Chinese Yuan: Next World Reserve Currency?

Good day… And a Wonderful Wacky Wednesday to you! Why Wacky? Well… The dollar rally that I told you was merely a correction of the too far, too fast moves in currencies, and precious metals, is over… And over in a BIG WAY! We’re right back to the lofty levels we saw on Friday morning… So, your two days of opportunity to buy currencies and precious metals at cheaper levels is now in the rearview mirror.

I told you yesterday, that I thought the FOMC meeting minutes would put to bed all the naysayers’ thoughts that the FOMC was NOT going to implement a new round of quantitative easing (QE)… And that’s exactly what happened. So, once the meeting minutes showed that the Fed Heads were prepared to implement QE “before long” – and since after that meeting we had the disappointing Jobs Jamboree – the writing was on the wall for more QE, and this time, the naysayers had no terra firma to stand on.

Now… I was at home, resting, when I saw an email from a news outlet, asking me for an explanation… They wanted to know why gold was not moving higher after the FOMC minutes… It was puzzling to me then, but not now… The timing was so late in the trading day, that many a book had been squared. But once Asia saw the FOMC news, the selling of the dollar began in earnest, and dollar weakness is just what the doctor ordered for a stronger gold price.

So… What about these “lofty levels”? Well… The Aussie dollar (AUD) has seen the light of 99-cents overnight, the Canadian dollar/loonie (CAD) is well on its way to parity, and the euro (EUR) was 1.3990, when I came in… And gold? How does $1,360 sound? That’s what I thought!

The Chinese renminbi (CNY) was “fixed” by the government at the lowest level since the peg to the dollar was removed in July 2005… At that time the move by the renminbi was 2%, last night the Chinese government allowed the renminbi to gain almost 1%! WOW!

The renminbi has gained 2% versus the dollar in the past two months, or since the Chinese announced that they would begin to allow greater flexibility in the renminbi. But, I guess that’s not fast enough for the lawmakers and government of the US… You see, the lawmakers have passed (the House) measures to add tariffs on Chinese imports, and the government just keeps harping again and again that China’s currency level is the root of our problems here in the US.

I had a back and forth with a reader yesterday on this… Our trade deficit will only see a marginal improvement from a stronger renminbi, because, as I told the reader, there will always be another low cost provider to take up the slack. And the US consumer will continue to buy it! The trade deficit is only a part of our deficit problem, folks… The budget deficit is the 800 lb gorilla in the corner, with the 1-ton dragon of unfunded liabilities in the next room… And no amount of strengthening of the renminbi versus the dollar is going to change that!

OK… The Aussie dollar has slipped a bit from the 99-cent level this morning, but not much, and so I’m going to refer to it as being at 99-cents! Australia saw a nice rise in their consumer confidence report going to a positive +3.3% rise from a negative -5% the previous month! Adding to that good data were upbeat comments from a Reserve Bank of Australia (RBA) member (McKibbin)…

This evening, we’ll see retail sales data from New Zealand, which should give us an indication of the direction of interest rates at the next Reserve Bank of New Zealand (RBNZ) meeting. The thoughts in the markets are that the RBNZ is ready to hike rates again… The question is when…

In Switzerland – where the franc (CHF) continues to gain versus the dollar, moving to a $1.0455 level this morning – the latest data there shows that deflation has slipped back into their economy… But at this point, there’s noting the Swiss National Bank (SNB) can do, but watch the franc gain, almost daily, versus the dollar!

Here in the US the data cupboard is bare, and so the markets will get to let the FOMC meeting minutes sink in further today… Big Ben Bernanke will be speaking in Pittsburgh, but I doubt he’ll comment on the FOMC meeting minutes, saving any comment on that for his appearance in Boston later this week…

Any time I see something on line from Niall Ferguson, I stop to read it… Sort of like the old E.F. Hutton commercials… (Sorry youngsters, you have no idea what I’m talking about!) Mr. Ferguson made a statement about the so-called “currency wars” and said that the “Group of 20 leaders meeting next month ought to discuss a plan to strengthen undervalued currencies, similar to the Plaza Accord in 1985.”

