Exploring a futile and dangerous ambition...
THE CURRENCY WAR is hotting up, writes Greg Canavan at the Daily Reckoning Australia.
Now Japan is in on the act. Yesterday, the Bank of Japan announced it would print another ¥10 trillion, bringing its total asset purchase program to ¥80 trillion by the end of next year.
Of course we have no idea what that means. What's another ¥10 trillion in the scheme of things? It all amounts to rearranging the chairs on the Titanic. The Financial Times says that the Bank of Japan responded to complaints from the likes of consumer electronics companies Sharp and Panasonic. The strong Yen is killing their business...they want a weaker Yen.
So the Bank of Japan responded. Everyone wants a weaker currency. It's the policy weapon of choice in a post bubble economy – steal demand from your trading partners. It's pretty much the playbook that the International Monetary Fund (IMF) has employed for years.
Whenever a small developing economy got into trouble after Western banks went on a lending spree, the IMF would come in, privatize a whole bunch of assets, bail out the banks and devalue the currency. It effectively transferred wealth from the middle class to the kleptocracy.
In a world of stable economic growth, the currency devaluation usually worked, in that it encouraged exports, discouraged imports and forced the country in question to live within its means.
But currency devaluation doesn't work when the whole world is struggling for growth. The US tries to steal a little via successive QEs...Europe and Japan try to steal the demand back by responding with their own attempted devaluations.
This tit-for-tat goes on until you get a major inflation breakout. The theft then transforms itself into something far grander. It's a systematic theft of wealth from that part of society who are furthest away from the source of the money printing. The further away you are, the more you lose.
So if you're concerned about not being close enough to the global liquidity tap, buy yourself some physical gold. It's about the only wealth storage device immune from the idiocy and flawed thinking of the global central banking fraternity.
This flawed thinking is really the product of a flawed financial system. Sharp and Panasonic might be whining about the strength of the Yen, but maybe their business models have now just reached their used by date.
Japan's post-war economic resurgence was the product of US capital and economic management. With Japan forbidden to have any defense forces, the US fulfilled its defense needs. In return, Japan supplied the US with consumer products. They even financed the US consumer (by financing the US trade deficit) to ensure steady demand for their products.
Japan built its wealth on the innovation and industriousness of its export sector. But that strategy also relied on the US being able to consume well above its ability to pay (in real Dollars) year after year after year.
Now here we are, with the US having to resort to a fingers crossed policy of trying to reinflate the burst housing market to encourage consumption demand.
Whichever way you look at it, the financial system as we know it is in the process of breaking down. Just because the stock market looks 'healthy' doesn't mean everything is fine and dandy. The whole system of savers (China, Japan, Europe...yes, Europe as a whole) endlessly financing the debtors (US, UK, Australia) is coming to an end.
Money printing just prolongs the adjustment, and ensures it will be more painful when it happens. All it does is monetize previously created credit. It doesn't create new credit, which represents new purchasing power in an economy.
All it does is swap a longer term, illiquid asset for a very short term (overnight) asset, i.e. cash. To the extent that banks don't lend this cash (and create new credit) it sits in the financial system, encouraging speculation and pushing asset prices up.
On the one hand it's an insanely stupid strategy. On the other it's the only policy option left for economies weighed down by too much debt and no asset bubbles left to blow...except for gold, which is the last asset bubble central bankers will willingly inflate.
So after sitting back and watching all the major global central banks fire their shots, what weapon will the People's Bank of China (PBoC) employ?
Maybe they'll hold off. Yesterday, the Australian Financial Review reported that senior officials at the PBoC would be reluctant to reignite credit growth with further stimulus measures. They see China as going through structural change, not a cyclical slowdown.
While we have been critical of China's economic management and central planning tendencies, they are not stupid. They know if they continue to perpetuate the investment boom it will lead to even bigger problems down the track.
Unencumbered by three or four year election cycles, China plays a longer term game. The ruling party's over-riding mentality is social stability. Keep people happy and remain in power. They will have a hard enough time maintaining social stability during the upcoming structural adjustment from investment led growth to consumer led growth. If they reignite the boom now, the eventual adjustment will be very, very painful.
Either way it will be painful for Australia. We've been saying it for a while now. But apparently news is only news when someone important says it is so. Today's Australian Financial Review quotes ubiquitous economist Ross Garnaut as saying, 'I think we're going to have a very difficult time adapting to the decline in living standards that's going to be a necessary part to the adjustment to the end of phase one and two of the boom.'
Another way of saying the end of phase one and two of the boom is the beginning of phase one and two of the bust. You've already seen the impact on commodity prices and producers. Mining services companies are feeling several phases of the bust all at once.
But China optimists think the worst is over. Iron ore prices are now back around US$110 per tonne, well off the lows reached a few weeks ago. But we reckon it's a dead-cat bounce.
Once the realization that China is in the midst of a long structural change sinks in, bulk commodity prices will head lower again.
That's unless investment banks can develop a market for coal and iron ore futures – or paper iron ore and coal. That way central banking money printing can find its way into more and more derivatives of real products, make people feel wealthy via rising paper values, and get them spending. Spending creates demand which creates investment and jobs. It's Bernanke economics 101. It couldn't be easier!
By the way, if you want a Western insider's view on what is going on in China right now, check out this article. It doesn't inspire much confidence. In fact, it's an on-the-ground view of what happens to an economy that has just gone through an historic credit boom.
Even if this viewpoint is half-right, Australia's leaders and so-called China experts may have woefully mis-read the situation.
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