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Currency Currents

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Currency Currents

Thu, Apr 3 2008, 11:26 GMT
by Jack Crooks

Black Swan Capital

FX Trading – Surly China isn’t good for the real stuff bubble

This was a comment from Paul Kasriel, Chief Economic Guru at Northern Trust:

“The Chinese Shanghai stock market index fell 34% (not annualized) in the first quarter vs. the previous quarter (see chart below). Couple this with the ‘official’ consumer inflation rate of 8.7% and you have the makings of some potentially surly Olympic hosts if things don’t improve by August. You also have the makings of much slower Chinese GDP growth. So, like the housing ‘containment’ hypothesis, the ‘decoupling’ hypothesis is another beautiful theory likely to be spoiled by some ugly facts.”

Yahoo Interactive: Shanghai Composite 1-year View

Already, analysts are marketing down growth estimates in China.  Heck, a fall to 7-8% GDP across the kingdom looks like an outright recession for the Chinese.  Growth at all costs has been the driver.  But with the cost of raw materials and food soaring, China needs to reign in the build everything fast mentality, which leads to overcapacity in many industries, crimping profits, and wasting costly raw materials.  In a world where global demand is brisk, these problems can be papered over.  But with Western demand waning in a big way, these problems become all too real.

Part and parcel to this problem is China’s inability to properly allocate capital.  Though improvements are being made, and policymakers understand where they need to go, getting there in the current environment isn’t going to be easy. 

The countryside isn’t too happy with their lot—spending an inordinate amount of their relatively paltry total income on keeping food on the table, if they are lucky, now that rice prices are ozone bound and pork prices are still high.  And though city folk income is relatively better, they too are being squeezed by high costs.  And we suspect they aren’t too happy about the stock market falling 34% in the first quarter of this year either, as we know many urbanites are speculators in a big way.

Thus, price controls are now a major part of Beijing’s arsenal to keep the grumbling crowd in check.

But, if we know one thing about price controls, we know this: it ultimately leads to bottle necks and shortages and further inefficient allocation of scarce resources.  Chinese business profits, already squeezed by overcapacity in many key industries could be crying uncle loudly soon—costs and shortages increasing just as the key customer base (the US and Europe) decides to shop less. 

So the point is this, there may be increasingly good fundamental reasons for a pull-back in commodity prices.  And as we’ve pointed out all too often, commodities and the dollar have had a see-saw relationship i.e. as one goes up, the other has tended to go down. 

So, this may represent the other piece of the puzzle to support an above average dollar bounce, besides the fact that so much of the bad news is already in the price of the buck, especially now that Mr. B has dared uttered the R-word.

Jack Crooks
Black Swan Capital

• Black Swan Currency Currents -- 4/2 PDF

Published on  Thu, Apr 3 2008, 11:28 GMT