China sells US treasuries in order to appreciate Yuan relative to USD.
Supply of US treasuries on the market increases.
Demand for US treasuries decreases due to concerns over a large enough Chinese sell-off. Demand for US treasuries increases due to uncertainty over the stock market. Net effect on demand is uncertain.
Assuming worst-case scenario (for the US) in which supply of US treasuries increases and demand decreases: Yields on US treasuries increase as investors with less demand must be compensated for taking on a riskier and more plentiful asset.
Yields rise, and the US government must now service a higher level of debt, pushing the deficit higher. US is forced to re balance spending, stifling growth and economic activity in order to keep debt in line.
Bottom line: This probably won't have an effect on US economy as investors need somewhere to park their money that is not the stock market. Also, the scale at which China is selling off treasuries is assumed to be pretty small ($40bn/mo compared to $3.65tn total holdings).
Now if China initiated a mass sell-off of all of its US treasuries, there would be huge ramifications. But in its current form, this seems to just be one more way for China to slowly unravel its position in US treasuries while playing with the value of the RMB.
> Now if China initiated a mass sell-off of all of its US treasuries, there would be huge ramifications. But in its current form, this seems to just be one more way for China to slowly unravel its position in US treasuries while playing with the value of the RMB.
Offloading foreign currency holdings in a mass sell-off is not something China would WANT to do -- it would end up destabilizing the Chinese economy more than the US economy. Not even as an economic warfare tactic: the global economy is dependent on cheap US money, and messing with that would set off a global recession that would hit an emerging superpower like China especially hard.
I think you're right and China is just looking to rebalance its currency by drawing the dollar down a bit. That's not the worst idea in the world (either for China or for the US) and they're doing it right around the time the Fed was planning to raise rates anyway. I think the market is already spooked enough by the troubles in China that it would probably welcome a rate increase (for the reasons you listed above).
> Offloading foreign currency holdings in a mass sell-off is not something China would WANT to do
I'm sure China is not only guided by purely economic considerations here. They might already consider the possibility that China/Russia will soon be in a war with the US.
It might make sense here to take an economic hit to bankrupt the US (or at least threaten it) to prevent an active military confrontation.
> Not even as an economic warfare tactic: the global economy is dependent on cheap US money, and messing with that would set off a global recession that would hit an emerging superpower like China especially hard.
People will suffer when countries engage in economic warfare and even more so if they engage in war. This has never held off a country escalating from economic tensions up to military actions.
If China deems this is necessary because it is the best choice they have, they will certainly do it no matter what.
It's not payback; this doesn't hurt the US in the slightest. If anything, it devalues the dollar a little bit, which isn't really a terrible thing (the dollar is pretty highly valued right now which hurts US exports).
How does this make sense? I always want the currency I have to increase in value, not decrease. Does anyone actually like it when their savings lose value and they can no longer afford things they used to? Sure it helps exporters export more stuff, but they're getting paid with more worthless money so what's the point?
It makes sense when you have debt instead of net savings. And it makes sense when your consumables are local, but you export internationally, so now your foreign customers can afford to buy more.
IMHO if the government is going to put its finger on one side of the scale or the other, it makes more sense to punish people who keep their money in their mattress and don't invest it.
When you see your bank proudly advertising 1.9% rates on 60-month CDs, you know it's time to take some risks with your money... the kind of risk-taking that grows the economy.
I've asked this question few times. If you devaluate by 10%, your export must go up by 10% to break even or otherwise it would be foolish move. Will exports always go up in proportion? Will we all be start buying more Chinese goods because they are 2% more cheaper? I think it's all speculation. Economists are basically trying out all the knobs at their disposal to see if it works and if it doesn't then they will rollback the change in a month or two. The general wisdom that devaluation helps exports makes sense only when market has room to grow by falling prices.
Welcome to the fiat monetary system. The current monetary policy is to have your currency lose value every year. If you don't want your savings to lose value, save in something else, e.g. gold, stocks, real estate.
Right.... you keep telling yourself that. Overall, yes, keep money in investments. But don't speculate on Gold, its one of the worst performers of all time.
Gold prices, like many asset prices, are manipulated openly and secretly by major organizations like central banks.
When people buy gold, it's not because they think the manipulated price is worthwhile, it's because they believe it is intrinsically mispriced and are betting that there will be a price correction at some point.
I mean, can you look at this stock market which has miraculously doubled since 2008, all while the federal reserve has pumped trillions into asset purchasing, and believe our equity and asset markets aren't being heavily influenced by state level actors?
Holding anything more than 5 oz of gold was illegal between FDR and Nixon.
Nah man, Gold ain't worth it. Historically it has been seized by the State, and in "modern times" (after Nixon rescinded EO 6102) it's price has been horribly irregular and subpar other investments.
Even lowly Bonds have better long-term investment value.
>If this is payback, why were they kind enough to give us notice? They could've not given us notice and sold far more than they did.
Because it's the kind of muted, minor payback that two economies that are linked at the hip give each other.
China sells like $500B worth of goods to US every year. Rocking the US boat rocks their export boat which rocks the Chinese middle class. Creating economic instability in America would lead to political instability in China, methinks.
Yields rise, and the US government must now service a higher level of debt, pushing the deficit higher. US is forced to re balance spending, stifling growth and economic activity in order to keep debt in line.
I'm not sure how this causes yields to rise. The short term interest rate is determined by the FED. If China sells off enough treasuries that the interest rate on them jumps to 1.0% then the FED will probably just buy more treasuries until the interest rate hits the zero lower bound again at 0% interest. This would stimulate the economy.
Correct, the Fed determines short term interest rate through Federal Funds Rate (FFR).
The treasury instruments we are discussing here are mainly 5-10 year notes and bonds. Thus the yields on these instruments reflect long term interest rates. The market, not the Fed, determines long term interest rates.
The long-term interest rate used to be much more closely correlated with the FFR. We see that it has decoupled significantly during the past 10 years and is now moving somewhat independently of the FFR. The Fed is stuck at the lower 0 bound and has no power over long term interest rates anymore. Janet Yellen has noted this publicly herself. [1]
What you are describing - the Fed purchase of more long-term US treasuries - is another wave of Quantitative Easing. The problem with QE is that, while it gives the financial system more liquidity, that liquidity has not passed on to the end consumers. So the Fed would be adding (potentially overpriced) liabilities to its already massive pile of debt in order to have a somewhat negligible effect on long-term interest rates, and to probably have no effect whatsoever on economic activity within the US. In short, it would be taking on more risk for relatively little reward.
Thanks, I missed in the original article that it mentioned 10 year notes. I assumed they were short term notes.
My understanding is long term interest rates = expected short term interest rate over the long term + premium for locking up money for a long time.
(if not then arbitrage would occur)
Assuming the premium for locking up money remains constant. The FFR over the next 10 years determines the 10 year interest rate. In this case the selling of Chinese long term debt shouldn't have much of an effect on long term interest rates except through the channel of changing the future expected FFR.
Yellen said
“The Federal Reserve’s control over longer-term interest rates is more indirect and more limited than its influence over the level of the federal funds rate.”
She is talking about how the Fed still has control over long term rates through the expectations channel mentioned above. Imagine Janet Yellen came out today and said they would not raise rates from 0% for 5 years no matter the economic conditions. Long term rate would fall as people would expect a lower FFR going forward.
Treasuries are sold at auction, so supply/demand factors in as well. Since treasuries have little to no credit risk and they're highly liquid, people are generally just concerned with inflation. As roymurdock said, the FFR has minimal impact on long term rates. Here's Bernanke saying the same thing:
"The Fed’s ability to affect real rates of return, especially longer-term real rates, is transitory and limited. Except in the short run, real interest rates are determined by a wide range of economic factors, including prospects for economic growth — not by the Fed."
http://www.brookings.edu/blogs/ben-bernanke/posts/2015/03/30...
Long-term interest rates = Expectations of Short-term interest rates + Expectations of future economic growth + Expectations of future inflation + Uncertainty
You're not really locking money up as (under normal circumstances) you are free to sell the treasury at any point after purchase.
The Fed has already distorted the market enough as it is; they are looking for a way to return to normal market conditions - hence the debate around when to finally raise the FFR and short term interest rates. Hypothetically the Fed can announce whatever it wants, but realistically it is extremely constrained in its actions at the moment.
Arguably, the most immediate risk from the Fed’s policies is that banks could use those newly created excess reserves too quickly. Banks now have an additional $2.6 trillion in excess reserves, which means that they can create up to approximately $26 trillion in new money.[21] In other words, banks now have the power to create more than twice the amount of money currently in the U.S. economy, thus heightening the risk of future inflation.[22] As the economy improves, the Fed may have to pay higher interest rates on these reserves to keep banks from dramatically increasing their lending. Paying higher rates, all else being constant, would exacerbate any “losses” suffered by the Fed, thus increasing the political problems discussed in this Backgrounder.
