Markets Insight

July 1, 2014 4:54 am

Renminbi’s drop likely to prove temporary

Economic Armageddon no reason to be down on Chinese currency

Last year, one of the great hedge fund trades was to borrow yen, lever those yen up to five times and invest in renminbi. Investors made money on the appreciation of the Chinese currency in addition to receiving a higher rate of interest than they could on most other currencies in a world of easy money and zero rates almost anywhere else.

In addition, the trade was in line with government policies in both nations. Tokyo was committed to driving down the value of the yen, while Beijing favoured a gradual appreciation of the renminbi. That meant there was no volatility, making the trade even more attractive on a risk adjusted basis.

Since February, that happy trade is a thing of the past. The government, citing its desire to end such one-way bets, has shifted course, driving the renminbi down about 3 per cent but still way above its level of a few years ago.

The US Treasury, which has no problems with the Japanese government driving down the value of its currency, has been outspoken in its criticism of the Chinese change in its exchange rate policy, much to the anger of officials in Beijing.

Currencies are always a reflection of both politics and the markets. At the moment, there are plenty of reasons to be down on the renminbi, though economic Armageddon is not among them, in spite of that deeply held belief of some of the more bearish hedge fund crowd.

Anti-corruption drive

Interest rates in China are going down, making the comparison with the rest of the world less stark. Property prices are dropping, making investment even in first-tier cities less attractive. The anti-corruption drive, which has emptied the luxury malls, high-end restaurants and upscale hotels in the capital, has led to increased outflows of tens of billions of dollars in bolt-hole money. At the same time, foreign direct investment is slowing.

The macro arguments are also compelling. As Chinese growth slows, it is natural to lower the value of the currency to make exports more competitive. After all, that is exactly what the first (and only really powerful) arrow of Abenomics has been all about, even though it no longer works as effectively as it once did. And indeed, China’s export performance has been a little more perky of late.

Still, all these factors driving down the renminbi may not last much longer.

True, interest rates have come down. The rate paid on money market funds has gone from more than 6 per cent to less than 5 per cent. But that is still far more than the choices available almost anywhere else. China may be moving away from its earlier tightening stance. But compared with central banks in Europe, Japan and the US, which either deliberately try to drive asset prices up or ignore budding bubbles in asset markets, the People’s Bank of China remains a bastion of responsible monetary policy.

Moreover capital outflows, as Goldman Sachs notes in a recent report, have begun to stabilise. The money that wants to get out of China has mostly already left.

Finally, as the Japanese example shows, currency depreciation is not always a reliable way to stimulate exports. For the mainland, rising labour costs (adopted with the Beijing’s blessing) still far outweigh a small drop in the value of the currency in determining competitiveness. China has long been committed to using a rising renminbi as a means of forcing its companies to move up the value-added chain. That policy is still in place.

Go global campaign

In addition, since China remains dependent on imports of energy and other resources, an appreciating renminbi makes China more competitive in the long run because it lowers the cost of inputs. This year, for the first time ever, Chinese outbound investments will overtake inbound investments, according to a UN report. An appreciating renminbi also helps further the government’s latest go global campaign for enterprises such as Citic.

None of this may be immediately obvious. Nor does Beijing wish it to be so, for a mix once again of political and market reasons. For a start, it has no desire to be seen to be kowtowing to the wishes of the US, especially when these wishes are considered hypocritical given the US wants a cheaper dollar to support its own exports (of everything except the energy and technology China wishes to buy). And Chinese regulators are sincere in their desire for two way trading in the renminbi.

At the Ira Sohn hedge fund conference in Hong Kong in June, one popular recommendation was to hold bearish options in the belief that the renminbi will fall to Rmb7 to the dollar by the end of this year.

But as long as central bankers everywhere else do not care about supporting their currencies, any further fall in the renminbi is likely to prove temporary.

Copyright The Financial Times Limited 2014.

The Middle East and the Return of History

Joschka Fischer

JUL 1, 2014
Kurdish Forces Securing Outpost

BERLINEver since Francis Fukuyama argued, more than two decades ago, that the world had reached the end of history, history has made the world hold its breath. China’s rise, the Balkan wars, the terrorist attacks of September 11, 2001, the wars in Afghanistan and Iraq, the global financial crisis of 2008, the “Arab Spring,” and the Syrian civil war all belie Fukuyama’s vision of the inevitable triumph of liberal democracy. In fact, history could be said to have come full circle in the space of a quarter-century, from the fall of communism in Europe in 1989 to renewed confrontation between Russia and the West.

But it is in the Middle East that history is at work on a daily basis and with the most dramatic consequences. The old Middle East, formed out of the remains of the Ottoman Empire after World War I, is clearly falling apart, owing, in no small part, to America’s actions in this conflict-prone region.

