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New Economic Order: China, US Dollar & the G20 Game Perspectives Patrick McNutt Web: www.patrickmcnutt.com Blog: www.mcnutt.tm.mbs.ac.uk The storybook…… • The world economy is now enduring a signalling cycle that probably began in the US on March 12th 2007 and it will continue to oscillate until either a market equilibrium (= continued recession with global imbalances on trade and currency fluctuations) or a coordinated equilibrium is reached. The latter could be achieved initially at the G-20 Summits if a managed exchange rate regime was on the agenda and a loud unambiguous signal transmitted to the international investment and financial community, with escape clauses, of a managed regime 2010 to 2012. It’s the best governments can do given the uncertainty in the world financial markets. Why a signalling cycle? • Financial and economic variables create cyclical patterns (CTL) • Government policy is necessary but not sufficient • Government policy is ‘signalled’ • Economic policy depends on policymaker’s commitment (PLT) • Signalling recognises that our economic system is dynamic Paradigm shift EMs & ASLEEP economies to account for 50% World trade and 30% World exports by 2015 50% of World’s equity is now outside the US: Shanghai Composite correlates with S&P500. US depends on Chinese credit; China has $790b of US debt Trading blocs: only 25% of ASEAN exports go outside the trading bloc Chinese exports growing by 30% to India, Brazil, Mexico and Indonesia. Old view………. National markets Other economies C+G National growth National companies Signals to Observe in 2010 • S&P 500: 40% of revenues from foreign sales • Exponential growth in FDI to EMs and ASLEEP. • EMs and ASLEEP economies v Anglo-Saxon & US • Creative Industry: Transition from nontechnology to technology & innovation sectors. • Corporate Planning: Output ►demand ►income • Capital flows to EMs increasing to approx $700b in 2010 from $450b in 2008/2009. • China: both PE and FDI in EMs, ASLEEP. Paradigm Shift occuring………. Global markets ASLEEP economies X:Trading Blocs Global growth Global companies Less emphasis on a national market (crowding-out): More emphasis on a global market of trading blocs (crowding-in): GDP = C (M) + X + Corporate Investment/FDI => Focus on global growth Emphasis products & services with global reach => Focus on global companies: geography and industry Emphasis on Emerging markets in Asia, Latin America and Eastern Europe & Pacific Rim (ASLEEP) ASLEEP economies to account for at least 50% of global growth, 30% of world exports by 2015 Real Time Information Flow Non-traditional FDI: Not ‘bricks and mortar’ Business Strategy: ’Trade in Tasks’ Resources Mobile & Capital: Materials: ‘Trade in e‘Trade in Funds’ Scarcity’ China equation: GDP = X + G/Corporate Investment/FDI + C(M) • China more important source of funds than World Bank in Africa • China to account for 10% (PPP) World GDP by end of 2010 • FDI in Africa, in Iraqi oilfields, China Unicom + Nitel, ICBC + RSA Standard Bank, China-Singapore Trade Deal 2008, China-Egypt Business Council 2006, Geely Auto • China’s main stock index now trades p/e = 31: higher by 50% on S&P500. • Capital inflows to China » either revalue, accumulate reserves or decrease interest rates Capital flows and FDI • Capital controls may be increased • Revalue Yuan/RMB (most likely in Q3 2010 post-G20 in Canada) • Accumulate reserves (unlikely as China has trillions of US dollars in reserves) • Decrease interest rates (unlikely due to concerns with domestic inflation) • Chinese Government RMB-Bonds Game on…. China and its currency…does it need to revalue by 25%? US focus on export-led growth….will the USD fluctuate? FED and Bernanke signals high UN at 10% ..unlikely to raise interest rates before Autumn 2010 and USD strengthens More and more currencies are ‘captive’ in a yoyo exchange…Euro/USD - Euro weakens/strengthens as USD strengthens/weakens Critical Time Line • • • • • Identify and verify the signals Locate into a pattern Observe the pattern: action and reaction Define Player A and Player B Dark strategy on belief and actions ‘Credible threat’ signalling language used…….. a) Debt-deflation trade-off Credible threats Beggar-my-neighbour deflation, devaluing currency to increase export competitiveness b) ‘Credible threat’ policy formulation Nov 2009: APEC meeting signal on China to allow Yuan.RMB revalue in 2010 Debt & Financial Complexity Convoluted debt Deflation Jan 2010: President Obama in State of Union address: importance of exports Sino-French alliance on global currency: IMF’s SDR substitution account ’ Solutions Opportunities Critical Timeline March - September 2009: US and China 23 Mar 2009 1. China CB Governor raises the issue of the role of US $. Diplomatic language ‘lost in translation’ 22 June 2009 7 July 2009 3. BW theme of ‘new protectionism’ ; FT theme of ‘currency misalignment’ . 