For those same political reasons, there are risks to the Fed simply holding all of these assets indefinitely because interest rates are expected to rise in the future. If those rates rise, the Fed would suffer “losses” due to paying higher rates on its liabilities than it receives on its assets, again putting the central bank in a difficult political position. Also, as the world’s largest debtor, the federal government is highly vulnerable to an interest rate shock that could make the federal budget deficit much worse. A rule of thumb is that every one percentage point rise in interest rates increases the budget deficit by about $1 trillion over a decade. The safest course of action, therefore, is to start undoing the QE policies by selling off these securities.
Securities sales are typically associated with contractionary monetary policies, but because these reserves are excess reserves, and since they have done little to increase economic activity in the first place, removing these reserves should not have an adverse impact on the economy. Nonetheless, the Fed should minimize any negative effects by announcing a deliberate plan to sell the bulk of these securities over, for instance, the next six years. The Fed can also partly offset (or sterilize) these sales with its normal temporary open-market purchases of short-term Treasuries.[23]
Even if long term interest rates are determined by the factors you mention. How does China selling bonds increase long term interest rates? Increase in expectations of growth or inflation? I could maybe see that both of those could be increased from a devalued dollar. But if that's how China is increasing long term rates it seems weird to think that inflation + economic growth would cause the US to service a higher level of debt pushing up the deficit and causing the U.S. to stifle growth and economic activity.
There is a relatively liquid market for bonds. Let's say I issue a bond today. I set the interest rate at 3% per year for 10 years. A lot of different people buy those bonds (for ease of math, assume that an individual bond is $100). If they do nothing, every year that someone owns bond they'll receive $3, then at the end of ten years they get the extra $100 back.
Let's say that one day later someone wants to sell all the bonds that they bought. Naturally more sellers than buyers for a market means that the price will drop. So the bond now costs $90 to buy. However it will still pay the (new) owner $3 per year and $100 back at the end, so it's effective rate of return is now above 3.33% [The actual rate is higher since you get more money back than the $90 you put in, but this is a good lower bound for the new rate of return].
Now I come back right after this price drop occurred and realize "Oh crap, I need to issue more bonds today!" If I try and set the same terms on the new bonds, nobody will buy them, since they could just buy the ones I issued in the secondary market and make more money for the same risk. As a result, I have to increase the interest rate I pay for future bonds I issue. Thus China selling bonds increases the long term interest rates.
Note that it may not increase long term interest rates in the long term, though :-)
So the general thinking is 10 yr treasury bonds reflect the economies consensus around what the long term interest rate is.
Another general consensus in economics is that the interest rate is determined by the supply and demand for loan-able funds.
Therefore if China sells so many bonds it increases the interest rate on 10yr T-Bonds. It has either shifted the long term interest rate in the U.S. by reducing the supply of loan-able funds or it created an enormous persistent arbitrage opportunity in T-Bonds.[0] Both of these seem very unlikely to me. 40 billion a month is just too small to make a difference.
I had never heard of Heritage before I read the article I posted, but I'm inclined to trust actual economic analysis and a clearly rigorous understanding of the situation over Krugman's little mantra.
From the little I've read of Krugman, I'm baffled as to how he received a Nobel prize. His opinion pieces in the NYTimes are TERRIBLE and seem to be written with one goal in mind: start as large of a flame war in the comments section as possible. That, and promote his books or whatever he is selling these days.
Also, you'd be a fool to just straight out ignore something because someone told you to. The least you could do is read and understand it to form your own opinion - then you can make an informed decision on its worth, rather than blindly following a pundit.
Yea, the Heritage Foundation is a right wing think tank known for very biased views. It's essentially an academic sounding mouth piece for the GOP establishment. It used to be more legitimate, but it's an outright political organization these days.
It just seems weird to worry about inflation and runaway depreciation when we are in an environment that has seen disinflation and dollar appreciation.
> but I'm inclined to trust actual economic analysis and a clearly rigorous understanding of the situation
You won't find that at Heritage, they do propaganda water carrying not serious economic research. Heritage is another incarnation of the scientists that worked for tobacco companies. The econmists that work at Heritage aren't paid to do real economic analysis, they're paid to support Heritage's policy positions with something that looks like real economic analysis.
> From the little I've read of Krugman, I'm baffled as to how he received a Nobel prize.
Uncontroversial pick, was one of the favorites.
> His opinion pieces in the NYTimes are TERRIBLE and seem to be written with one goal in mind: start as large of a flame war in the comments section as possible.
His opinions throughout the financial crisis have stood up as well as anyone elses, certainly much better than Heritage with their constant claims of QE leading to inflation.
> That, and promote his books or whatever he is selling these days.
'Don't trust anyone who writes books' is not a strong argument. Better advice might be, don't trust economic analysis that validates the preferred conclusions of the organization that paid for it.
> Also, you'd be a fool to just straight out ignore something because someone told you to.
This assumes my only reason for ignoring them is because someone told me to. No, I ignore them because they've time and again exposed themselves as hacks. Krugman's 'little mantra' is simply an easy to remember form.
> The least you could do is read and understand it to form your own opinion - then you can make an informed decision on its worth, rather than blindly following a pundit.
You'd be a fool to waste your time with parties who have already shown themselves to not be good faith participants. An informed person doesn't need to read your article from Heritage to know what it says about QE. It says QE is bad and will lead to inflation and perhaps other badness. An informed person knows this because that is what Heritage always says about QE, even years after they've been wrong over and over again. Informed people might be glad that they did not invest their money in line with Heritage's constant predictions that QE will lead to inflation.
> I'm baffled as to how he received a Nobel prize. His opinion pieces in the NYTimes are TERRIBLE and seem to be written with one goal in mind: start as large of a flame war in the comments section as possible.
The fed doesn't experience risk. It has full control over the size of its balance sheet. There may be other problems with QE4 in the form of Operation Twist II but risk to the Fed isn't one of them.
Also your claim that "the liquidity is not passed on to end consumers" besides being debatable, doesn't answer the claims made by the parent poster. If the Fed so chooses it can prevent yields from rising, which means that the US government will not have higher interest costs.
In sum, the entirety of your argument comes down to the something, something hyperinflation which your heritage link makes explicit. We've heard that story before. There's no reason to think it will be any more accurate this time than it has been for the last 50 years.
Every entity in the world experiences risk. If you can't identify it, you're not trying hard enough.
The Fed can prevent yields from rising through another round of QE. The tradeoff being that it will have to push even more money into the system, undermining confidence in the US economy's ability to operate healthily without serious Fed & government intervention.
I never mentioned hyperinflation because I don't think that's a realistic outcome of more QE. I don't think something, something hyperinflation is a good way to summarize my argument, but it is sure is patronizing, I'll give you that.
Can you provide an argument that explains why we would want more QE at this point?
I understand that. However what I don't understand is how the price of the treasury bond falls when there exists a buyer in the market that has an insatiable appetite for treasuries and a Scrooge McDuck sized wallet(The Fed). In economic jargon it would mean we currently have perfectly elastic demand for short term treasury bonds.
Short term rates are directly set by The Fed. (Notice I said "rates" not "bonds". In the jargon "Bonds" have terms of over a year. Bonds are not controlled directly by The Fed - only very short-term rates (typically just a few days).)
Long-term rates (i.e. Bond yields) are set by the market in which the The Fed is a major participant but not big enough to completely control the market. This was greatly expanded under the 3 quantitative easing programs but the last of these ended almost a year ago.
Also keep in mind that the US bond market is huge - around 40 trillion dollars - with treasuries only about 1/3 of the total. Even after all the extraordinary intervention by The Fed they hold around 10% of that total. China holds less than The Fed and much of that is not is US dollar bonds.
Are basic bonds beyond the grasp of this forum? High yields are low prices for the bond holders. So when people sell bonds, the price drops, which causes the yield to rise.
ams6110 is fully correct here and is stating simple facts of the bond market.
Because it's clear the person he's responding to understood that relationship. If he'd bothered to read all four sentences, it's clear he meant he wasn't sure why yields would rise if the Fed would react by buying bonds.
Perhaps it's getting downvoted because it's irrelevant to JamesBarney's point. The Fed (normally) sets (very) short-term rates; the market sets longer rates. But the Fed also can to some degree set longer rates by QE. And, in fact, the Fed can print more money than China can sell dollar-denominated bonds, and therefore the Fed can win the battle - if they want to badly enough.
Printing more dollars to buy bonds would counteract China's sale of bonds. I fail to see any way in which that is not clear.
> Rising long-term yields signal future inflation.
In this case, they would signal no such thing. They would signal sales by China's Central Bank. That is not related in any way to future inflation expectations.
Yields rise, and the US government must now service a higher level of debt, pushing the deficit higher. US is forced to re balance spending, stifling growth and economic activity in order to keep debt in line.
