Keep your economic eyes peeled

A few days ago I put up a post titled 'The economy - see that red light flashing from the East?'.  More and more red lights are flashing, and not just from the Far East, but from Russia and Europe as well.  The Ukrainian crisis is boiling over into the economic sphere.  Ambrose Evans-Pritchard of the Telegraph reports:

Somebody is selling a fistful of US Treasuries. It could be Russia, or China, Turkey, South Africa, or Indonesia, or all frantically selling bonds at the same time for different reasons.

We don’t yet know. All we know is that the US Federal Reserve’s custody holdings on behalf of foreign central banks plunged by $106bn in the week ending March 12, the biggest one-week drop on record.

Russia’s central bank is undoubtedly liquidating reserves at a breakneck pace to prevent a collapse of the rouble, as foreign companies scramble to get all their spare cash out of Russian accounts before the G7 guillotine comes down on the Putin clan next week.

. . .

One investor told me that clients in Russia are literally loading up cars with computers, machinery, and anything that will fit, and rushing them out of the country for fear that assets will nationalised. Whatever happens, nobody will forget this in a hurry.

Yet the latest financial ructions go beyond Russia, they reek of stress in the international system. “Countries are intervening all over the place to defend their currencies, (which means they are tightening). Their central banks built up huge war chests of reserves for a rainy day, and now it is raining,” said David Bloom, currency chief at HSBC.

Indeed it is. The international order is unravelling. Russia is of course smashing the post-Cold War order by seizing Ukraine, and blowing up the global architecture of nuclear non-proliferation. Let us not forget that Ukraine agreed to give up its nuclear weapons – the world’s third biggest arsenal at the time – in exchange for a guarantee by the great powers in 1994 that its territorial integrity would be upheld. Russia was one of the signatories.

China is laying claim to large parts of the East China and South China Seas, and has established an air identification control zone over the Japanese-controlled Senkaku islands.

China and Japan are one blow – or misjudgement – away from outright military conflict. The battle on the Pacific Rim is ultimately even more dangerous than the West’s clash with Russia over Ukraine.

Whether or not the wheels really are falling off the Chinese economy remains to be seen, but the discussion has crept into the market. You can smell the beginnings of fear.

“The global situation is extremely serious,” Lars Christensen from Danske Bank. “Russia is committing economic suicide, there is a massive corruption scandal in Turkey, and capital outflows from China threaten to have huge ramifications.”

“If the US dollar were to strengthen drastically at this point, we would go straight into a global recession.”

There's more at the link.

All over the world people are rushing to put their money into the only safe havens they see left to them.  Some choose gold and other precious metals, but those aren't readily negotiable in today's economy (although they're undoubtedly a useful long-term store of value).  Most are choosing the US dollar.  This demand, along with the Federal Reserve's 'tapering' policy, is causing the dollar to strengthen . . . but Russia, China and other economies hold so many US securities that if they dump them all on the market at the same time, they may undermine the value of the dollar on foreign exchange markets.  (For example, as of December 2013, China held $1.269 trillion in US securities.)

Such a step has become much more imaginable in the light of international tensions.  Despite its protestations, Russia isn't particularly concerned about its citizens outside its borders.  It's concerned about retaining its security 'buffer zone' (including its naval base in Crimea at Sevastopol) and about retaining control of the gas pipelines through which it supplies a large proportion of European energy needs.  It's willing to do whatever it takes to accomplish those things, and it knows that the West is militarily unable to stop it.  Potential economic sanctions are taken for granted - indeed, it appears that Russia and its oligarchs may have already removed most of their financial assets from Western control.  Expect them to turn to China for future trade and financial transactions - which suits China down to the ground and reduces US influence in and over both nations.

In the light of such developments, and facing its own credit nightmare and economic difficulties, China might decide that it would be easier to deal with its current dispute with Japan (and also conceivably its interests concerning Taiwan) if the US were to be economically crippled - and it holds enough US Treasuries to make sure we become crippled by dumping them all on the market, even though that would be devastating to its own economy in the short term.  China isn't overly concerned about the short term.  It's thinking in terms of long-term 'victory' - economic and otherwise - over powers and nations it's always despised and never trusted.  Xenophobia is rampant there.  Russia isn't much better - see my article last night about Putin's motivations.  Russia and China might think it a good idea to act in unison to overcome their current obstacles by removing the USA from the economic field of play.

Friends, we're on the economic brink, and possibly on the military brink as well.  Don't underestimate the seriousness of the international situation right now.  It's as if dry paper, hay and other tinder has been scattered all around us;  gasoline has been sprinkled over it;  and now you see people putting cigarettes into their mouths, and reaching for lighters.  One spark, and who knows what might happen?

One hopes the diplomats and politicians can stave off anything worse.  We'll just have to wait and see.


Peter