Currency Wars and the RMB Strategy (Part 1)
2006/3/7 13:26:38
Three years ago, using a line from an old work—"Heaven and earth on a single sheet of paper, each character a star"—as my ID, I wrote a series of articles on economic topics, which were compiled into the widely circulated classic long post "Currency Wars and the RMB Strategy" across Chinese-language websites worldwide.
The three main strategic implications of America launching the dollar war against the euro.
That America is a master of currency warfare probably needs no questioning—just think about how it used the dollar-yen war to wreck the once-invincible Japanese economy, and you'll understand America's expertise in currency wars. While America may not have much to boast about in conventional warfare, in currency wars America is practically an undefeated champion. The dollar war against the euro that America launched as soon as the euro appeared is the prelude to a major currency war with enormous strategic ambitions, involving far too many facets—a globally ambitious event. Here I'll discuss only three main strategic implications.
I. An economic engine, like any ordinary engine, can accumulate carbon deposits, wear out, or even break down after prolonged use. The great American engine of the global economy has been running for so many years, and obviously it has accumulated plenty of problems. But an economic engine differs from an ordinary one—you can't just tear it apart or swap it out at will. The optimal approach is to perform repairs while gradually depreciating the currency. The underlying principles are quite complex and won't be elaborated here. In short, the strategic significance of this currency war, which began with depreciation, for repairing the American economic engine is extremely clear. This is a primary strategic intention, especially after the tech bubble burst, when the urgency of such repair became even more apparent.
II. After the Cold War ended, the honeymoon between America and Europe was over. Europe and America are not without contradictions—in politics, culture, history, and many other aspects, the EU led by France and Germany has many discordant elements with America. America has never really considered France and Germany as its own people; both sides have merely been using each other. If a Greater Europe could truly emerge, the realistic pressure on America would be enormous, and the embryonic form of Greater Europe lies in the euro. Therefore, the dollar war against the euro is in some sense an act of strangulation. A weak, divided Europe serves America's interests better—this needs no questioning. The dollar, which once wrecked the Japanese economy through depreciation, is now replaying the same old trick, and European economies already had plenty of problems that are now being made worse. More importantly, if the euro were ultimately to succeed, it would be fatal for America, because once the euro succeeds, an Asian yuan, an African currency, a South American currency and such would quickly follow—that would be utterly lethal for America. So this precedent absolutely must not succeed. The significance of the dollar as the world's currency for America is something Americans understand better than anyone, and on this matter, Americans absolutely will not give up easily.
III. China's rise, while not yet America's greatest real-time threat, represents a major future threat. Currently, China's economic engine is just beginning to run at high speed. If it could be run the American way, or simply hooked up to the American engine, that would be most advantageous for America. However, Americans also know this idea is unrealistic, so a more practical approach is to create conflicts between other regions and China to weaken China's economic momentum. America knows China won't easily let the RMB appreciate along with others, and the RMB not appreciating creates certain frictions that America can easily fan. The global clamor about RMB appreciation recently—its connection to all this hardly needs discussion.
America is the veteran, the expert, the undefeated champion of currency warfare. The above is merely a rough analysis of the three main strategic implications of America launching the dollar war against the euro. Other more complex backgrounds and implications won't be discussed here, but the issues reflected absolutely cannot be ignored. Currency warfare is an entirely new subject for China, and one absolutely must not be careless or complacent about it.
The American economy will enter a more destructive decline after one or two years of platform consolidation, and this decline is merely the prelude to an even larger-scale decline.
Recently, the Nasdaq trend has continued strongly, with the Dow charging toward the previous rebound high. The larger-scale rebound previously anticipated continues to unfold as expected. Many internet and tech stocks have even risen more than tenfold. However, it must be emphasized once again: the American economy will enter a truly more destructive decline after one or two years of platform consolidation, and this decline is merely the prelude to an even larger-scale decline.
In reality, the American economic pullback starting in 2000 was mainly caused by bubbles. Although it came ferociously, the damage to economic fundamentals wasn't that great—as can be seen from the different strengths of the Nasdaq and the Dow. This round of decline essentially just announced the end of the previous great growth cycle of the American economy. The key question is: what level of adjustment lies ahead? Is it a minor correction within an uptrend? A medium-scale adjustment like the 1970s-80s? Or a major adjustment like the 1920s-30s? I believe the American economy faces at least a medium-scale adjustment of the 1970s-80s type, and there's a greater than 99% probability that this medium adjustment will be a prelude to a major adjustment of the 1920s-30s type, whose devastating destructive power will peak in 2019. The tragic moment of 1929 will replay in America. This timing is exactly 90 years. The halfway point of these 90 years—1974—saw the so-called oil crisis medium-scale adjustment in its vicinity. And the 3/4 point produced the 1997 Asian financial crisis. This demonstrates the importance and accuracy of this cycle.