I think one of the expected consequences of such uncertainty is the Federal Reserve fires up the printing presses and dive right in to QE4. Just a thought.
Given the fed's 4.5 Trillion dollar balance sheet[1] and paying 25 basis points for excess reserves [2] while getting 33 basis points on 1 year or more treasuries [3] I'm not sure I don't see any "US is forced to re balance spending, stifling growth and economic activity in order to keep debt in line."
What I don't get is how this jives with debasing the Yuan. Won't selling Treasuries create demand for Yuan and drive up the Yuan price? Maybe They are selling Treasuries for another currency?
It will drive up the price of the Yuan - that's what the grandparent said. I don't know where you're getting debasing from?
Separately the Chinese government recently allowed the Yuan to float more openly. That's had the effect of debasing it, but it wasn't a goal - the point is to allow it to float at a market price (partly to make it more viable as a reserve currency), but the government wants to prop up its value.
I believe the mistake is to think one can design a reserve currency. The dollar is the world's first reserve currency only because the Bretton Woods monetary system defined it as redeemable for 1/35 ounce of gold after World War II. When the Fed defaulted on its gold obligations in 1971, the world got a reserve "currency" -- before the world reserve asset was gold.
I don't think any government can create an irredeemable credit instrument and have it accepted as reserve currency. Even the dollar as reserve currency had to come in the back door.
They are probably selling treasuries for dollars and adding them to their foreign currency holdings. Also, China can just print more Yuan if they want to debase it (they're a government; they can do that). Whether they keep the dollars as dollars is dependent on whether or not they think the dollar will rise in value relative to other currencies: it's just investment strategy at that point.
It can't be that since their foreign reserves which include foreign currency holdings are declining. The recent turmoil started with an attempt to lower their currency but this quickly got out of hand when their stock market crashed so they had to start supporting their currency. To do this they sold foreign assets for foreign currency which they used to buy their own currency.
Right; OP was asking why they would be supporting their currency if they were trying to devalue it.
And honestly, the "stock market crash" was just a correction. Yes, it declined by 50% over 2 months. But in the 9 months between September 2014 and June 2015 it had risen by over 250% - these most recent losses represent only about half of the total gains over the last year. China is a fast growing economy, and fast growing economies are volatile and prone to asset bubbles. Its economy is less reliant on its stock market than the US; hence the market can slide way, way further out of equilibrium than in the US because it's not as liquid and is only weakly tied to economic fundamentals.
I am not sure that 1% per month is small enough to claim that "probably won't have an effect on US economy". If it were a one off event, sure. But at the end of day the question is: for how long can these advances can be sustained?
At the very least, this will prevent US to capitalize on world wide instability by taking on more debt. I wonder if that is the purpose of the Chinese.
The worst-case scenario (large drop in demand coupled with large increase in supply of US treasuries) would probably only be triggered if China dumped a lot of treasuries on the market at once. Say, for argument's sake, 50% of their holdings in one week. This would signal US treasury weakness and would flood the market with a ton of extra US treasuries.
They are currently selling treasuries off at the rate of ~1% of their total holdings per month. So I assume that fear over an uncertain stock market + investors looking for a good opportunity to pick up cheap US treasuries will provide enough demand to soak up the new supply of treasuries that are trickling into the market.
China's Treasury holdings dwarf all but a few nations, and it's by far the largest holder, excluding Japan which tails only slightly. "Carribean Banking Centers", oil exporters, and Brazil follow, the last with only just over a quarter of China's holdings. Few emerging countries have any significant holdings.
Of course, major foreign holders only hold a third of the total Treasuries. US Government agencies actually own another third of the debt, and the US public owns the last third.
Government spending on capital projects generally causes an increase in economic activity. The government initiates economic activity, which causes companies to hire more workers, invest in new equipment, purchase supplies, etc. That all eventually makes its way into peoples' pockets, where they spend the money and throw it back into the economy. Capital projects tend to have an outsized impact because much of the economic activity required to build them wouldn't be practical to source from outside the US (you would never buy concrete from China, for example).
Furthermore, assuming the capital projects filled a gap in the economy, they may make it easier to do business such that companies can operate with reduced costs relative to global competition. That would be a secondary effect from having improved infrastructure, but it would be much longer-lasting than the primary effects.
> How does the American governments NOT spending money stifle growth?
The same way any other market participant (or set of market participants) not spending the same amount of money reduces growth compared to what it would be if they did.
Activity that isn't happening in the economy is directly a reduction in the size of the economy.
-- Hiring freezes, or even furloughs or layoffs
-- Delays in capital projects (new buildings, bridges, airports)
This means less money in the pockets of employees, as well as less money to contractors, who have less money to pay their employees and suppliers, and so on. If people have less money, then they can't spend as much money, and thus the economy grows less fast, or stops growing.
In theory the government would have to reallocate money from something else in order to pay a higher interest rate. Thus they are not really spending any less. In practice the Federal Reserve takes up some of the burden by buying up Treasuries.
You're general idea, though, is correct. Government spending is a burden on the economy. It reallocates resources away from the market. The main metric which is supposed to measure the health of an economy, GDP, is faulty in part because it includes government spending.
Growth is just change in total spending (= total selling). Less spending by one of the biggest spenders means less growth. The is the essence of "fiscal policy"[1]. Of course much of this is offset by the the need to fund this spending through borrowing, taxes or printing money (i.e. inflation) - at least eventually.
You typically have to be a Keynesian (or related school of economics) to believe that.
Governments get their spending cash from taxation and political control of the monetary authority. In order to exert economic influence, they first have to take some away from the actual producers of marketable goods and services. Thanks to the way money works, if they don't expand the amount of currency in circulation by spending what they created by fiat, the value remains with the producers, who continue measuring their prices by the smaller amount in circulation. In metaphorical terms, no one can listen to what you want to say if you do not speak.
The one and only way that government spending can produce more growth than ordinary individual spending is by ordering construction or repair of capital infrastructure that benefits multiple businesses who would individually be unable to justify the expense of the improvement.
Business A and business B are competitors, and they would both benefit from roads that connect them to a highway network. A is unwilling to assume the expense of building a road to the highway unless A could exclude B from it. B feels the same way about A. If either notices the other building a road, they know that money is not available for other purposes, so whoever makes the first move could lose market share thanks to a strategic counter-move. Instead, government G takes somewhat less than the full amount needed for one road from each, to build a single public road that serves both equally. Both businesses get their road to the highway, but neither had to pay the full expense individually. Growth occurs by breaking the Nash equilibrium that was preventing it.
That's the ideal case. Usually, government spending is no smarter than handing a wad of cash to the village idiot, so it has no greater effect on growth than ordinary consumer spending, minus the deadweight loss. Also, if G takes a full road's worth of economic influence or more from both A and B, and builds only one complete road or just a partial road with it, neither A nor B is any better off. In order to promote growth, the government spending has to buy something of actual value to the public, at a lower cost than the sum of costs that individuals would pay for the bits of the "something" that benefit each of them most.
The public usefulness of a "something" is often a matter of opinion, so the "growth" thing is almost pointless to argue about.
Yours is an extremely simplistic and naive view of how the real economy works.
Government spending can be a net gain or drag on an economy but it can be a big boost in certain circumstances:
1) When the private market is retracting the government can offset that somewhat and create a "softer" landing. This prevents over-shooting on the underside (think the Great Depression). The lower interest rates are the better the bang-for-the-buck you get from government spending. When the world is clamoring to give you their money at negative interest rates (paying you to take a loan!) you'd be a fool not to pull the trigger on every capital project and bit of maintenance you can... which of course since we are so full of Republicans in the US we have been fools and haven't taken nearly as much advantage of the situation as we should have. As rates rise we'll end up doing the same projects in the future but pay higher interest rates to do them.
2) In an environment of excess capital (e.g. where the top 1% have most of the money) there is far too much cash looking for a productive place to invest and too few good investments. Again in that environment the government can do a lot of good by confiscating the capital (temporarily as you'll see) and giving it to the bottom 95%, ideally as free money with no strings attached. The vast majority of it will be spent, returning directly to the 1% who held it in the first place. The overall velocity of money will increase. This is the exact same thing as SF being dragged down by high rents writ large (if rent were reasonable I would personally create a job by hiring a nanny; instead that money goes to my landlord's retirement account where it chases all the other dumb money looking for yield)
Government spending (and high taxes) can be a drain under different circumstances:
1) If there is a deficit of capital to finance good ideas or productive businesses, the economy can benefit from lowering taxes on the 1% to free up capital. One could argue this was the case when income taxes were 90+% during the supposed "golden post war era" that today's idiots fondly recall with rose-colored glasses.
2) If spending is done via printing money or the overall debt load is too high then you can cause high inflation which has its own negative effects. If your debt is denominated in a currency you don't control (or in gold) then this can be a double-whammy and cause hyperinflation.
