Thursday, July 12, 2007

Yuan (the paper of the Paper Dragon)

In response to a friend asking about the implication of Yuan appreciation:

While standard Keynesian macro-economic analysis adequately address the various "hand waiving" or "this happens then that happens in perfect textbook lockstep like fashion", one must keep in mind the probabilities involved here. What is more likely (or more easy politically), the Chinese government (still communist) allowing state-owned businesses to fail, or continuing to prop them up for a time? For example, China injected about 50 billion into a certain domestic bank prior to its IPO simply to clean up its liabilities and zombie loans...I very much doubt they will stray from those habits should the Yuan start hurting large exporters.

We can take a lesson from the Japanese MOF on this one. Its a very similar policy model in the sense that "all" of the MOF members went to the same university and think the same way: Weak yen = good until we can actually generate domestic aggregate demand (although I really am reluctant to use Keynesian concepts in todays world of fiat currency)

Lastly, let us quantify who owns what. Notice the foreign ownership of U.S. debt securities purchased by China on a monthly basis...some simple relationships reveal themselves while comparing net purchases, the U.S. dollar, the S&P and, of course, bond yields.

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