The United States’ original sin was its military invasion of Iraq in 2003 under President George W. Bush. The “neoconservatives” in power at the time were oblivious to the need to fill the power vacuum both in Iraq and the region following the removal of Saddam Hussein. President Barack Obama’s hasty, premature military withdrawal constituted a second US failure.

America’s withdrawal, nearly coinciding with the outbreak of the Arab Spring and the eruption of the Syrian civil war, and its persistent passivity as the regional force for order, now threatens to lead to the disintegration of Iraq, owing to the rapid advance of the Islamic State in Iraq and Syria, including its capture of the country’s second-largest city, Mosul. Indeed, with ISIS in control of most of the area northwest of Baghdad, the border between Iraq and Syria has essentially ceased to exist. Many of their neighbors’ borders may also be redrawn by force. An already massive humanitarian disaster seems certain to become worse.

Should ISIS succeed in establishing a permanent state-like entity in parts of Iraq and Syria, the disintegration of the region would accelerate, the US would lose itsglobal war on terror,” and world peace would be seriously threatened. But even without an ISIS terror state, the situation remains extremely unstable, because the Syrian civil war is proving to be highly contagious. In fact, “civil war” is a misnomer, because events there have long entailed a struggle between Saudi Arabia and Iran for regional predominance, powered by the age-old conflict between Islam’s Sunni majority and Shia minority.

The Kurds form another unstable component of the Ottoman legacy. Divided among several Middle Eastern countriesIran, Iraq, Syria, and Turkey – the Kurds have been fighting for their own state for decades. Nonetheless, they have shown great restraint in northern Iraq since Saddam’s fall, contenting themselves with building up their autonomous province both economically and politically – to the point that it is independent in all but name, with a strong and experienced army in the Peshmerga militia.

The advance of ISIS and its capture of Mosul have now resolved, in one fell swoop, all territorial disputes between the central government and the Kurdish regional government in favor of the latter, particularly regarding the city of Kirkuk. Following the Iraqi army’s retreat, the Peshmerga promptly took over the city, giving the Kurdish north ample oil and gas reserves

Moreover, neighboring Iran and Turkey, as well as the US, will urgently need the Peshmerga’s support against ISIS. Thus, an unexpected window of opportunity has opened for the Kurds to achieve full independence, though their dependence on good relations with both Turkey and Iran for access to global markets will moderate their political ambitions.

Moreover, with its invasion of Iraq, the US opened the door to regional hegemony for Iran and initiated a dramatic shift in its own regional alliances, the long-term effects of whichincluding the current nuclear negotiations with the Iranian government – are now becoming apparent. Both sides are fighting the same jihadists, who are supported by America’s supposed allies, the Sunni-ruled Gulf states. Though the US and Iran remain opposed to official cooperation, the wheels have been set in motion, with direct bilateral talks becoming routine.

One key question for the future is whether Jordan, which plays a key function in the region’s equilibrium, will survive the geopolitical shifts unscathed. If it does not, the entire balance of power in the traditional Middle East conflict between Israel and the Palestinians could collapse. The consequences would most likely be far-reaching, if difficult to assess in advance.

For Europe, developments in the Middle East pose two major risks: returning jihadi fighters who threaten to bring the terror with them, and a spillover of their extremist ideas to parts of the Balkans. In the interest of their own security, the European Union and its member states will be compelled to pay much closer attention to southeastern Europe than they have until now.

Joschka Fischer was German Foreign Minister and Vice Chancellor from 1998-2005, a term marked by Germany's strong support for NATO’s intervention in Kosovo in 1999, followed by its opposition to the war in Iraq. Fischer entered electoral politics after participating in the anti-establishment protests of the 1960’s and 1970’s, and played a key role in founding Germany's Green Party, which he led for almost two decades. 

The NYTimes' 'China Threat' Myth, The 'Pivot To Asia,' And Obama's Foreign Policy Legacy

We should expect The New York Times, as a loyal retainer of President Obama, now focused on embellishing his administration’s record of accomplishments, to be anxious when it comes to foreign policy. What seemed the task at the end of the first term was to laud Hillary Clinton’s non-stop peregrinations and to claim (prematurely) that the President had placed the United States on the “right side of history” in the Middle East.

Now, with the Middle East in turmoil, and Obama’s first term now widely acknowledged to have been (with the exception of the exit from Iraq) singularly devoid of significant foreign policy achievements, it has become The Times’ task to ensure that one Obama initiative retains enough apparent legitimacy to inform his legacy.

That initiative is Obama’s strategic military pivot” or “rebalance” to Asia, the decision to redeploy 60% of American air and sea power  to Asia by 2020.  Why?  To counter to an aggressive, hegemonic, expansionist ChinaNever mind that the narrative of an expansionist China is a myth.