The above prediction may seem like fantasy to many, but it's built upon the judgment of a major economic cycle. As for the short term: since the previous decline in the American economy was countered by stimulating consumption, the phenomenon is that while stocks fell, the housing market boomed. The result is that when economic momentum falters again, both housing and stocks become downward forces. The Dow's 7,500 is a critical level—once effectively broken in the next decline, it will quickly fall to around 5,000. And the Nasdaq's 1,000 holds no sacred inviolability whatsoever. Look at Japan's stock market, which fell from around 50,000 ten years ago to below 10,000 and still shows no sign of bottoming—that tells you about the power of such declines.
Finally, I'll offer one more prediction: the credit economy that has supported the great economic cycle beginning in 1929 will be one of the most important forces destroying the entire grand economy. Details aside. While I'm at it, here's another big gift: the euro's arc has been completed, and it will undergo a right-side platform consolidation for some time. Once consolidation succeeds, it will rise above 1.5 dollars, though this won't happen in just a few months—it depends on the strength of the American economic rebound. What can be said, however, is that in N years, one euro exchanging for 2 dollars would not be a particularly strange thing. How to correctly understand this American economic adjustment, and not be misled by so-called cheerleaders, is an issue the Chinese government must treat with utmost seriousness. Our enemy's failure is our opportunity—how to exploit it deserves serious thought.
Analysis of the dollar-euro war's trajectory and the role of the RMB within it.
All modern wars, in their fundamental sense, are currency wars—this is determined by the high degree of capitalization in modern society. For a highly capitalized society, any activity divorced from capital is fundamentally meaningless, and war is no exception.
The dollar-euro war began before the euro even existed. The dollar's appreciation offensive against the Deutsche Mark and the yen at that time was meant to set the stage for the euro's post-launch trajectory. Originally, the euro was designed with a significantly conservative discount in its value. But when the euro first appeared, it was quickly hammered below 1 dollar—a clear show of force meant to shake various countries' confidence in the euro, at least slowing the pace at which countries converted dollar reserves into euros, creating a notable wait-and-see attitude.
However, the euro also came prepared, with clear support operations around 0.85. From its chart, you can see the intensity of the battle, accompanied by a downward-sloping multiple-bottom pattern. In a sense, it was America itself that ultimately couldn't hold on and saved the euro. The most direct cause was the bursting of the internet bubble. The sharp decline in stocks, especially the Nasdaq, caused some conservative capital to flow out of dollar assets into euros, supporting the euro and giving it a chance to catch its breath. In other words, the euro finally avoided the crisis of dying in infancy.
The euro's successful landing meant the dollar had to face the reality of playing the game alongside the euro. With the euro surviving, a low-hovering euro would be extremely disadvantageous for the dollar, especially when the American economy hit serious trouble—a low euro could slowly siphon away dollar assets. So, accompanied by the multi-purpose hype around the Iraq issue, the euro was rapidly pulled up. Currently it hovers around the euro's original pricing. This multi-year large U-shaped movement looks simple, but its strategic significance is anything but.
Given the current situation, hovering around the euro's initial pricing is temporarily the best choice for both the dollar and the euro—it's a relative equilibrium point. Unless new factors emerge, maintaining this situation is acceptable to both sides. But whether both parties in this balanced state might collude against a third party through compromise—that's the crux of the matter. The current global clamor about RMB appreciation suggests exactly this possibility. But it must be clearly pointed out: the euro hasn't actually appreciated. It merely recovered from an irrational decline back to its original initial pricing level. If people say the RMB should appreciate now, why didn't anyone say so when the euro first came out? This is an extremely obvious point that some deliberately confuse, and it absolutely must be emphasized—it's a powerful weapon against all arguments for RMB appreciation.
In short, under the current dollar-euro equilibrium, the possibility of a joint scheme to trick the RMB into appreciating absolutely cannot be ruled out, because RMB appreciation would benefit both the euro and the dollar while barely affecting the relationship between them. Under shared interests, anything can happen. The simplest approach right now is to expose the fact that the euro hasn't substantively appreciated—the euro merely had a recovery rally, nothing extraordinary. Everyone should stop arguing. As long as the RMB firmly refuses to appreciate, the equilibrium between the dollar and the euro will be broken again, and they'll fight each other once more. This is one direct and important consequence of the RMB not appreciating.
Before the euro effectively breaks above 2 dollars, the RMB has absolutely no obligation or need to consider appreciation.
