China Economy, EU & RMBChina Economy, EU & RMB

Signalling Cycles and Game PerspectivesSignalling Cycles and Game Perspectives Patrick McNutt, FRSAPatrick McNutt, FRSA

Web: Web: www.patrickmcnutt.com

Why a signalling cycle?Why a signalling cycle?

• Financial and economic variables create cyclical patterns (CTL)

• Government policy is necessary but not sufficient: it is signalled in advance of action

• Emerging sub-games• Economic policy depends on

policymaker’s commitment (PLT) • Signalling recognises that our economic

system is dynamic

Emerging signals: sub-game

• China’s RMB signals from Q3:2010 depend on information on domestic inflation targets.

• Currency fluctuations continue to depress corporate earnings…TNCs (Unilever, P&G, Siemens, Standard Chartered) now receive at least 30% of sales from China, Brazil and India and at least 40-50% if including MENA and 50-60% if including Asia.

• Managed exchange rates or use of SDRs on G20 Agenda..Canada [June 2010] or S.Korea [November 2010]

Game on….yoyo exchange

China and its currency…does it need to revalue by 25%?US focus on export-led growth….will the USD fluctuate?

FED and Bernanke signals high UN at 10% ..unlikely to raise interest rates and USD strengthens

More and more currencies are ‘captive’ in a yoyo exchange…Euro/USD - Euro weakens/strengthens as USD

strengthens/weakens and US$ peg

Critical Time Line Analysis(CTL)

• Identify and verify the signals

• Create a critical time line CTL

• Observe the pattern: action and reaction

• Define Player A and Player B..is there Player C? Truthful revelation

• Dark strategy - belief and actions

1. China CB Governor raises the issue of the role of US $. Diplomatic language ‘lost in translation’

23 Mar 2009

2. G20 London Summit

2 April 2009

3. BW theme of ‘new protectionism’; FT theme of ‘currency misalignment’.

22 June 2009

4 China signal on ‘normal’ Agenda with exchange rates

5 July 2009

5. Italy and France no to ‘normal’

7 July 2009

6. G20 Italy Summit

8 July 2009

7 Signals that China biggest X than Germany

15 July 20098. China US Strategic Econ Summit

28 July 2009

9. Signals on WS ‘bull’ market

31 July 2009

10. Iron ore reaches $100 tonne spot

2 August 2009

11. IMF on Asian need to M. China signals ‘inflation’

17 August 2009

CTL: March - September 2009: US and China: cycle begins

12. G20 Pittsburg Summit

22 Sept 2009

1. At APEC Meetings signal that China will allow Yuan/RMB revalue in 2010.

14 Nov 2009

2. Economic commentators calling for 25% revaluation

20 Dec 2009

3. At AEA Meeting Bernanke on low interest rates

10 Jan 2010

4 Obama State of Union focus on X but silent on exchange rates

1 Feb 2010

5. OECD/MoodyChina Current Account Surplus $328b

8 Feb 2010

6. Obama meets Dali Lama

19 Feb 2010

7 Obama Time Magazine interview and China must revalue ‘over-heating economy’

22 Feb 20108. Chinese commercial banks increase reserves

24 Feb 2010

9. IMF and 4% inflation target and justifying capital controls

20-25 Feb 2010

10. G20 Canada Summit Toronto

26-27 June.2010

11. US Congress Bill on tariffs

30 Sept . 2010

CTL: November 2009 - October 2010: observe a pattern

12. Brazil Minister Mantega: Plaza 2

8 Oct 2010

1. MEMORY IN THE GAME 2009-2010

BW focus on Gini for China = 0.5

1 Jan 2011

2. China relaxes currency laws

12 Jan 2011

3. PBC increases interest rates to 6.06%

8 Feb 2011

4 RMB strengthens to 6.37 v US$

1 Sept 2011

5. ECB says No to Euro-bonds

22 Nov 2011

6. Xinhua News agency: Germany should do more

8 Jan 2012

7 IMF Report on importance of EU trade t o China

22 Feb 20128. Chinese Wen Jiabao: China ready to solve EU debt crisis

12 Feb 2012

9. V-President Jinping China ‘will help; in Dublin

21 Feb 2012

10. PBC Report signal ‘open’ the financial system

23.Feb.2012

11. TODAY Time period t

dd.mm. 2012

12. TODAY Time period t

dd.mm.2012

CTL: January 2011 to 2012 memory & belief

Observations in 2010Observations in 2010

• S&P 500: 40% of revenues from foreign sales• Exponential growth in FDI to EMs and ASLEEP. • EMs and ASLEEP economies [inc Africa and

GCC] v Anglo-Saxon & US• Creative Industry: Transition from non-

technology to technology & innovation sectors.• Capital flows to EMs increasing from a base of

$450b in 2008/2009.• China: both PE and FDI in EMs, ASLEEP.

