DIR Return Create A Forum - Home
---------------------------------------------------------
profxvictory
HTML https://profxvictory.createaforum.com
---------------------------------------------------------
*****************************************************
DIR Return to: Global News
*****************************************************
#Post#: 250--------------------------------------------------
BIS Quarterly Report Shows China's Swap Lines Misunderstood
By: Marc Chandler Date: December 8, 2014, 10:20 pm
---------------------------------------------------------
HTML http://4.bp.blogspot.com/-lRaWZkBuDls/VIWeHNZOF4I/AAAAAAAAOl8/gcrxA0rIU_A/s1600/china%2Bmisunderstands.jpg
The quarterly report by the Bank for International Settlements
does not say it in so many words, but its warning of possible
currency and funding mismatches illustrates why the much
ballyhooed Chinese swap lines are misunderstood.
Recall that during worst of the Great Financial Crisis in
2008-2009, there was no G7 currency intervention. Instead,
officials recognized the main problem was not foreign exchange
prices per se, but the access to dollar funding. The Federal
Reserve responded accordingly and established currency swap
lines with a several countries, to make dollar funding
available, through national central banks. These swap lines
were used to varying degrees. The swap lines for the ECB, BOJ,
BOE, BOC, and SNB were converted into permanent structures of
the global architecture in the form of standby agreements at the
end of 2013. Although the swap lines, and now standby
agreements, were bilateral, the US never used the facility.
Chinese officials saw the US swap lines and erroneously thought
this was part of the US efforts to reimpose a dollar-centric
order. They responded by extending their own network of
currency swap agreements. Barring a single exception, they have
not been drawn upon. Yet, it has not prevented observers from
claiming they represent the internationalization of the yuan.
In the BIS quarterly report released over the weekend,
officials warn that a continued appreciation of the dollar will
squeeze many corporations from emerging market economies. There
are two channels by which this will happen. First, many of
these businesses issued bonds denominated in foreign currencies,
especially US dollars. The BIS estimates such entities had
issued $2.6 trillion of such obligations, of which
three-quarters were denominated in US dollars. Second,
international banks have lent about $3.1 trillion as of
mid-2014, mainly in dollars. to such companies.
Borio, the head of the monetary and economic department of the
BIS, was quoted on the news wires saying that "Should the US
dollar, the dominant international currency, continue its
ascent, this could expose currency and funding mismatches by
raising debt burdens. The corresponding tightening of financial
conditions could only worsen once interest rates in the US
normalize."
Moreover, an increase in foreign currency borrowing proceeded
the Latin American debt crisis of the late 1970s and early
1980s. It presaged Mexico's Tequila Crisis in 1994-1995. An
increase in hard currency borrowing also took place in the
run-up to the Asian financial crisis in 1997-1998.
According to the BIS data, overseas lending rose by 400 bln in
Q2 2014 to surpass $30 trillion. The 1.2% increase in the year
from mid-2013 was the first increase since the late-2011. Far
from being part of the solution (through the
internationalization of the yuan), China is part of the problem.
BIS figures indicate that outstanding loans by international
banks to Chinese businesses doubled in the 18 months to mid-2014
to $1.1 trillion.
The low level of US interest rates, and the dirty peg that keeps
the yuan shadowing the US dollar, made it attractive for Chinese
companies to borrow dollars. The currency mismatch may not be
as large as it is for companies from other emerging market
economies with a freer exchange rate regime. However, the 3.8%
dollar appreciation of against the yuan in first four months of
this year was sufficient to wipe out more than a year of the
interest rate savings. Even now, the dollar is about 2% higher
against the yuan than it began the year. The difference between
the US and China's prime rate is about 225 bp annualized.
The fact that fixed exchange regimes have largely been
jettisoned (with the notable exception of Hong Kong and OPEC
countries), the risk of a repeat of the earlier emerging market
crises are perceived to have lessened. The more flexibly
currency regime does not prevent the kind of currency mismatch
that has led to past crises. It is true that many emerging
market economies have amassed large reserves of hard currencies.
These reserves can be employed to resist a currency decline or
address a market imbalance. Precisely how they can be used for
a private sector currency or funding mismatch is less
immediately clear.
What the various crises over the past 40 years or so have in
common is a currency or maturity mismatch that was accelerated
just prior to the onset of the crisis. The low US interest
rates relative to domestic rates available in emerging market
economies, and the depreciation of the dollar, which was widely
seen in structural rather the cyclical terms, encouraged such
behavior. It worked until the dollar and US interest rates
rose.
Many observers put the onus on the Federal Reserve. When it
eased policy using orthodox, and then unorthodox, policies to
avoid a harder downturn, critics say it should not have done so.
It was exporting deflation. As it prepared investors for the
end of its unorthodox measures, some have complained the US is
exporting inflation.
The Federal Reserve is not the central bank for the world, but
of the United States. Still, it recognizes its importance. It
had revealed its intentions to investors months before it was
going to slow its asset purchases. It even waited a few months
after it had appeared to signal the beginning of its tapering.
It has been warning investors since the beginning of the year
that for after unspecified “considerable period” upon the
conclusion of its asset purchases, it would raise US interest
rates. The clearest signal from the Fed’s leadership is that
this process will likely begin around the middle of next year.
Of course, it is dependent on the data but barring a significant
surprise, those with potential funding or currency mismatches,
have as much warning as can reasonably be expected that
short-term US interest rates will rise.
Meanwhile, China’s yuan swap lines go unused. The yuan may be a
lot of things, but it is not an international funding currency.
Marc Chandler
Marc to Market
www.marctomarket.com
*****************************************************