A Global Rebalancing Act

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Yesterday I talked about how the US has been able to force-feed inflation on China as a way of “rebalancing” both economies…

Which is Fed-speak for putting the squeeze on China for its unfair currency manipulations of the past decade…

The re-balancing part is about China exporting less to the US, and the US exporting more to China and the rest of the world.

And it’s true; manufacturing in the US is better than it was, though it is nowhere near where it used to be…or needs to be.

The Obama Administration is doing all it can to trot out the best jobs numbers they can find—or invent—in an effort to stay in power.

But the follow up to my point yesterday is that even though the US economy is benefitting from the devalued dollar—at least in the short term—there are other obstacles blocking the path to a full economic recovery.

As I noted, the rebalancing effect has been somewhat muted by inflation in the US, among other factors.

What are some of those other factors?

Well, for one thing, the very fact that the Chinese economy is slowing down means there will be less demand for goods and service, regardless of where they’re made.

The same goes with the Eurozone.  Remember, the Eurozone is in a very tenuous situation; the debt crisis in Greece is not over.

In fact, closer to the truth is that it has just begun; and there is little chance that Greece will actually be able to stick with the austerity plan as agreed. There is an even slimmer chance of the new “replacement debt’ ever being repaid, either.

The Greek debt swap was really just a dog and pony show to attract capital and investment from…the Chinese.

And that brings us to the larger picture in the Eurozone.  The larger economies in the zone are also in danger of defaulting on their sovereign debt.  Countries like Spain and Italy are much too large for any kind of debt swap deal that Greece got…

But the impact of their looming debt problems will be much greater on the Eurozone and the euro itself.

Even before this occurs, however, the Eurozone economic slowdown has a negative impact on the US economy, just as China’s does.

That is the reality of economic globalization…there is never just one effect, but several effects in succession, and sometimes, those effects are unintentional and unforeseen.

The fact is, the US plan to rebalance the US and Chinese economies has quickly become a global rebalancing act, to the great benefit of the US.

That the US has expanded its money supply through two rounds of quantitative easing has not only affected the Chinese economy and the value of the yuan, but other economies and currencies around the world, as well.

As I wrote recently here  in The Gorrie Details, countries like Brazil, Colombia, Thailand and Taiwan have also felt the deep impact of quantitative easing.  The Brazilian real has appreciated against the dollar, leaving the Brazilian economy smarting from a downturn tied directly to the higher prices of Brazilian goods on the world market due to a devalued dollar.

Of course, the price of most commodities on the world market are denominated in US dollars, so the prospect of the US escaping inflation altogether is not realistic, since a devalued dollar means that market prices in dollars will go up.

Another “beneficiary” of quantitative easing has been, of course, the stock market.  The rise and bull run of the stock market from its lows of 6,500 in March of 2009, is directly linked to the Fed’s two rounds of massive liquidity infusion into banks and capital markets.

Once quantitative easing was put into play, the market recovered rapidly.  However, when the 1^st round of QE was over, the market began to flag once more, like a drug addict coming off a high.  Predictably, once QE2 was announced, the market again found its legs and moved ever higher.  Same story between QE2 and Operation Twist.

So now, here we are nearing the end of the first quarter of 2012.  The Dow has hit 13,000 recently, and the Nasdaq 12 year highs…

At the same time, the effects of the QE plans—and the Fed’s Operation Twist--are a mixed bag at best; good in the short term for the US stock market and banks, but recessionary for our trading partners.  Thus, a global slowdown is just as likely as not.

Will the “rebalancing act” that the Fed has put into play continue to work?

The answer is that it will until it no longer does.

What do I mean by that?

I simply mean that whatever the US tries to do to help itself, other nations will react as well.

For example, Japan is trying to keep the value of the yen low for the same reasons. China has announced that it will not allow any further appreciation of the yuan, and Brazil has said that it is now in a currency war with the US.

Currency devaluations can have a deflationary effect and cause economies to contract as prices fall rapidly from one country to the next as each tries to gain temporary trade advantages over competitors.

One major exception to this currency war is the Eurozone.  In that case, the euro is just trying to survive as a viable currency in the face of its massive debt crisis.  In fact, the biggest supporter of the euro is Germany, because even though a relatively stronger euro means fewer exports to China and the US, for Germany, it means more trade for it within the Eurozone…

If the euro was to go away, and Eurozone countries returned to their old, weaker currencies, German trade with its neighbors in Europe would fall very quickly because a German deutschemark would be much stronger than any other European currency.

So the Eurozone’s need for a weak euro is an external trade need, but if it’s too weak, it may not survive.

The US is playing every card it has to spur economic recovery, but it is making the dollar less desirable around the world…

How long will this last?

We shall see.

And those are…The Gorrie Details.

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