Since currency fluctuations are constant, generally speaking, unless there are discontinuous surges or plunges, from a long-term perspective, currencies always oscillate around a certain value center. Any deviation from the value center can be viewed as a movement that will be corrected. For example, when the euro appeared, to facilitate its smooth launch, its value had a certain discount. Normally, 1 euro should be worth about 1.2 dollars—this can be considered a value center for the euro. The euro fluctuating between 0.7 and 2 dollars is entirely normal movement. Until this fluctuation range is fully confirmed as broken, it can all be viewed as oscillation around the value center—meaning ultimately it will be pulled back toward the center. Therefore, from a long-term perspective, as long as this range isn't broken, we're still within a normal value structure—nothing to make a fuss about.
Since the RMB is not freely convertible, there's absolutely no reason for the RMB to react to the euro's short-term movements within that range. Before the euro effectively breaks above 2 dollars, the RMB has absolutely no obligation or need to consider appreciation. Because a non-freely-convertible currency has absolutely no need to react to short-term fluctuations within a normal price range. All short-term movements will ultimately be corrected; any reaction based on short-term movements is superfluous.
The above is a very powerful technical argument against the clamor for RMB appreciation, and should be clearly understood. Any debate about RMB appreciation is meaningless before the euro effectively breaks above 2 dollars. Of course, if in N years the euro truly effectively breaks above 2 dollars and there's a case for RMB appreciation from the standpoint of China's overall RMB monetary strategy, then the RMB will appreciate; otherwise it still won't. Finding justifications would be easy enough then, but the premise of any justification must stand on China's overall RMB monetary strategy—without this, nothing matters.
Analyzing America's attempt to wield the RMB issue as a big stick against China, as seen from the early-released "BusinessWeek" article.
The "BusinessWeek" issue that should have been published on July 21st came out a week early. The most important article in it was by Jeffrey Garten, Dean of the Yale School of Management. The title: "How China Threatens the Global Economic Recovery."
The article simply attacks RMB non-appreciation from America's standpoint with baseless accusations, claiming it has become an explosive global event. There's no need to analyze his arguments here—different positions, nothing to discuss. However, his analysis inadvertently proves the correctness of my prediction from over a month ago using the "sneezing sneezing" pseudonym. He says that although the dollar has depreciated 20%, this is only half of what it should depreciate—the dollar needs to depreciate at least another 20%. In other words, America's strategic aim is at least 1.5 euros per dollar. Over a month ago, I said the dollar would head to 1.5 euros after platform consolidation, and that seeing 2 euros in a few years wouldn't be strange. If America truly has this strategic plan, my prediction will be verified. It's worth noting that his identity and his university are both quite significant—this cannot be ignored.
Additionally, his article reveals the severity of capital flight from dollar assets—exactly what I've repeatedly emphasized: stabilize the exchange rate, absorb dollar assets, make the RMB a great reservoir. America naturally can't accept this trend, but the trend is forming. In his article, he also predictably tries to drive a wedge between China and the EU, arguing that without RMB appreciation, all pressure falls on the euro, leaving the EU at a disadvantage—things like that. These petty tricks are tiresome, but countermeasures must be prepared. The simplest approach is to appease the EU with some major procurement deals. A more sophisticated approach would be to drive a wedge between America and the EU—but this issue is rather sensitive, so I won't elaborate.
From "BusinessWeek's" unusual move, America is evidently trying to wield the RMB issue as a big stick against China. Pressure is mounting from all directions, and this should have been anticipated. In response—tit for tat—China should at minimum organize some people to write articles refuting these claims. Additionally, appeasing the EU and handling some technical matters must all be accelerated.
Explaining the mechanism of international capital flows and the significance of RMB non-appreciation in the most accessible language possible.
Explaining the mechanism of international capital flows in accessible language isn't really difficult, but economics has been monopolized by a bunch of boring people who habitually complicate simple problems. So here I'll try not to follow their approach.
The simplest scenario: with the dollar currently depreciating, suppose you have some US dollars. If you plan to stay in America, exchange rates don't matter much (though if fluctuations are extreme, like in Argentina or Thailand, there are impacts). If you want to leave America, two key factors in your choice are commodity prices and investment opportunities. Regarding commodity prices: if you convert to an appreciated euro, you get fewer euros than before, but euro-zone commodity prices, if produced within the eurozone, don't drop just because the euro strengthened. If imported from elsewhere like the dollar zone, they're cheaper in euros but at least unchanged in dollar terms. So the same dollar capital, relative to the higher commodity prices in the appreciated eurozone, has shrunk.
Second, with higher euro exchange rates, export pressure increases dramatically. In today's global markets, once exports become problematic, worthwhile investment opportunities will greatly diminish. This way, whether looking at commodity prices or investment opportunities, flowing from the dollar into the post-appreciation eurozone is a bad deal. But for the RMB zone, which maintains a stable exchange rate relative to the dollar, none of these problems exist—so dollar capital flowing into the RMB zone is an excellent choice. And this is indeed the current actual trend.
