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    Global trade finance

    Yesterday we touched very briefly on the hotly debated issue of global currencies and the pressure that this is causing.

    This chart below, from Der Spiegel clearly indicates the problem that has concerned Washington for some time, but is escalating.

    In 2009 the US racked up a $227 billion trading deficit with China. At the same time China recorded a $171,5 billion trading surplus with the European Union.

    Because China is still effectively pegging its currency to that of the US and not letting it appreciate naturally – as it would given the trade surplus – China is able to maintain its cheap exports into the US and to the EU.

    As American importers sell dollars to buy yuan, and in turn use these yuan to pay for the Chinese merchandise, so it puts upward pressure on the yuan relative to the dollar. In order to peg the rate, the PBOC has to buy dollars and sell yuan.

    A stronger currency for China would have an immediate and detrimental affect on its manufacturing and export business to both the US and to the EU – this is something that it cannot politically afford.

    The chart inset on the right is telling – China’s foreign currency reserves have skyrocketed over the last few years to around the $2,5 trillion level. To be sure much of the dollars received is sent straight back in lending to the US government – i.e. invested into Treasury bonds.

    The US has an annual gross domestic product of $14 trillion. The aggregate EU has a GDP of $16,5 trillion and China in nominal terms $5 trillion (but $9,1 trillion in purchasing power parity)

    For a decade from 1995 to 2005 the Peoples Bank of China (PBOC), maintained a fixed exchange rate of the yuan to the US dollar. It set the peg at 8,28 yuan per dollar. This peg was loosened on the 21 July 2005, but the level has been steadily managed to its current 6,67 yuan per dollar, which is still undervalued.

    Because market forces are not left to run their course, adverse consequences of intervention are escalating. The sheer scale of the interconnectedness makes any unwinding process potentially problematic.

    Kind regards

    Ian de Lange
    021 9144 966

    Permalink2010-10-12, 16:55:01, by ian Email , Leave a comment
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