5. Italy and France no to ‘normal’ 17 August 2009 28 July 2009 15 July 2009 7 Signals that China biggest X than Germany 8. China US Strategic Econ Summit 11. IMF on Asian need to M. China signals ‘inflation’ 12. G20 Pittsburg Summit 2. G20 London Summit 4 China signal on ‘normal’ Agenda with exchange rates 22 Sept 2009 6. G20 Italy Summit 8 July 2009 9. Signals on WS ‘bull’ market 2 April 2009 5 July 2009 31 July 2009 10. Iron ore reaches $100 tonne spot 2 August 2009 Critical Timeline November 2009 - February 2010: US and China 14 Nov 2009 1. At APEC Meetings signal that China will allow Yuan/RMB revalue in 2010. 10 Jan 2010 3. At AEA Meeting Bernanke on low interest rates 8 Feb 2010 5. OECD/Moody China Current Account Surplus $328b dd.mm. 2010 20 Feb 2010 22 Feb 2010 7 Obama Time Magazine interview and China must revalue ‘overheating economy’ 8. Chinese commercial banks increase reserves 11. Signal.we observe. 12. G20 Canada Summit Toronto 2. Economic commentators calling for 25% revaluation 4 Obama State of Union focus on X but silent on exchange rates 20 Dec 2009 1 Feb 2010 6. Obama meets Dali Lama 19 Feb 2010 26-27 June 2010 9. IMF and 4% inflation target and justifying capital controls 20 Feb 2010 10. Signal..we observe dd.mm.2010 Commitment to exchange rate targets 2010-2012 with escape clauses ….why? • Global growth will depend on world exports as domestic demand continues to fall. • China Yuan/RMB is ‘captive’ to other countries exchange rate policies • EMs and ASLEEP economies will substitute export-led growth for more G • Beggar-my-neighbour policies emerge: both US and China cannot rely on export-led growth simultaneously • China needs to increase domestic consumption • China limited on interest rates moves due to capital inflows 2010 Policy A 2010 Policy B 2010 Policy A 2010 Policy B Solution 2010-2012 Managed Exchange rates: US$ and RMB US X and China M in world rebalance China controls inflation & asset bubbles EMs & ASLEEP Deflation-Debt More G and Socialising losses ‘Captive’ exchange rates Beggar-myNeighbour policies Deflation-Debt More G and Socialising losses ‘Captive’ exchange rates Beggar-myNeighbour policies Solution 2015 Currency fluctuations Reflation and taxation protectionism devaluation Managed exchange rates • Managed exchange rates to ‘manage’ corporate earnings/FDI, Chinese inflation. • ‘Manages’ protectionist trading blocs with a common currency: GCC, NAFTA, APEC, EU, ASLEEP • ‘Manages’ the degree of uncertainty in financial markets • ‘Manages’ Export-led growth v Domestic demand • ‘Manages’ China, Japan, ASLEEP surpluses v US indebtedness And in conclusion….. 2010 is time period t Our prognosis is for time period t+1 Investment Cycle Information Signals Monetary policy does not work Moral hazard embedded in risk analysis Private Equity: Prognosis • Herding and Panic • Virtualisation and absence of scarcity in resources Information Processing Weightless companies • Latest technology • Signals v company fundamentals • Geo-politics • Ease of trade v ease of entry Intra-Regional Virtual Trade Global Economic Outlook Creating opportunities • • Preamble Signalling cycle ≠ a business or trade cycle. It arises from non-binding chat at time period T. Signalling cycle => a requirement for a new international economic order in the geo-political space to focus on the redistribution of world trade and income. THE NEW POTENTIAL (First-best solutions: to dampen or break down the cycle) • • • • MSCI Emerging Markets Index has risen 75% in 2009. The EU, US and Asian banks and financial institutions will determine the length of the cycle via co-ordinated management of global capital flows. ASLEEP/EMs to account for at least 50% of global growth. Corporate Investment plans of 3 years for ‘global reach’ in the ASLEEP/EMs (i) infrastructure projects, (ii) technology and (iii) product and services innovation. Concluding • China will signal revaluation in Q3 2010, depending on information on Imports, domestic inflation and FDI and PE. • Currency fluctuations will continue to depress Q2-Q3 corporate earnings…TNCs (Unilever, P&G, Siemens, Standard Chartered) now receive at least 30% of sales from China, Brazil and India and at least 40-50% if including MENA and 50-60% if including Asia. • Managed exchange rates or use of SDRs will be on G20 Agenda..Canada [June 2010] or S.Korea [November 2010] THANK YOU ‘’do not wait for the stream to stop before crossing it’’