For America, if the RMB appreciated like the euro, dollar capital flight would be suppressed—somewhat like being locked into a stock, where you just sit there waiting to break even. But with the RMB not appreciating, dollar capital has an escape route without waiting for breakeven. Although compared to the euro, converting to RMB seems like depreciation too, currency only has meaning through commodity prices and investment opportunities—and in the RMB zone, these aren't problems. First, relative to RMB-zone commodity prices, dollars converted at an unchanged RMB rate haven't depreciated. Also, investment opportunities in the RMB zone correspondingly increase. This way, the RMB creates an attraction for dollar capital. Capital inflow is the most critical thing for the American economy. Once the current negative net capital inflow continues, the American economy faces the danger of collapse. This is also the most important reason why that anti-China professor considers RMB non-appreciation an explosive global event. For the eurozone, RMB non-appreciation has a massive impact on their commodity competitiveness, affecting investment opportunities and ultimately capital inflows. So creating some investment opportunities to appease the EU is a better approach.
Globalization is fundamentally the globalization of capital; global competition is fundamentally competition for capital. As long as the RMB doesn't appreciate, it occupies an unrivaled position in global capital competition, with a very high probability of ultimately draining America dry. Here I'll offer a prophecy: after this current American capital market rebound ends, capital will flee the dollar zone at an unprecedented pace. This trend could emerge as soon as one or two years. China must now accelerate the construction of its financial and capital systems—dig the pool deeper, so that when this trend fully arrives, it can absorb as much dollar capital as possible. This is a real-world version of the Star-Absorbing Technique—whether you've read Jin Yong's novels or not, you'll probably understand.
(The article is too long, split into two parts)
Replies
缠中说禅 2006/12/10 12:43:12
In July 2005, this ID's post was titled "The 'July 7th Incident' of China's Currency War!"
But for America, at least it could take a breather in the short term because of this. The subsequent surge in resource commodities was the beginning of a new round of plundering. The current global stock market rally is the same story—because China, this fat piece of meat, has entered the game. There's new feast material to last several years. The large-scale acquisition of state-owned enterprises is just a minor affair against this big backdrop.
But this cannot change the great economic cycle of 2019. Whoever ties themselves more tightly to America's pirate ship, lacking their own independent strategy—their only ultimate role will be... it goes without saying.
缠中说禅 2006/12/10 13:10:47
[Anonymous] Your Appearance
2006-12-10 12:51:58
Reading "Currency Wars and the RMB Strategy" again
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That strategy is no longer useful, because the RMB was already liberalized in July 2005. That was the most decisive strategy, but it required great boldness.
Actually, this ID has already explained this logical relationship: July 2005 was a critical turning point for the global economy. If China could have held firm at that time, everything would be completely different now. Of course, for individuals, the current situation isn't bad at all—investment opportunities have been abundant over the past year and a half. This ID has no complaints about that.
But for the nation, if the goal is only to be number two or three, it's not bad either—at least there's short-term prosperity.
But if you want to be number one, the best opportunity has already been lost. We can only wait for the next one. Using this ID's stock terminology: the first buy point has passed. Wait for the second buy point.
And the premise of this ID's "Currency Wars and the RMB Strategy" was: China must become number one. If everyone thinks becoming number one is pointless, then those articles are all meaningless.
But this ID still insists: China must become number one. Deal with it.
缠中说禅 2006/12/10 12:33:54
[Anonymous] Watching from the sidelines
2006-12-10 12:25:57
Haha, this interpretation is interesting.
If the first part was relatively easy to think of—and I'd thought similarly—this second part is truly quite enlightening.
On a side note, in "Currency Wars and the RMB Strategy (Part 1)," Chan MM wrote: "The American economy will enter a truly more destructive decline after one or two years of platform consolidation, and this decline is merely the prelude to an even larger-scale decline." That was said 3 years ago—has it been updated? Of course, long-term strategic viewpoints don't need frequent updating.
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This decline was already absorbed through the surge in resource commodities and currency depreciation. The critical cycle is in 2019—that's the most important one. The "even larger-scale decline" refers to exactly that.
But this kind of absorption will only lead to even bigger problems.
Additionally, let me say something harsh here: the reason America's stock market could use this absorption method in the short term owes a great deal to China.
The premise of this ID's original argument was that the RMB must not move—that was a critical premise. This premise was gone by July 2005, and the consequent surge in resource commodities as an absorption mechanism was thus natural.
But the great cycle of 2019 is impossible to absorb. The critical question is that China must not board that pirate ship.