Government in general can be well-run and more efficient then the market when you are talking about absolute necessities and natural monopolies (like health care or roads), assuming you were willing to pay good salaries and benefits to attract the best workers and don't try to outsource everything. None of that applies to today's US or state governments... we pay like crap and purposefully use contractors for everything. It doesn't work well anywhere else, why would that work for government?
You opened with an ad hominem; that's rude and unproductive. Besides that, I don't find what you say to be contradictory to my own views.
Boost 1 is an example of breaking Nash equilibria. In a contraction, the individual optimal play is to turtle up, but the overall optimum is to keep the spending going at a slightly lower rate. So the cartel enforcer takes from its members the amount that should be spent and spends it. The error made in practice is that most governments borrow from their central bank at interest rather than raising the cash directly via a capitation with deductions for actual consumer spending. Or they blow the cash on stupid purchases, forgetting that how the money is spent is usually more important than the size of the amount.
Boost 2 tends not to happen much in practice, thanks to government corruption and prophylactic bribes by the rich, but when it does, it may trigger capital flight. The Hollande 75% tax in France prompted a few celebrities to leave, but the reality is that rich people have been fleeing high French taxes for decades. Shuffling the currency around has little impact if it does not also change the ownership distribution of revenue-generating assets. If the poor people took their free money and bought shares of profitable businesses with it, that would help. But they tend to buy food, utilities, consumer goods, and rent instead. As such, this redistribution plan is a temporary improvement at best.
Drain 1 is not quite the polar opposite of boost 2. When you give rich people more disposable income, they tend to buy more revenue-generating assets, rather than more consumer goods. Once you have one luxury yacht, there isn't much of a reason to buy another. They don't charitably pay others to develop their good ideas; they buy them outright, and reap most of the benefits for themselves. They do very well, and that does not trickle down to the lower classes in practice. Investment does not circulate the currency down in the same way that spending does. Investment attaches burdens and obligations to the money before handing it off to someone else. It slows the money down. Think about how you might feel if someone handed you a $100 bill that was wet and sticky, with strings attached worth -$50 to you, in comparison to someone just handing you a clean, dry $50 bill, that you could use as you pleased.
Drain 2 is mostly accurate, except I would say that printing more of a fiat currency is always an absolute drain on the economy, when considered in isolation from whatever is done with the new cash. If you do it at all, you are starting in a hole and need to do a whole lot of good to even get back to ground level. Politically, you often see someone touting the good done with government spending, while if you pull back a bit, you see that it doesn't even make up for a small fraction of the damage done by the currency manipulations required to pay for it.
Government's primary value is as a cartel enforcer to break Nash equilibria, wherein the cartel members are forced to act in a way that is sub-optimal for themselves, but which results in an overall better outcome for all participants. Taxation always results in a deadweight loss, except when the good in question has zero or infinite slope on the supply or demand curves. Monetary inflation creates a value gradient in the currency that complicates calculation, and generally enriches those closer to the monetary authority at the expense of those further from it.
Government can also prevent tragedy of the commons, by restricting the exclusionary uses of public goods.
These functions typically result in greatest efficiency during the reign of the generation born to the revolutionaries. The true believers try to make the government work correctly and efficiently for everyone. But then, some time after, the rot sets in, and people start to use government as a means to promote their own rent-seeking behavior. You simply can't create a tool that only be used for good and never for evil. The dinner knife can spread shit just as well as it spreads butter.
People seem to think this is a problem for the US (and I suppose it sort of is) but may not realize that it's not rosey for China either. The article ends by implying that they want to be doing this to get rid of much of their reserves, but I'm not sure it's that clear. The title here about China 'warning Washington' could be read either as a head's up or as a threat.
The problem for China is that by selling treasuries for USD and then using that USD to buy yuan, they are effectively taking that money out of circulation. This keeps the yuan from dropping and maintains the currency peg but it also removes all of the liquidity in the market. This is not really a great situation. It also makes US manufacturing more competitive.
In the past few days, they have been talking about playing with the reserve-requirement ratio of banks to encourage them to dump money into the market to maintain liquidity. If you tell banks that they can 'officially' lend out more by lowering the required amount of money they must have on hand, they will and then real money has been created.
I feel like they're really just trying to keep the whole thing on the road.
> don't the Chinese want a devalued Yuan? It helps their economy, right?
It helps some and hurts others. It helps when you are exporting and hurts when you are importing. But it gets complicated:
Among the 'importers' are consumers. Devaluing the yuan raises prices for imported goods and services, and goods containing imported components. In a way, devaluation taxes consumers to help exporting businesses (but it's more complex: some consumers work for or otherwise do business with exporters, while some are connected similarly to importers).
Also among the importers are businesses who import components of the products they make, including goods, software, and services. Those importers just saw an across-the-board increase in their costs.
And there is import and export of debt. Those who owe money in another currency, usually US dollars, just saw an across-the-board increase in how much they owe. Those who are creditors in another currency just got an across-the-board bonus; however I suspect that most Chinese institutions would lend in their own currency. It also helps those importing assets; for example investors are more likely to put their money in China when they can buy yuan-denominated assets more cheaply.
In a free-floating currency and open market, exchange rates also affect domestic interest rates because the exchange rates affect demand by foreign investors. I'm not sure how China's market works in that regard.
In the end it's the government picking winners and losers, but if their economy or key sectors depend more heavily on exports than imports, certainly they could see a net gain.
They devalued the yuan a bit, and probably want to keep it where it is now.
China runs partly on low interest rates on deposits. That means savers are effectively subsidising loans to businesses. Chinese savers are already looking for other places to park their savings (stocks, real estate, offshore), and China doesn't want to add more inflation as another reason to withdraw from banks.
I guess they figure that buying and selling US bonds is a way to control their target exchange rate (which they probably want to keep fairly stable) without messing other variables up too much, because the global market for bonds can soak it up.
Yeah it's confusing... You're right that a devalued Yuan helps their exporters. Of course, too much is a bad thing too. They want to keep their currency within a narrow range relative to the USD. They were recently making a move to do that which sparked all of those 'currency war' headlines:
They did that as a 'one-off thing' but it seems like everyone interpreted it to mean their economy was actually really in bad shape so investors started to get out before their assets dropped more. Then the stock market went to hell and now they're surprised that everyone is spooked:
So basically they sparked a bit of a panic and have been throwing levers to try to reassure everyone but each thing they try seems to just make it worse.
Yeah the general rule with currencies is that as long as they're not too volatile, they can go up or down without huge implications to the economy.
The other thing to realize with the Chinese stock market is that even though it dropped something like 50% in 2 months, it's basically flat since January. If you look back to 1 year ago, it's still up 40%. You don't get 250% growth in 6 months without an accompanying correction cycle. The biggest problem with China right now is that it's high on potential, but nobody knows what the right value should be. So it will continue to be volatile like this until there's a better idea of if Chinese companies are creating real economic value or not and to what degree.
You need to take news reporting with a grain of salt, just because all news papers say something doesn't mean that something is true.
There is some truth in lower Yuan helps export, and the Chinese government probably kept that in mind. But I think their main priority is to maintain the status quo, and keep things stable, for the past 15 years or so.
I believe when they decided to devalue their currency it impacted their stock market and unfortunately all central banks are now beholden to their individual equity markets and therefore "had" to take action.
The title about 'warning Washington' is almost certainly a heads up and not a threat. The Treasury needs to understand market dynamics to have smooth auctions for new treasuries, which is in everyone's interest. Prime dealers (the big banks that deal in treasuries) give the Treasury a heads up about these things, so would be natural for China to do so.
This article necessarily has a lot of business jargon content, and I'm having trouble parsing it. Could somebody with subject knowledge please summarize the article in terms a simple hacker can understand, and speculate a bit on the possible ramifications?
Treasuries are securities that the US government sells. It's a piece of paper you can buy, that promises the US government will pay you back, with interest (simplification) at some point in the future.
People with spare cash (which goes down in value over time) can put their money into Treasuries, with a very high expectation they'll get some some interest over their invested principle. US Treasuries are considered a very good "stable" investment in that the risk of not getting back your interest or principal is very very low.
China bought a lot of these when they had lots of spare cash. These things involve so much money and are integrated in the US monetary system that rapid changes of their ownership can have big impact in US economy (world's largest) as well as large markets (big simplification; there is a bunch of macroeconomic theory, as well as a bunch of irrational behavior that causes shifts in markets).
By selling these, the supply of treasuries will go up, which will probably reduce their value, which will have ripple-through effects on the economy.
Beyond that it's truly hard to evaluate the specific ramifications. The stock market is constantly evolving around a large number of indenpdent agents most of which behave irrationally.
> The stock market is constantly evolving around a large number of indenpdent agents most of which behave irrationally.
I think they actually behave rationally, but all according to different fact-bases. People usually don't say "this is really dumb but I'll do it anyhow" most of the time, most of the time they really believe that they're doing something pretty rational.
