the dollar is going to lose value.
The analysts are living in a fool’s paradise
The threat to the US dollar is so glaringly obvious you would think that just about every analyst would have picked up on it. But they haven’t. Because they are still stuck in a view of the world that should have died when the global financial crisis began last year.
They argue that China benefits from subsidising US consumers. Why? Because it means they keep buying cheap Chinese goods.
Most analysts still believe that China wants to preserve the status quo. So they will borrow or print the money to fund their economic stimulus plan. Some analysts go even further. They actually expect that China will help bankroll America’s bailout with a major increase in their dollar holdings.
They are living in a fool’s paradise.
You see, American consumers aren’t buying Chinese goods the way they were a year ago. Just look at the figures. US retail sales had their biggest monthly fall since 1992 last month. China has no great incentive to prop up the US. Bailing out America would be not just stupid, but highly dangerous
The plain fact is that China won’t unnecessarily debase its currency or burden the country with debt to fund their stimulus plan when they have $2 trillion in foreign currency reserves sat there earning paltry returns.
It would not just be stupid to do this. It would be incredibly dangerous...because it risks unleashing massive inflation. Soaring inflation in the late 1980s was a major cause of the social unrest that culminated in the Tiananmen Square protests in 1989. China’s leaders won’t risk a re-run.
China is going to start selling down its US dollar holdings massively in order to fund its domestic investment programme. That means the US dollar is going to have its teeth well and truly kicked-in.
This is vital to bear in mind as a non-US investor. If you have any dollar-denominated holdings in your portfolio, you had better be jolly sure that the profit that you expect to make on them is enough to cover losses from the collapse of the dollar.
Until next time,
Manraaj Singh
For Fleet Street Daily
Manraaj Singh is Chief Investment Strategist of Profit Hunter, an investment newsletter focussed on contrarian profit opportunities from around the world. You can view his report on one of his top investment plays right now by clicking here.
Moving the debt goalposts…
BY BEN TRAYNOR
Here’s a chart that sums up what’s going on over the Pond (and on this side also actually):
The blue and green lines represent US national debt (Debt Subject to Limit is the maximum amount of money the US government is allowed to borrow without receiving additional authority from Congress).
The orange line is how much debt the government is allowed to have. It’s a good job they keep moving it, eh?
Just before I go, I’m going to be sending you a special report tomorrow by my colleague Theo Casey. As I made clear in yesterday’s FSD, I myself am not a fan of equities right now. I personally think cash is a preferable alternative.
That view drew a spirited (and, I will add, completely valid) response from one reader:
“Please! I am not saying equities are a buy but how can you put faith in cash when the supply of the stuff is in the hands of a government bereft of honesty or prudence? Cash is the new bubble and people are surely going to be burnt holding it! Maybe not Zimbabwe style but in that direction.”
A very good point (and one I’ll be expanding on in future FSDs). But the immediate question is: What can you invest in right now?
Theo’s report tomorrow morning will give you the answer.
Make sure you don’t miss it!
The Daily Reckoning – Introducing a proven Deflation Fighter
BY BILL BONNER
“I think Obama should get Gideon Gono on his new team,” writes a friend.
Never heard of Gideon Gono, dear reader? Well, he is one of the best economists who never won a Nobel prize.
Why? Because Mr Gono is a proven deflation-fighter. No one knows more about avoiding deflation that Mr Gono. That’s why he was such an obvious choice for Secretary of the Treasury. If America’s top financial challenge is preventing a deflationary meltdown – as everyone says it is – than Mr Gono is our man. Other economists – notably, Ben Bernanke – have studied the question academically, but Mr Gono has years of practical experience in the field.
He probably should have stayed in the field. Perhaps hoeing tomatoes. Instead, five years ago, the old crony was appointed to head up Zimbabwe’s central bank.
You can read the Daily Reckoning in full here P.S. If you enjoyed this article then we encourage you to sign up for the free Fleet Street Daily eletter. Learn what you can expect from today's markets -- and how to prosper in the face of uncertainty. You won't find more thought provoking writing anywhere on the Internet.
