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Strategies & Market Trends : China Warehouse- More Than Crockery -- Ignore unavailable to you. Want to Upgrade?

To: RealMuLan who wrote (2630)	2/11/2004 12:46:56 PM
From: RealMuLan	Read Replies (1) \| Respond to of 6370

Commentary: What global asset bubbles may have in common William Pesek Jr. Bloomberg News Wednesday, February 11, 2004 Globalization is globalizing the Federal Reserve. It has 12 districts and takes action based on U.S. events, but its influence has never been greater. It isn't far-fetched to think of Latin America as the 13th district, Southeast Asia as the 14th, Russia the 15th, China the 16th, and so on. Perhaps it's not surprising, then, that some observers are blaming the Fed for problems in one of its de facto satellite districts. China, Asia's second-largest economy, is experiencing a dangerous asset bubble, one that is making investors antsy. It seems a reach to blame the Fed chairman, Alan Greenspan, and his colleagues in Washington. After all, Asia is not a huge blip on the Fed's radar screen these days. The Fed also has taken its share of blame for the U.S. bubble of the late 1990s. But the U.S. central bank's global reach is being felt across the Pacific. "The Fed commitment to keeping interest rates low for a considerable period of time fueled speculation in high-risk assets," says Andy Xie, the Hong Kong-based chief economist at Morgan Stanley Asia. "The byproducts of this speculation," Xie says, "are the wealth effect on consumption in the U.S. and the cheap-capital-fueled investment boom in China - the twin engines or bubbles, depending on your perspective, for the global economy today." The cycle, Xie says, will end with either the Fed reversing its policy or with a financial accident caused by the leverage building up in high-risk assets around the world. "History would not be kind to the Fed," Xie says. "Its accommodation and even encouragement of speculative excesses would be viewed as the primary cause of the massive bubble in the global economy today, the consequences of which are yet to show." The Fed's culpability is debatable. What's not is that speculative capital flows into Asia reached a record high last year, surpassing the previous peak in 1996. The big recipients of capital in 1996 were Hong Kong, South Korea and Southeast Asia. This time, it's China. Just like the capital-flow destinations of the 1990s, China is experiencing an investment bubble. In 2003, East Asia's foreign-exchange reserves rose by $234 billion more than the region's trade surpluses. That compares with an average of $26 billion in the 1990s and $8.3 billion in the 1980s. China and Japan were the main capital recipients in Asia last year. The increase began in 2001, when the Fed cut interest rates aggressively to strengthen U.S. growth. Like clockwork, China's foreign-exchange reserves rose by more than its trade surplus for the first time since 1996. The inflows picked up speed and reached record levels last year. What can be done about all this? China needs to tighten capital controls to slow the inflow, Xie argues. Such a step would be anathema to free-market purists and to the Group of 7 nations, which last weekend renewed its call for flexible exchange rates. But the longer Beijing allows such rapid inflows of speculative capital, the more difficult it will be to avoid a financial crisis. Xie's views are contrarian, indeed, but it's hard to dismiss them. The vast majority of world leaders, economists and investors think China's currency is undervalued and that Beijing should let it rise. That was certainly the thrust of the G-7's latest communiqué. But "the appreciation of China's currency, which many advocate as the main means to cool the bubble, would only encourage more speculation, as we saw in Southeast Asia," Xie says. "The resulting bigger bubble would make a hard landing inevitable." China may be presenting economists with a rare throw-away-the-textbooks situation. Established macroeconomic models hold that more exchange-rate flexibility will squeeze some air out of China's bubble and keep the economy from overheating. But freeing the yuan may do exactly the opposite. Beijing has taken steps to cool its economy. The central bank, for example, increased reserve requirements on commercial banks to curb money-supply growth. Higher interest rates in the United States could help temper China's boom. Global investors are looking for hints on the subject when Greenspan testifies in Congress this week. "The massive swings in capital flows into Asia could only be explained by the speculative drives that rise or ebb with some stimulus," Xie says. "The stimulus is usually Fed policy changes." It's unlikely that Greenspan is preoccupied with all this. But those speculating on China's ascent should keep two things in mind. One, the Fed's policy decisions in Washington may have considerable influence on China's outlook. Two, what markets think they know about China's currency policy could be 100 percent wrong. Bloomberg News iht.com