But a lot of times they have incomplete, ignorant, or just plain crazy fact bases from which they operate.
Or in the case of China, they want to defend their currency peg. You might disagree with their decision to peg, but if you accept for a moment that this is their goal, then it's super rational.
> I think they actually behave rationally, but all according to different fact-bases. People usually don't say "this is really dumb but I'll do it anyhow" most of the time, most of the time they really believe that they're doing something pretty rational.
> But a lot of times they have incomplete, ignorant, or just plain crazy fact bases from which they operate.
Believing an action is a good idea or in your best interests when it actually isn't, or basing decisions on a warped perception of reality, is pretty much a textbook case of acting irrationally. Rational versus irrational is not about perception, it is about how well perception matches reality.
So I hear what you're saying, but if that's the case then everyone, everywhere acts irrationally all the time. Because nobody is an oracle who knows how everything will play out. Is that the point that you're trying to make? Nobody has perfect information.
I guess what I was trying to describe is that people might act foolishly, but they don't know it's foolish. And most of the time we only know it's foolish in hindsight. At the time it might have been brilliant, but they went broke so it wasn't. If they'd made billions, it would have been genius.
So basically most people have "facts" that they believe to be true, and use them to make decisions that in light of those "facts" are smart. Few people disregard all facts and reasons and just do whatever, or do something counter to what their facts tell them.
What I'm describing might not be the economics definition of rationality, but it's closely tied to the colloquial definition and the idea that pops into my head when someone says "rational".
Often people have the information they need to make a rational decision, but they choose to discount, ignore, or misinterpret it. No decision based on this choice can meaningfully be called "rational" without stretching the definition of rationality to the useless.
This is quite different that making a rational decision based on incomplete or imperfect information.
Modeling human beings as rational actors, even in aggregate, is often a deeply flawed approximation for this reason.
> So I hear what you're saying, but if that's the case then everyone, everywhere acts irrationally all the time.
More like: a sufficient number of independent agents (or aggregate populations behaving as an agent) behave irrationally often enough to make discrete predictions impossible.
I don't think that predictions have anything to do with rationality. Just because YOU think people should behave one way with the information that YOU have doesn't necessarily have any bearing on what they will do. Especially since you don't know what information they have that you don't, and what information you have that they don't.
Even when you know the information they have it's (currently) impossible to predict what someone will do. It's impossible to know what information they will care about, what they think is in their best interests versus what actually is in their best interests by a more objective standard, etc.
> It's impossible to know what information they will care about, what they think is in their best interests versus what actually is in their best interests by a more objective standard, etc.
Don't you think it's a little crazy to say that someone else can know what's in a persons' best interests by a more objective standard?
I feel like it's incredibly arrogant and belies a substantial lack of induction. You almost certainly believe that you know what's best for you. By induction we can conclude that everyone knows what's best for themselves, and that those who claim to know better are either charlatans or have a distinct lack of empathy.
"Believing an action is a good idea or in your best interests when it actually isn't, or basing decisions on a warped perception of reality, is pretty much a textbook case of acting irrationally."
No. It is not. This is just a flawed definition you have invented on the go.
The people at Rapa NUI were totally rational about destroying trees to build Moais, because their model of the word implied God wanted that.
If the God Rapa Nui people believed in actually existed and he wanted to destroy trees for satisfaction, then it makes total sense to destroy all the trees.
I thought rationality was a measure of how one's actions are based on what you know, but not the things you don't know.
Prior to finding out that the NSA was wiretapping all the things, it might be considered irrational to expect them to intercept and store all of your information. Now that we know that, it would be irrational NOT to think that. The truth in both cases is the same: the NSA has been carbon copied on all of our packets for ages, the only difference is that now we know it's true (and not a "conspiracy theory").
Maybe someone will prove me wrong (and thus irrational), but I believe you're mistaken about what "rational" means:
The definitions and synonyms for rationality (found, e.g., with Google Define) are heavily clustered around reasoning, i.e. the ability to reach valid conclusions from your premises. Nowhere do I see mention that your information had to correspond to reality.
If I were to believe with great certainty that my wife is an alien breeding a cluster of biological weapons that will destroy all of humanity, and assuming that I want to prevent this from happening, reason would compel me to kill her. It would be a completely rational act.
People get this wrong because holding such beliefs is typical for crazy (= irrational) people. Because to _arrive_ at this belief, unless it was imposed on me through drugs, brain damage or brainwashing, would involve some major failures of reasoning at some _earlier_ point. I would have to e.g. believe that I was privy to information that the rest of the world didn't have, which is a pretty unreasonable thing to believe, given what every adult knows about how the world works.
Less radical example: At some point in history, it was considered common knowledge that the world is flat, and seafaring too far in any given direction runs the risk of falling off the edge. So sailors were afraid to sail too far. Was this fear irrational? Not at all! Based on the best human knowledge at the time, people had good reason to be afraid. That fear would be irrational for a well-informed person of our time, sure, but only because we meanwhile have access to better information.
Hypothetical: Maybe there's a meteor headed for Earth, due to destroy us all in a month. Let's say for now that this is reality - but we don't know it because NASA hasn't seen this meteor yet. If rationality were based on absolute reality, then the rational thing for us to do would be to build spaceships or blow our life savings on drugs and hookers. But that's silly, because we can only base the well-reasoned-ness of our actions on what we know. And for lack of omniscience, everyone's knowledge will always be imperfect, and with perfect reasoning (= rationality) our actions can only be as good as the information we have.
>At some point in history, it was considered common knowledge that the world is flat, and seafaring too far in any given direction runs the risk of falling off the edge.
I'm unable to find any historical evidence this statement was ever true.
For example, pop culture thinks it was true in the Middle Ages, but it was not [1].
You say "I'm unable to find any historical evidence this statement was ever true." I can only guess that your failure is based on a reluctance to even try, or you would have found a whole raft of ancient cultures and their public intellectuals documenting flat-earth beliefs in the Wikipedia article on "Flat Earth."
I am and was very aware that knowledge about the Earth's sphericity is more ancient than some people may think; so I intentionally made my statement sufficiently vague to avoid your kind of quibble.
They behave rationally... the issue, more than informational assymmetry that you note, is that they're facing Newcomb-like problems: They're betting on what other people are going to bet on what they're going to bet on what other people are going to bet...
And they're all trying to do it faster than the average participant, in order to attain advantage.
Stocks aren't traded on some fundamental objective functions of accounting value and projected profits, they're traded purely on what people believe that other other people will be paying for the stock five milliseconds / five minutes / five days / five years from now. All at once, in a recursive mess. The professed theory is that some kind of objective truth underlies all this, and eventually generates some theory of value that all the speculators can latch on to - but that sort of investing is a tiny fraction of trading volume.
Whether agents act rationally is an open question in the economic literature. I claim most investors are irrational, but that the market appears to have an emergent behavior that makes it appear rational. Truly explaining this sort of emergent behavior in a feedback and partial information and game-player system with a trivial narrative about whether agents are rational seems to deny the inherent complexity of the system.
> I think they actually behave rationally, but all according to different fact-bases.
Rationality, in the economic sense, involves (among other things) actors acting with accurate and complete information about all consequences of their market choices. Actors acting with "different fact-bases" are necessarily acting with inaccurate and/or incomplete information (because if it was both complete and accurate, it wouldn't differ between actors), and therefore, economically speaking, irrationally.
>Rationality, in the economic sense, involves (among other things) actors acting with accurate and complete information about all consequences of their market choices.
No, it assumes that agents use all available information optimally. Complete information is not a requirement.
> No, it assumes that agents use all available information optimally.
No, it is defined to include perfect information; actors using all available information optimally within the limits of their cognitive ability and considering, also, the opportunity cost of devoting resources to informationa evaluation and decision-making is a weaker alternative ("bounded rationality") to pure rationality.
> Complete" and "perfect" information are not the same thing.
Perfect information, in the rational choice theory sense, is both complete in the sense that it covers all economic consequences that impact the experienced utilities of the decision maker positively or negatively out to an infinite time horizon, and free of errors over that entire scope, which is why I used "accurate and complete" as a less-formal equivalent of "perfect" upthread.
> In games like poker, players have perfect information, but not complete information.
In poker, players do not have perfect information in the rational choice theory sense (or the game theory sense, which is generally stated differently, but I think is actually equivalent.) Poker is, in fact, one of the canonical examples of a game featuring imperfect information.
This is impossible, because unless the information is also complete then the utility functions of opponents (and hence future payoffs) are unknown by the decision maker at the time of the decision.
>which is why I used "accurate and complete" as a less-formal equivalent of "perfect" upthread.
I suppose if you believe that the two are equivalent, there's not much point in arguing.
Well, yes, rational choice theory is based on premises which are known to be impossible, but which are analytically convenient and which produce models which are (at least, argued to be) useful approximations of real world behavior.