Hmmm… Let’s go back to 1985… Back in 1985, the current account deficit in the US reached 2.5% of GDP… And the Finance Ministers all around the world were having cows! They thought the sky was going to fall because the US current account deficit was 2.5% of GDP!

So, these Finance Ministers all met in NY at the Plaza Hotel, and decided that the US dollar was too strong, and the coordinated effort to weaken the dollar began, and went on for over 10 years! But imagine for a minute, these guys were certain that the sky was falling on them with the US current account deficit at 2.5% of GDP… I wonder what they would have said a couple of years ago, when the deficit was over 6% of GDP?

The current account deficit remains at 4.5% of GDP, and the CBO has stated that they believe the deficit will remain at 4.5% of GDP for the next 10 years! Whoa there partner! 4.5% of GDP is the level that historically indicated that the country owning such a deficit was going to experience a currency crisis… Well, the US hit 4.5% of GDP in 2001… And here we are, almost 10 years later, and the dollar is still trying to dig itself out of a hole… And all the while, the US leaders are determined to push the dollar lower… Oh! You don’t think that’s true? Well, then explain to me what the government is doing when they say they want the Chinese renminbi stronger versus the dollar?

And regarding the G-20, I just love how the Chinese responded to the call by Niall Ferguson by saying, “China is striving to avoid a currency war. We are doing our best to avoid that. But it requires efforts of all the G-20 members, not China alone.”

Yesterday, I talked to you about how China was gaining a wider acceptance of their currency and removing the dollar from trading agreements… Well, Ty showed me a story from The Wall Street Journal about how Turkey and China had signed a trade agreement that would, from now on, only use their currencies in the trade, thus excluding the dollar.

Let’s see now… China has signed up almost all of Asia, Belarus, Argentina, Brazil and now Turkey… All of these countries only use their currencies in trade, and no longer need dollars…

Let me make certain that you understand what’s happening, folks… The Chinese are taking steps to become the next reserve currency… And when that happens, things here in the US will change drastically… Just ask anyone who lived in the UK after WWII, when the sterling was no longer the world’s reserve currency… Don’t blame the Chinese, either… The Chinese are only doing this to protect themselves from all their exposure to the dollar. The US has brought this on with all its deficit spending. And you could sprinkle in protectionism measures and a host of other things that have built up against the dollar in the past decade, like bubbles, corporate scandals, etc.

In Germany this morning, the euro is back to gaining versus the dollar again, and some of that gain is coming from some words from European Central Bank member Axel Weber who said that the, “Central bank should stop its bond-purchase program. The risk of exiting too late is greater than the danger of exiting too early.”

I agree! This namby-pamby baby step of removing stimulus is doing nothing but creating financial institutions that get “hooked” on the stimulus, and then don’t believe they can go on without it… The central banks have become the “pusher” of the stimulus drug… And no central bank has provided the stimulus drug like the Fed/Cartel…

OK… Enough of that! I saw a funny cartoon yesterday; I hope I can explain it to you…

There are two men, one man has a rubber stamp in his hand, and he’s stamping away at foreclosure documents. The other man says, “Hey, you can’t just rubber stamp those foreclosures.” And the man doing the stamping says, “Why not? That’s how they were approved in the first place”

Oh! And one more thing about the Ronald Reagan quote I gave you yesterday regarding spending like drunken sailors… That’s unfair to drunken sailors… At least a drunken sailor has enough sense to stop spending when he runs out of money…. As opposed to the US government!

To recap… The dollar strength for the past three days is over, with the currencies and precious metals rally strongly on the FOMC meeting minutes, that put to bed any thoughts that the FOMC is not going to implement another round of quantitative easing. Australia had a nice consumer confidence report that has helped fuel the Aussie dollar’s rise to 99-cents, and we took a trip back to 1985!

Chuck Butler

for The Daily Reckoning

The Daily Reckoning