English: Map of the South China Sea, with 9-do...
English: Map of the South China Sea, with 9-dotted line highlighted in green (Photo credit: Wikipedia)

We see The Times propounding–and building–the China-as-aggressor myth again in a June 18 editorial entitledChina’s Power Grab is Alarming.”  The editorial speaks of “worries in Washington and elsewhere about Beijing’s continued bullying in energy-rich [South China Sea] waters….”

The editorial citesBeijing’s efforts to assert sovereignty over the many specks of rock dotting the South China Sea,” including now “the piling of sand on isolated reefs and shoals to create what amounts to new islands in the Spratly archipelago,”  and “a strongly worded statement last month by Defense Secretary Chuck Hagel condemning China’s destabilizing, unilateral actions in the South China Sea.’”

The Times continues: “China insists that the Spratlys, Paracels and other islands have always belonged to China. But Vietnam also claims sovereignty, and parts of them are claimed by the Philippines, Malaysia and Brunei.”

So, may we now conclude that The Times’ case for China as aggressor–and by extension the ‘pivot’ as a necessary and proper strategic response–is made?  To do so would be swallowing the myth. The reality is almost completely the opposite.

China claims sovereignty over the Spratlys and Paracels islands in the South China Sea. By China, we should understand not just the People’s Republic in Beijing, but its post-1911 predecessor, the Republic of China (i.e., the government on Taiwan), and the great China’s imperial dynasties dating back at least 1000 years. The claim is based inter alia on discoveries by the Ming dynasty admiral Zheng He and by occupation of islands and exploitation of the surrounding waters for fishing by Chinese fishermen for hundreds of years.

The famousnine-dash line” is an expression of China’s historical claims. It was first transposed on Chinese maps in 1947 when France (then still the suzerain of Vietnam) and the Philippines began a diplomatic campaign to assert their claims in post-WWII forums dealing with Japan’s imperial conquests (which included the islands).

Five times–in 1970, 1971, 1978, 1980, and 1999Philippine armed forces took actions that have placed nine islands claimed by China under foreign occupationSince occupying the islands, the Philippines has proceeded to build military installations and station some 1000 men on them.

Beyond occupying the islands, Manila has for years taken actions highly provocative to China, including arresting and expelling Chinese fisherman fishing in the disputed area. Chinese protests have been dismissed. In June 2011 the office of PI president Aquino declared that the South China Sea would henceforth be called the West Philippine Sea. In July 2011 a delegation of Philippine legislators landed on a Chinese-claimed island, declaring Philippinesovereignty.”

Against this background, what we–and The Times–should find remarkable is not China’s maximalist stance in territorial disputes,” to quote the editorial, but Beijing’s restraint.

On the recent altercation with Vietnam over Chinese drilling operations, on May 15, three days after Secretary of State John Kerry called the operations provocative” and an “aggressive act,” People’s Liberation Army Chief of the General Staff General Fang Fenghui, on a reciprocal visiting to the Pentagon, said the following Quoting DoD’s transcript of the press conference:

China is conducting the exploitation activity within 12 nautical miles of the Zhongjian Islands which is a part of the Paracel Islands. And this is an activity conducted within our territorial water.

“And secondly, the related countries in the South–in the South China Sea have drilled actually many oil wells in the South China Sea, but China has never drilled even one. From this single fact, we can see how much restraint China has exercised.  And the purpose of this restraint is to keep–to maintain the stability of the South China Sea region.

“We have an enduring position of putting aside disputes and achieve [sic] common exploitation. But while China is holding this position, other nations are drilling oil wells in this region

So that’sthis is the status quo.  And I have to underscore it is only under this background that we are conducting the exploitation activity within the Zhongjian island.”

What to make of the facts and context above, and the absence in The Times’ editorial of any mention of them?

The Times remains a reliable organ of the Americaninternationalistestablishment–the Pentagon, defense industry, national security and intelligence bureaucracies and “think tanks.” 

For this establishment, American leadership”–in reality hegemony backed by unchallengeable military power, deployed the world overis and must remain the sine qua non of a stable international order, particularly in Asia.

The Obama White House has been a servant of this establishment, and Obama’s militarizedpivot to Asia policy is the Establishment’s top priority initiative.

The supreme irony is that the ‘pivotpolicyin essence an American reprise of Cold War containment now directed at China, fueling an arms race and U.S. alliance structure that is a growing threat to China–has emboldened the Philippines and Vietnam, as well as Japan, to oppose and challenge China, and to decline to negotiate in good faith to resolve disputes.

Doing its duty for the Establishment, and for Obama’s legacy, The New York Times is propagating a “China threat myth and is biased, unfair, untrue, and, in the end, dangerous for the United States.