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Tuesday April 5, 2005 - 10:39:29 GMT
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Consider the $ alternatives


“Four legs good, two legs bad.”

George Orwell, Animal Farm

FX Trading

Many still can’t believe the dollar is actually heading higher. The gist of the argument is primarily based on dollar ownership overseas: “Well, the dollar may be bouncing, but because foreigners control so many dollars…blah, blah, blah…it can’t last.” And of course, let us not forget—“the deficits.”

Maybe that argument will prove correct—but I don’t think it will. Why? Two general points:

1) There is still no viable alternative! The euro was supposed to be the next big dollar challenger. But does your average central bank foreign exchange reserve manager want to load up on a currency where the underlying structure is increasingly seen for what it is—smoke and mirrors? It seems that individuals in Europe still have nationalistic tendencies and an interest in sovereignty after all—despite the protests from the wine and croissants crowd in Brussels. Still, despite all the killing of innocent trees to produce all those lovely reports on union, it seems the economic and political union in Europe is still out of sync.

2) The darling of the dollar hating crowd—China—could be in for a hard landing. Most of the financial press trips over itself to write glowing reports on China. (Access is a wonderful thing.) You would think China world hegemony is just around the corner. Despite my being wrong so far (I can play the broken clock investment timing game too), I still believe a hard landing is in the cards for China. Again, the politics and economics aren’t aligned as closely as the Chinese masters would have us believe.

This morning The Standard of Hong Kong carried a story suggesting Chinese policymakers are again looking for ways to slow down the property boom. Two reasons: one is a financial bubble and the other is growing social unrest by a majority of the population that cannot afford anything now being built. But the property boom is the gold goose, so policy makers must be careful.

“China has been here before, and not too long ago. A property bubble burst in mid-1990s, leaving banks with much of their current bad-loan burden of US$200 billion (HK$1.56 trillion),” said The Standard.

Joe Studwell, editor-in-chief of the China Economic Quarterly, in a story carried in the Financial Times, “China’s boom has let to only partial change,” seems to agree with The Standard, we have seen this all before:

“The case for ‘changing China’ is considerable, but cannot be separated from the financial story of a state that exercises a vice-like grip on banks, stock markets and bond issuance. Unfortunately, the most extreme statistical series in this latest period is not about trade or ownership but loans outstanding in the financial system. In just three years from 2002 to 2004, loans increased by 58 per cent, or $785bn. In 2003, new lending equalled almost one quarter of gross domestic product. This latest boom was driven by a credit binge. It was not supposed to happen.

“As an indicator, a 10 per cent non-performance rate on new loans by the 16 biggest banks in 2002-2004 bounces the NPL [non-performing loans] ratio back up to 20 per cent. There is reason to expect worse. Last October, the China Banking Regulatory Commission conceded that the default rate on $22bn of car loans extended since 2002 already exceeded 50 per cent. The AMCs [asset management companies] have become dumping grounds not just for commercial bank NPLs but also for the ‘assets’ of failed investment conglomerates, securities businesses and government infrastructure projects. The state makes the AMCs issue interest-bearing bonds for which it refuses to accept explicit liability. Separately, Beijing has raided tens of billions of dollars of foreign exchange reserves to shore up banks' capital.”

The China Construction Bank was supposed to be the shining star of the Chinese financial system. It was to be listed as a western styled institution. But there was a little problem with its chairman being locked up on corruption charges.

Writes Mr Studwell: “A new paradigm? The big picture in 2005 is that China's economy has been incrementally, but not fundamentally, altered by this latest cycle. In China it is, in sum, business as usual.”

So for those believing the US dollar is rallying on only smoke and mirrors or some type of government conspiracy, I think it makes some sense to consider it may be because the alternatives aren’t all they were cracked up to be.

Jack Crooks


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