Business Sours on China

A few years ago, I was in China on a business trip.

At the airport, as I was leaving, the departure authorities asked if I was leaving with any RMB (Chinese currency). Knowing that I was under the allowable $10,000 amount, I told him I had 3,500RMB (approx $500USD). He gasped like I was some crook. He had several others rush over. They huddled and he then told me I had to get out of line and go exchange all my RMB to USD.

I asked why (since I was under the limit)? The only answer I got was that it was illegal to carry that much RMB out of the country. I was surprised! I explained that I was returning in a few weeks and would use the RMB I had on me, at that time (saving some exchange fees) and that I had done this before. They did not care - I was told I could not leave with the RMB and needed to exchange them for USD.

A few days later, it was widely reported in the press that China was adjusting the peg of the RMB to the USD and after the adjustment, those RMBs would be worth more USDs - China was just trying to keep the more valuable stuff, ie the RMB, local and not out floating on the world wide economy.

The real target of this activity was to reduce currency speculation, where the currency would leave the country weaker than the value of the currency when it returned to the country. This is a natural reaction when a country knows it is increasing the value of its currency.

While this just may seem to be an oddity of conducting business on the global stage, it is similar to conditions that are now also occurring.

In a previous post on this blog “Is the Chinese Economy Out of Control?”, it was mentioned that due to the size of stimulus provided during the GFC, in a very short time by the Chinese government, there will likely be some serious unintended consequences.

These unintended consequences could manifest themselves in terms of foreign policy or China becoming more assertive on the global stage.

There are many recent developments within China indicating it is now asserting itself on the global stage causing global businesses to sour on China. These are examples of the unintended consequences mentioned in the previous blog post.

When China was admitted to the World Trade Organization in 2001, it affirmed its emphasis on opening its economy to foreign business however these recent developments are indicating a tilt toward promoting dominant state owned companies, again, an example of unintended consequences.

The ongoing Google incident, where Google who has had troubles with China’s censorship rules, has recently experienced intense hacking attacks against its network, providing an opportunity for a local Chinese search engine to dominate an Internet market of 400 million uses.

Another example is the bullying associated with the drummed up “spying charges” against executives (based in China) of Rio Tinto, a resource and mining company with headquarters in Australia. The charges were later reduced to bribery after China obtained significantly lower iron ore prices for long term contracts.

Coca-Cola recently had a bid, for a local Chinese juice company, not accepted by government regulators on the grounds that if the acquisition went through, consumer prices would increase and smaller companies would be crowded out of the market (even though the company that was to be combined with Coke) would hold about 20% market-share … this led to calls that the Chinese were protectionists (of their local markets) and raising trade barriers.

Technology executives are highlighting that recently issued procurement rules in China are favoring “indigenous innovation” limiting access by foreign suppliers to tens of billions of dollars of contracts for computers, telecommunications gear, and office equipment.

Foreign makers of wind turbines and solar panels say they are being shut out of big renewable-energy projects in China or being forced to license production to local companies at prices set by the government.

It is also becoming clear that China feels it has less need for foreign funds. A few days ago, China’s Premier, Wen Jiabao, told the Americans to stuff it and strongly defended what amounts to China’s policy of currency manipulation.

In what amounted to an extension of its reach in the global economy, Wen warned various world leaders that removing stimulus too early would lead to second dip in the global recession.

Wen also defended China's currency manipulation. Defying the global consensus, Wen said, "I don't think the yuan is undervalued. We oppose countries pointing fingers at each other and even forcing a country to appreciate its currency."

In a floating-exchange rate world, no one forces a currency to appreciate. If people don't want to own it for yield or sound monetary and fiscal policies, it's hard to "force" a currency to rise. You can, however, forcibly depreciate your currency by selling it and buying others. And that's exactly what China's been doing for years.

To be fair, China's currency manipulation is a form of economic stimulus. By pegging, or linking, it's currency to the U.S. Dollar, China engages in a kind of perpetual devaluation. It preserves the price competitiveness of Chinese exporters. And more importantly for China's economy, a humming export engine keeps employment high, achieving the primary goal of political stability.

But there is no doubt that China's currency policy is costing jobs in the Western world.

In the meantime, deleveraging activities of the household and the private sectors in the Western world, along with Euro weakness, are increasing the demand for the dollar. While these trends can see-saw a bit, these currencies are moving relative to one another, however relative to gold and other tangible things, all of them will lose value. The U.S. Dollar is bad. But it is less bad than the Euro at the moment.

All of this currency movement is adding to the tension between an already tense U.S. & China relationship and essentially goading the U.S. Congress to take some action.

As the banker to the U.S. (meaning the largest buyer of U.S. debt), many suggest it is best to not irritate the banker as they may stop lending money to the U.S. If China were to stop buying U.S. debt, yields on the 10 year note would take off like a rocket causing runaway inflation, and that would be bad, very bad!

I favor a quote from Steve Forbes. Forbes says that pursuing additional financial education and the resulting increase in our financial literacy (including the interaction of the currency and debt markets) will open our eyes to alternative wealth creating strategies and this will be they key to resolving our financial crisis.

To gain the necessary financial education, it is best to obtain association with, access to, and membership in a wealth creation community. As a result, you will obtain examples of alternative wealth creating strategies such as debt reduction, asset protection, and wealth acceleration with investments in items such as precious metals, water rights, oil, natural gas, potash mines, food commodities, or gold mines … perhaps investments in energy assets that are inherently useful like oil rigs, hydropower, or methanol plants … things hard to build, difficult to replace, and costly to substitute … definitely not financial stocks, definitely not retail stocks, definitely not commercial property.

I trust this article provides a little more insight into the global economy, why we have mutually dependent economies, and serious unintended consequences that are brewing as a result of TARP and Economic Stimulus. As China becomes more assertive on the global stage, they feel they have little to learn from the rich nations of the West, since they widely believe the financial crisis was caused by a blow-up of the Western World’s financial system.

It is wise to monitor world affairs and consider alternative wealth creating strategies. I will provide updates in future articles and at my blog over the next few weeks.