I wonder if the impression that others are acting irrationally is really a symptom of the local knowledge problem on the observer's part. Or even the part of the actor. To the extent this is true, is acting on incomplete information "irrational" or is it "rational" but flawed.
I don't know about that. Lots of people make emotional decisions when it comes to money and will sell at the first sign of trouble. I think personal finance is one area where many are not rational.
This could have serious implications for the US. Here is why:
With a lot of supply, the price of treasuries will go down, so the US government will be forced to offer higher yields for the newly issued debt to sell. This will:
- increase the servicing cost of the $19T debt (will cause the debt to increase even faster).
- cause a drop in the stock market, as more cautious investors (retirees, etc), enticed by increased yields, reduce their stock market exposure
It all depends on how many treasuries China wants to sell.
>cause a drop in the stock market, as more cautious investors (retirees, etc), enticed by increased yields, reduce their stock market exposure
You've committed a fallacy: the overall stock market exposure cannot be reduced because those more cautious investors, moving their dollars to treasuries, have to sell the stock to someone else.
China has their currency, the renminbi (RMB), pegged to the US dollar. Since the Chinese economy has been weakening and their stock market has been plunging, people have been pulling money out of the renminbi, this has put downward pressure on the renminbi.
Now China has acquired vest foreign exchange reserves, mainly in the form of treasury bills, over the years. This was a result of pegging the renminbi to a rate that was artificially to low. Now that people are pulling money out of China, the renminbi might actually be too high.
China has had to user its reserves to prop up both the price of its currency and their stock market, to do this they have had to use their foreign exchange reserves. In one estimate, China has already spent $400 billion propping up the stock market and their currency. (http://www.ft.com/intl/cms/s/0/521f9f12-4a56-11e5-b558-8a972...) To do this China needs to sell some of it treasury bills.
This will have the effect of a minor increasing in the interest rate the federal government has to pay to borrow. While the Federal Reserve has been keeping rates low, it has been signaling for a while that it wants to increase interest rates. So this actually would be in line the Federal Reserve’s monetary policy.
In this end the selling of these treasures will have very little effect on the Unites States or the world wide economy. The big worry is that China might be slipping into recession. As the second largest economy, and the generator of most of the world growth, a Chinese recession would be a huge drag on the world wide economy.
It is critical to understand how the balance of payments works with regards to international trade to explain what is going on.
We can already see the impact China's slowdown has had in the price of raw materials. The massive drop in luxury goods consumption & Macau gambling revenue has been attributed by the press to Xi Jinping's corruption crackdown. I didn't buy that explanation. It is plausible that the economic engine which carried them for the past 20 years ran out of steam a while ago.
Contractions are good, for both public economies and private companies. They force the removal of waste and expose accounting frauds. The big question now is how much of China's economy is dependent on questionable things? Perhaps outright fraud, maybe business models that work only during sustained growth, or just stuff that requires the continued successful implementation of particular government policies (subsidizing interest rates, keeping exchange rates low.)
For years, China has been selling its own currency (RMB) and buying USD. This has the effect of depressing the value of RMB vs the dollar, since it puts more RMB into the market and removes dollars. It takes the dollars it owns and buys US Treasury debt. China wanted to keep the RMB artificially low to keep Chinese goods affordable in export markets, which keeps the economy growing. They didn't completely cancel out increases in exchange rate, instead they were managing it to be a slow rise over years.
Now that the China economy has started slowing, the RMB has actually started dropping in price vs the dollar. Although good for trade, this is panicking the markets, who expect stability or a slight increase. So, the government is reversing the flow, selling treasuries, selling the dollars, and buying RMB. This is called "unwinding" the position.
This unwinding has its own effect on the U.S. markets -- it's going to tend to drive down the price of treasuries, which will INCREASE their effective interest rate. Higher interest rates in the U.S. might threaten the economic recovery -- the Fed has been trying to keep rates low for the past 7 years or so.
It's certainly true that when predicted interest rates go up, existing bonds (which have fixed yields built into them) become less attractive and their prices go down.
So it's certainly true that decreasing bond prices can be indicative of higher future interest rates.
But if bond prices are decreasing only because the Chinese government is unwinding its position in Treasuries, surely that doesn't apply.
Parallel example: Suppose I hold a vast quantity of exotic options that pay off in some rather specific circumstances -- e.g., Apple shares increasing by more than 10% during January 2025. And suppose I have carelessly mismanaged my financial affairs so that these are a large fraction of my assets, and now I need more money. So I start selling off these options. That will reduce their market price, but that doesn't (unlike most movements in the price of such options) indicate that anyone actually thinks Apple shares are now less likely to gain 10% in 2025-01.
Perhaps there's some subtle way for these artificially decreasing bond prices to cause higher interest rates in the future? I'm not seeing it, but I'm not an expert in finance or economics...
First of all, the reverse of this situation (buying up lots of Treasury notes) is the basis for the Fed's "Quantitative Easing" policy, which was in place for most of the past decade and is credited with holding down US interest rates. So, government economists clearly believe that the price of these notes has a downstream impact on interest rates.
Second, the China sale is not "artificially" impacting bond prices, any more than I'm artificially impacting the price of avocados if I start buying all of them. As long as the price is a fair market price, then it's by definition not artificial, because everyone is participating by their own free will.
Third, the reasoning for this impacting overall interest rates is that debt is a commodity. There is currently a balance in the market between investment in, for example, Treasury bonds and mortgage-backed securities that takes into account many factors such as yield, perceived risk, liquidity, etc. If Treasury notes suddenly become cheaper and offer a higher yield, then some money that would have gone into new mortgages will instead go into Treasuries. With the same number of borrowers competing for less money for home loans, the cost of that money (the interest rate) will go up.
Again, the key point is that the impact on Treasury rates is not artificial, it's a real consequence of the sell-off of China's holdings. One last analogy -- if I dump millions of gallons of water "artificially" into a reservoir, the river that it feeds will flood for real. It would be pointless for the people downstream to argue that the flood is artificial.
> Parallel example: Suppose I hold a vast quantity of exotic options that pay off in some rather specific circumstances -- e.g., Apple shares increasing by more than 10% during January 2025. And suppose I have carelessly mismanaged my financial affairs so that these are a large fraction of my assets, and now I need more money. So I start selling off these options. That will reduce their market price, but that doesn't (unlike most movements in the price of such options) indicate that anyone actually thinks Apple shares are now less likely to gain 10% in 2025-01.
People do, almost by definition - the price is how you express an opinion. At the very least, you've shown yourself to be incompetent, which reduces everyone else's faith in your judgement.
The Chinese government isn't unwinding its position in Treasuries for fun; they're doing it because they think dollars are going to be less valuable in the future, i.e. that China will be importing less and/or exporting more than they had previously thought.
Point 1 is correct, the selling of bonds by China will have the effect that their prices will drop. That's the law of supply and demand in action.
Point 2 will probably also happen; but only up to a limited amount, because:
Point 3, and the others, won't happen. There will not flow more money towards the USD. What happens now is the opposite; China is selling USD's. Again because of the law of supply and demand, this will lead to a drop of the USD rate.
If the drop will be too much for the FED's taste they will increase the interest rate (point 2), but only so much that the depreciation will stop.
>There will not flow more money towards the USD. What happens now is the opposite;
I guess it is an event in the chain.
jpollock asks the question in point 6 "That USD->Renminbi sale might result in a drop in USD because there will be more USD around?"
3. A little, perhaps - demand is somewhat elastic (although treasuries are weird). But the economy is damped rather than chaotically oscillating; the amount of money flowing into USD that way will be less than the amount that China's pulled out. You may be missing the point that treasuries are pretty much equivalent to USD; China isn't selling the treasuries for USD, they're selling them for RMB. The effect on treasuries and USD will be pretty much the same.
4. Again, less than the amount it depreciates.
5. They might continue, or they might not.
6. Yes
7. Yes
8. There's not going to be an increase, there's going to be a decrease.
9. Likewise, oil prices will rise
10. Maybe. The thing is, Sorros was right; fundamentally, UK manufacturing was less competitive than German, and the price needed to adjust to reflect that. This move is, at least partly, China brassily saying that their companies are still up to snuff, and will outcompete those in the US (something that a lot of people are a lot less confident in than they were a week ago, if you go by Shanghai stock exchange prices). Are you sure they're bluffing?
The other part is that Sorros had more money than the British government. A modern-day equivalent would have to put their hands on more money than China's total US treasury holdings - $1.2 trillion. Bridgewater, the largest hedge fund firm, has $78 billion. They could probably lever that up a bit, but betting the whole firm at 14:1 ?
Thanks for this. I look forward to more answers on the questions you highlighted in this thread.
One additional question I have now is, what about the impending Fed Rate Hike? As in your point 7 - if the China Govt. action is equivalent to a rate hike, then will the Fed's own hike get pushed further into 2016?
