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GlossaryChina’s Deflationary Down Wave
February 9, 2024Note to my readers: I am in Florida to celebrate my wife’s birthday and attend rowing camp. As a result, no post next week unless the sky falls, in which case you will hear from me.
“Right now, you are seeing real China internationalization…mostly because of what the US has done with Russia.”
Jason Bedford, on the podcast, here.
THIS IS NOT INVESTMENT ADVICE. INVESTING IS RISKY, DIFFICULT AND OFTEN PAINFUL. DO YOUR OWN RESEARCH.
China’s Lunar New Year is Saturday. To my Chinese readers, happy Year of the Dragon!
To put together today’s global puzzle, you need to have a read on China. And one of the pieces to China’s puzzle is that they are the only major economy that tries to control their exchange rate. This seemingly arcane policy helps explain both why China is in deflation and also creates significant downward pressure on prices in the rest of the world.
“Currency can be a price or a promise,” then Treasury Secretary Larry Summers said. That was back in 2000. As I recall, I was listening to him speak in a small hall in an ancient Prague building, pastel walls that echoed when you spoke. Ahead of the discussion, I chatted with George Soros—-at the peak of his power, charming and incisive—-in the line for coffee.
I thought about Summers’ comment after my recent chat with Jason Bedford, a friend and perhaps the smartest China analyst I know. Jason enjoys strapping on headphones and plowing through Chinese bank earnings reports…in Chinese. (He wrote an excellent guest post before, here, and you can hear our recent conversation here.)
Among Jason’s observations, he reminded me of a simple fact—while China’s economy is weak, they can’t meaningfully ease monetary policy (print more) because doing so will hurt the RMB and, in Beijing’s eyes, their global standing. By all measures, they should ease. China’s economy is not doing well. Chinese stocks are getting crushed (as you can see below)…

…prices are falling (as you can see below)…

… and this week President Xi (or his minions) swapped out the head of the CSRC (Yi Huiman), which is like sacking the head of the US Securities and Exchange Commission because stocks are in a bear market.
As Summers said, currency can be either a price (determined in the open market by supply and demand) or a promise (whereby the state uses massive resources to try to limit fluctuations in the currency).

All major countries have moved to the “price” model, except China. It isn’t by chance that the yen is trading near 150 versus the dollar and Japan is finally moving out of a 34-year bear market. Weakening the yen boosts domestic inflation (import costs go up), lifts foreign profits of Japanese firms (because foreign currencies rise) and attracts foreign investment (because Japanese assets are “cheap”). China’s policy choice (which is really a geopolitical currency choice) is creating the opposite outcome—-a vicious equity bear market and deflation.
Context and a Framework