Monday, December 15, 2014

My reading of the FT on China’s “turning away from the dollar” | Michael Pettis' CHINA FINANCIAL MARKETS

Michael Pettis' CHINA FINANCIAL MARKETS:  Michael, assesses the gloom and doom about changes in Chinese international capital flows.

"The authors provide the views of several analysts concerning the impact on the US bond markets and US economy more generally of reduced PBoC purchases of US government bonds, and these views range from neutral to very negative. I would argue however that in fact these views fail to understand the systemic nature of the balance of payments, in which any country’s internal imbalances must necessarily be consistent with its external imbalances. They assume implicitly assume that PBoC purchases only affect the demand for US government bonds, whereas in fact the flow of capital from one country to another must automatically affect both demand and supply. In fact the impact of reduced PBoC purchases of US government bonds is likely to be net positive, and while this view is probably counterintuitive, and certainly controversial, in another part of the article the authors cite a Chinese official whose statement, had they explored the implications fully, would have explained why."

Chinese current account surplus means a capital outflow.  As Michael indicates, the evidence from other major periods of capital flows:  US in the 1920s and 1950s, OPEC in 1970s, Japan in the 1980s, to which could be added UK in 1880s; suggests that it is not all beneficial to the exporter of capital.  Investment is difficult, mistakes are made. There are no many suppliers of safe, liquid assets.

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