China's currency and it's exchange rate is managed by The People's Central Bank of China. It is not allowed to freely float in value in response to supply and demand for it. However, it is allowed more up or down each day within a set amount, before the People's Central Bank of China will intervene, and in actuality many times the PBOC just does whatever it wants to do it.
Which brings us to a few weeks ago, when overnight the PBOC decided Yuans would be worth about 2% less than the day before. The PBOC also expanded that daily trading band to 4% a day. They did this in an apparent attempt to increase exports, as Chinese goods, on paper, became Cheaper overnight, at least in terms of USD.
In response to this, there has been downward pressure on the Yuan and now the PBOC, wary about capital flight among other things, needs to defend the Yuan by selling US Treasuries, for which they get US Dollars, with which they buy Yuan on the open market, decreasing the supply of Yuan available, which puts upward pressure on its value.
The biggest ramification, I would say, has to do with interest rates on US Treasuries, which influence all types of other debt instruments such as home loans, and of which China has been a huge buyer over the past decade and a half. The interest rate on a 10 Year Note is dictated by how much demand there is for the note. If a lot of people want the note, you can get away with offering a lower interest rate, but if few people want to buy it, you need to increase the rate to attract more buyers.
China informed the US that its going to be selling its treasury notes (for dollars) so that that it can buy back renminbi (its currency) in dollars to increase the value of the renminbi versus the dollar. With any other asset this would be a sort of 'who cares', however the US finances its own government debt by selling treasuries and having two sellers on the market means that you start competing for buyers, and you compete by selling them at a discount (which raises their effective interest rate).
What that means then is that even though the Federal Reserve is interested in keeping interest rates down, you can see interest rates of treasuries can be pushed up, and for the US, selling new treasuries to finance the deficit will pay more interest (causing the deficit to be that much worse) and that can also push interest rates up.
Bottom line, China did the right thing by letting the US know they are pursuing this strategy in order for the Federal Reserve to continue to manage its own economic policy.
China sells US debt treasuries in exchange for dollars.
China sells the dollars it raised to buy Yuan.
Demand for the Yuan increases, hence the Yuan becomes more valuable, hence its exchange rate vis-a-vis the dollar appreciates (it will also appreciate vis-a-vis other currencies).
Dollars are being dumped into the market, so the dollar should decrease in value.
A more valuable Yuan means that China's currency is more expensive, hence its exports become more expensive (and drop) and its imports become cheaper (and rise).
Other people now own US debt, for which they will receive interest payments and a repayment when the debt is due.
In terms of supply and demand what you say makes sense, but:
> China sells the dollars it raised to buy Yuan.
The Yuan is a highly controlled currency that does not behave like other normal free market, floating currencies.
The Chinese government sets the exchange rate as was shown just weeks ago when they devalued the Yuan and Trump call that move the start of a China/USA currency war.
> Demand for the Yuan increases, hence the Yuan becomes more valuable
If the Yuan was free floating that might be true, but even then, since China is a net exporting nation they want a low Yuan, so that their exports are cheaper and their imports are more expensive. So why would they want to drive up the Yuan?
I'm really not sure what is going on but everything they are doing (i.e. selling US bonds) goes against what one would expect.
The only thing I can think of, because of the turmoil in China (i.e. the share market shock, property bubbles etc) they are a bit short of cash and rather than print money (which would causes inflation) they are raising money by selling some of their US bonds.
China cannot just set the exchange rate arbitrarily, well, without creating huge artificial imbalances that even they can't get away with. Instead, they make their peg real by buying/selling RMB and dollars. So if china wants to prevent the RMB from tanking (and believe me, they do) they need to buy satisfy the demand for dollars bought buy exchanging RMB, just like they buy dollars to provide dollars. China bought treasuries in the first place to park USD from trade surpluses somewhere that wouldn't cause their currency to appreciate, and now they are selling that to prevent depreciation. Balance must be maintained, one way or the other.
If the Yuan was free floating that might be true, but even then, since China is a net exporting nation they want a low Yuan, so that their exports are cheaper and their imports are more expensive. So why would they want to drive up the Yuan?
What they want is a very slowly appreciating Yuan. This shows that the economy is growing, and it gives China more buying power overseas, but it keeps imports affordable. This is what has happened over the past 10 years, since the government allowed the exchange rate to float. (see https://www.google.com/finance?q=CURRENCY%3ACNY&ei=bD_fVZnNN...).
The issue is that over the past month, the Yuan has actually started to DECREASE in value against the dollar, which is a sign that the economy is slowing. That's scaring the crap out of China investors, who have baked in a very high growth rate into their pricing. That's what's driving the government to put their rate control machine into reverse -- instead of trying to keep the rate from growing too fast (to favor exports), they are doing what they can to keep the rate from falling any further.
More like, there is capital flight from China because there are economic problems and yuan devaluation is anticipated.
When people liquidate yuan assets and buy overseas assets, they sell yuan to the central bank, buy foreign currency.
In order to buy the yuan, China's central bank needs to supply foreign currency. To acquire the foreign currency, they sell foreign assets, e.g. Treasurys.
It's not so much they are trying to push the yuan up, as trying to prevent it from falling too precipitously as people sell it.
They are accommodating the capital flight by supplying foreign assets, instead of letting the yuan fall sufficiently sharply to the point that would stop capital flight, because investors would no longer expect further depreciation.
China owns a ton of US treasuries. It will sell some of those in exchange for dollars. It will then buy it's own currency, the Yuan, with those dollars.
Selling treasuries will make US bond prices go down.
Buying Yuan will increase it's price versus the dollar.
So, this is a move by China to prop up the value of it's currency.
...correct in a normal world. China is not normal. Their currency is pegged to the dollar. They are trying to decouple (see IMF comments delaying their inclusion for another year). They are lowering the peg which is increasing the dollar vs. ren. This in effect is lowering/devaluing the ren. which makes manufacturing cheaper there. Other emerging markets are also decoupling so that they can devalue their currency in order to keep up with the Chinese active devaluation. Currently other major markets Germany, Japan, etc. are not actively devaluing. If they do we will have a currency war. This would be very very bad.
...this article is only describing one aspect of a very complex picture right now. One that you could argue has not been seen previously. That and the weird illiquidity problem that happened Monday with ETFs. It makes for a very odd picture right now.
China is selling US Debt, so more dollars are on the market.
Since we've been keeping interest rates at zero for some time for political purposes, we lack a lot of controls (ie. interest rates adjustments) to smooth out whatever fallout takes place.
The risk is that rates might go up. That isn't the end of the world, but will have a negative impact on stocks. As a citizen, the impact varies based on your position. If you refinanced your house with a 30-year fixed, you're good. If you're on a interest-only ARM, not good.
> The risk is that rates might go up. That isn't the end of the world, but will have a negative impact on stocks.
There are more effects on the general economy than just the negative impact on the stock market (the direct stock market is one of many direct manifestation of the diversion of investment dollars into Treasuries instead of other investments as Treasury yields increase); upward pressure on interest rates -- that is, an increase in the market-clearing cost of financing given the same demand for financing -- means less financing happens, and thus less of the economic activity dependent on that financing happens, and there is a general economic slowdown, job losses, etc.
You have junky companies like Amazon, for example, on a decade long binge of expansion, whose plans depend on cheap access to capital. Their only way to deliver profit is by achieving near monopoly status. Why are we subsidizing that behavior?
We have a government on a spending binge, again fueled by cheap access to capital. How is slowing down that train a bad thing?
If you look back historically, we have had plenty of boom cycles without the "record low" rates. It's not the end of the world as we know it.
> You have junky companies like Amazon, for example, on a decade long binge of expansion, whose plans depend on cheap access to capital. Their only way to deliver profit is by achieving near monopoly status. Why are we subsidizing that behavior?
On the other hand, most companies are having a hard time investing in their own businesses and are instead buying their own shares to boost EPS. Companies that spend a lot to expand their business are good for the economy, so Amazon has a leg up on most firms there.
> We have a government on a spending binge, again fueled by cheap access to capital. How is slowing down that train a bad thing?
The government isn't on a spending binge. We've had a Congress unable to agree on anything so we're stuck under a budget freeze that happened thanks to the 2010 Budget Control Act and its sequester. Soft government spending has actually hurt US GDP and slowed the recovery.
For years people railed against China for keeping the yuan artificially lowered by buying U.S. Treasury Bonds. This led to Chinese manufacturing being extra competitive, and a larger U.S. trade deficit.
Now China is doing the opposite. It is selling treasury bonds to buy yuan to artificially increase the price the yuan and everyone is freaking out. It will do the opposite of what is had been doing by causing the dollar to appreciate, and the yuan to depreciate. This will make foreign goods relatively more expensive for Americans, and American goods relatively cheaper for the foreigners. This effect will be most pronounced when the foreigners are Chinese. These will probably be small effects that won't effect anyone's life enough to be noticed.