Observations in 2011Observations in 2011

• 28-30 March 2011 Yen rises to 76 v US$ and G7 intervene..falls back to 81

• G20 Feb 2011 Meeting France (Brazil, Canada,

Australia, France)…no signals on exchange rates or international capital flows.

• ECB Trichet ends term, Draghi appointed: new dove signalling on (reduced) interest rates.

• US Congress equation: China’s currency practices = lost jobs in US

• German bond yields come under threat in 2011.

Observations in 2012: second-best Observations in 2012: second-best solutions emerge…solutions emerge…

• EU cannot fix debt crisis unless it fixes the banks

• Many EU banks are insolvent

• Treasure hunt of potential default nations

• Common pool problem 1/n

• Bank debt ‘crowd-in’ sovereign debt

• Role of SWFs• Restructure for IPO• Debt for equity swap • Debt obligations

arrangements put in place

Signaling cycle evolves in Signaling cycle evolves in 2012….2012….

Paradigm Shift occuring……….Paradigm Shift occuring……….

ASLEEP economies

Global growth

Global companies

Global markets

X:Trading Blocs

EU: avoid debt-deflationEU: avoid debt-deflation

Second-best solution Template solution• Deposits migrate across

Member States• Moral hazard with ESM

‘permanent rescue’ • Indicators of ‘black

economy’ activity and structural unemployment

• Increased savings (paradoxically) with credit card indebtedness.

• Pan-European solution that supports the Euro as an international reserve currency

• Liquidity support for RMB• Avoids a debt-deflation

cycle embedding into EU’s real economy

• Process: De-list insolvent banks to IPO to efficient consolidated EU banking sector.

China’s equation: GDP = X + G/Corporate Investment/FDI + C(M)

• China more important source of FDI funds than World Bank in Africa

• China to account for 10% (PPP) World GDP by end of 2012

• FDI in Africa, in Iraqi oilfields, China Unicom + Nitel, ICBC + RSA Standard Bank, China-Singapore Trade Deal 2008, China-Egypt Business Council 2006, Geely Auto & Volvo

• China’s main stock index now trades p/e = 31: higher by 50% on S&P500.

• Capital inflows to China » either revalue, accumulate reserves or decrease interest rates

‘‘Thief of Nature’ solutionThief of Nature’ solution

Internationalise Internationalise RMBRMB

Does China want to internationalise the RMB? Yes. It would preserve the value of China’s foreign reserves and facilitate China’s role in the world’s economic and financial affairs. Trade settlement with RMB is already open in Hong Kong. Trade with China can be settled in RMB. Russia, India, Brazil, New Zealand and South Africa now settle trade with RMB. Corporate bonds denominated in RMB are sold in Hong Kong.

 

• The Euro debt crisis presents an opportunity to introduce Europe as an ‘offshore’ market for RMB.

• If we take the EFSF €500b provision as a benchmark, for a ‘Euchina bond’ in return for a first stage in the internationalisation process of the RMB.

No Euro currency crisis…yet?No Euro currency crisis…yet?

Signals embed into sovereign Signals embed into sovereign default probabilitydefault probability

EU as ‘off-shore’ market for RMBEU as ‘off-shore’ market for RMB

‘‘Internationalisation’ ProcessInternationalisation’ Process

No currency crisis..signalsNo currency crisis..signals

Commitment to exchange rate targets in 2012 with Commitment to exchange rate targets in 2012 with escape clauses ….why?escape clauses ….why?

• Global growth will depend on world exports as domestic demand continues to fall.

• China Yuan/RMB is ‘captive’ to other countries exchange rate policies

• EMs and ASLEEP economies will substitute export-led growth for more G: ASEAN nations focus on intra-regional trade but no common currency.

• Beggar-my-neighbour policies emerge: both US and China cannot rely on export-led growth simultaneously

• China needs to increase domestic consumption• China limited on interest rates moves due to capital inflows

What lies ahead : Macro Trends?What lies ahead : Macro Trends?

Prognosis…Prognosis…

And in conclusion…..

2012 is time period t

Our prognosis is for time period t+1

THANK YOU

‘’do not wait for the stream to stop

before crossing it’’