Whats happens to Treasuries?
Nothing. Short term treasury rates are pretty much determined by the FED. Now even more so than usual because of the FED has it's pedal all the way down on the accelerator at 0% interest. Long term treasury rates tend to be determined what people think short terms rates will be over the long term. What primarily determines the interest rate over the long term is U.S. growth and inflation. So if people think this will cause more U.S. growth, long term treasury rates might increase a little.
They are not trying to maintain their currency peg. They are slowly devaluing to eventually decouple (see IMF year delay comments). The treasury sales, which no one other than China really knows why, are continuing at an extremely rapid pace and the best guess is they are using it to inject liquidity into their market in order to prop up their stock market bubble.
The Chinese care more about the ability to "control" their peg than they do anything else. What they don't want under any circumstances is a black market exchange rate that differs substantially from the official rate. Because once you have that the government no longer controls the exchange rate. So they have devalued a relatively small amount and now they must maintain the peg at the new level, if that means selling a boat load of treasuries to do so, so be it, that's the purpose of holding the treasures.
To your point on selling USD denominated debt to prop up the stock market.. why? They Chinese stock market is denominated in Chinese Yuan, not USD, if they wanted to prop up the market they could just print the yuan and buy stocks, they don't need to sell Treasuries at all to do that.
yes...this. there is an argument that we are balanced on a knifes edge right now. if the fed goes by their previous metrics, today's growth numbers would indicate that a September hike is back on the table. if they are worried about treasury sales from china increasing we may have another round of quantitative easing. this is why the market is so sketchy right now. nobody knows what is going to happen because they are almost exact opposite directions to take.
“Strategically, it probably has been China’s intention to find the right time
to lighten up its excessive accumulation of U.S. Treasuries,” he said.
I think that is the crux of it. They are itching to move away from dollar and any excuse to do so is used. This has also been tied with AIIB & they accumulating a large amount of gold to back up their currency to be the base denomination for global trade.
James Rickard's Currency Wars, and The Death of the Dollar are interesting reads. I have given copies to family members because even if Rickard's is not totally correct, his analysis is interesting.
I guess the big story here is that people have been warning they would do this voluntarily in some attempt to punish the US and drive down the value of the yuan and drive up the interests rates so they can continue to undercut US businesses.
The fact they have been forced to do this is another scenario all together. This brings up an important question: What happens when the bidders who are absorbing all this paper, stop bidding? Then what does the Fed with all this paper in a highly liquid market?
Make no mistake though, this is the game the Chinese like to play with their currency in order to keep the value of the dollar high and the yuan low. Back in early 2015, they did the same thing:
Federal Reserve data published late on February 18 reveals China dumped about $75 billion in US bonds in the last six months of 2014
Breitbart broke the story last week that China’s real economic growth had crashed to 1.7% in the fourth quarter of 2014. We also warned last August that China appeared ready dump part of its $1.32 trillion holdings of US bonds in a scheme to drive American interest rates up; thereby strengthening the dollar and devaluing the Chinese currency.
lowering demand for us paper means higher interest rates. higher interest rates in the us means devaluation of foreign (non us currency), all other things equal.
us is going to slow gdp when interest rates go up (look at fed...they are scared). so this is basically a stealth currency deval and a shot accross the bow to obama (sitting admin will take the hit if gdp in us goes south).
typically, this is crytpic and below the radar type of stuff but almost certainly is meant to broadcast a message.
I don't think China has much of a choice to be honest. They're still not able to get a Chinese middle class to buy goods made at home at the rate they want. So, I think their economic program of being the world's factory floor has been a failure so far. They (Chinese Community Party) really need to rethink their strategy and look towards other methods of improving the living standard because it just doesn't look like their brand of market socialism is working (I'm using the term market social very loosely here).
It's more of an observation in regards to what seems to be the CCP's end goal of lifting all of China's people out of poverty. It's been sacrificing services like healthcare and education to get their economy up and running, but it seems to only benefits only a few of China's citizens. So, I just wonder if the CCP has given up on the goal of socialism to communism.
What is being done with the USD Cash generated after the sale? Are the Chinese immediately selling the USD Cash to local CNY holders in order to defend the peg? What do they do with it next? Is the new USD Cash leaving Chinese borders? Does it stay in local accounts - eventually to be used to buy up other USD denominated assets?
as the article says, they try to keep the yuan up. so they sell treasuries and buy yuan with the usd from the sales. (what they then do with the yuan doesnt matter, its theirs anyway)
1. Who is selling the CNY for USD? Specifically is it another arm of the government?
2. More importantly: what is the new holder USD allowed to do with their newly acquired USD cash pile? Are they allowed to transfer it out of the country? Or are they required to keep it in USD, but it in Chinese banks? Are their restrictions on what they can buy?
If so, anyone could be on the other side of the trade, including other governments, banks, speculators, investors, and businesses. The USD are transferred to the other party, out of China if appropriate.
The CNY are coming from the open market, people who have yuan and want to have dollars. Since it's the open market, they can do whatever they want with those dollars after the trade. Thus, this is putting more dollars into circulation.
Companies, individuals, investors e.t.c. are moving their money out of the yuan back into the dollar, China is selling some of its treasuries to get the dollars to give to these people. I expect the vast majority of it is leaving the country.
Isn't that against their goal of making the Yuan part of the Special drawing rights? If there are fewer Yuan internationally (and more in-country) they have a worse case for that.
The bigger hurdle to the SDR is I believe it has to be a free floating currency, which the Yuan is not. Also, I mean, what are you going to do? If people want to get their money out and you're not going to completely forbid them from doing so then you have to pay up. If you want to maintain your peg and pay up you need dollars to do it, which you have in the form of treasuries.
absolutely no. with ren pegged to usd and usd climbing this is terrible for continued 7% Chinese GDP growth (their state published ave. who knows what actual GDP is). they want their currency devalued vs. usd and are actively moving it lower. products that are cheaper vs. other currency = greater sales/growth. this is why other EMs are starting to devalue. world is scare another 97-98 asian currency war is coming.
My armchair hypothesis is that Chinese central planning allows them to off-set the burden of USD to large corporations(Sinopec,ICBC) and purchase cheap energy. With current crude prices they can easily purchase large enough volumes to increase the price and hold on to a valuable commodity.
When it comes to currencies, supply has not such a powerful effect as people think. The value of a currency is determined more by the subjective ability of the government to support the currency, not by the amount of it in circulation. If supply had such importance, large countries like Russia, China, and India would have a great advantage over the USA, because their currencies are currently not in wide circulation. In theory, the US could continue printing money until everybody in the world would be using USD (now, if this would or should happen is another thing).
Basically, a lot of wait and see, but China's headline reserves aren't nearly as impressive as they sound and things could get interesting if they lose much more value.
What Would Happen If Everyone Joins China In Dumping Treasurys?
ttp://www.zerohedge.com/news/2015-08-26/what-would-happen-if-everyone-joins-china-dumping-treasurys
Note the title is opposite of what they recently did.
Selling treasuries has large ramifications for the US. and a warning that we should think about getting our
financial house in order (congress will not heed this, only the bond traders will force "austerity" as they did during the Carter administration)
China's 2% devaluation of the renminbi a couple weeks ago was the trigger for the current market turmoil.
Chinese financial tactics are probably aligned with the goal of inclusion into the IMF SDR:
<IMF Executive Board Approves Extension of Current SDR Currency Basket Until September 30, 2016>
http://www.imf.org/external/np/sec/pr/2015/pr15384.htm
(Was it retribution for not being immediately included? Maybe not, but they still are the major holder of US treasuries.)
Then they wouldn't need as many dollars to buy their trade goods.
Chinese rise is inevitable and we need to do serious things to prepare for living beyond our means.
China sells US treasuries in order to appreciate Yuan relative to USD.
Supply of US treasuries on the market increases.
Demand for US treasuries decreases due to concerns over a large enough Chinese sell-off. Demand for US treasuries increases due to uncertainty over the stock market. Net effect on demand is uncertain.
Assuming worst-case scenario (for the US) in which supply of US treasuries increases and demand decreases: Yields on US treasuries increase as investors with less demand must be compensated for taking on a riskier and more plentiful asset.
Yields rise, and the US government must now service a higher level of debt, pushing the deficit higher. US is forced to re balance spending, stifling growth and economic activity in order to keep debt in line.
Bottom line: This probably won't have an effect on US economy as investors need somewhere to park their money that is not the stock market. Also, the scale at which China is selling off treasuries is assumed to be pretty small ($40bn/mo compared to $3.65tn total holdings).
Now if China initiated a mass sell-off of all of its US treasuries, there would be huge ramifications. But in its current form, this seems to just be one more way for China to slowly unravel its position in US treasuries while playing with the value of the RMB.