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From International Herald Tribune

Commentary: Across Asia, the sound of sharpening knives

By William Pesek Jr. Bloomberg News

Tuesday, December 7, 2004

'Et tu, Indonesia?" It was with this question that the Oxford University economist Brad Setser began a recent report on the U.S. dollar's mounting problems. The question is also appropriate for its global implications.

The reference, of course, is to "Julius Caesar" by William Shakespeare, in which Caesar utters the words "Et tu, Brute?" (Even you, Brutus?) upon learning that his friend is among the assassins stabbing him to death.

No, Indonesia isn't stabbing the United States in the back, regardless of what some in Washington may think, as it considers trimming its holdings of U.S. Treasuries.

Aslim Tadjuddin, deputy governor for monetary policy at Indonesia's central bank, dropped that bombshell in a recent Bloomberg interview.

Indonesia's was merely the latest central bank to suggest that it may sell some U.S. Treasuries if the dollar continues to decline.

Days earlier, Russia's central bank rocked currency markets by suggesting it might switch from dollar-denominated assets to euro assets.

China Business News also raised eyebrows late last month after it reported that Beijing had cut its U.S. debt holdings.

The news shook markets because China, with $174 billion of Treasuries, is the second-biggest holder after Japan. While a Chinese central bank official said the report was "distorted," markets fear the worst.

Taiwan, the third-largest holder of foreign-exchange reserves, had to deny reports that it planned to reduce U.S. debt holdings as the dollar slides. Such a move by the island, which has $57 billion of Treasuries, would surely bolster U.S. debt yields.

Central banks are loathe to confirm that they're dumping Treasuries; the mere announcement will drive down bond prices, forcing them to eat even bigger losses than they have to date.

Regardless of what central bankers here say, however, Asians are increasingly looking to forestall big losses on their U.S. Treasuries holdings.

The real question is, when will Japan join the fray? It is by far the biggest holder of Treasuries among central banks, with about $740 billion.

If Tokyo gets uneasy about the falling dollar pushing up bond yields, officials could pull the plug on the United States. That would probably prompt sales by other nations, especially in Asia.

U.S. Treasury officials could not have been happy with recent comments by Kaoru Yosano, a senior member of the governing Liberal Democratic Party in Japan.

"The Japanese government is going to ask for a strong dollar policy," he said. "If it continues to fall, there would be enormous capital flight from the dollar."

Some currency traders interpreted that as a veiled threat that Tokyo may begin trimming its Treasury holdings. Perhaps markets misunderstood Yosano, yet his remarks evoke an episode seven years ago when such a scenario seemed all too possible.

"Several times in the past, we have been tempted to sell large lots of U.S. Treasuries," Ryutaro Hashimoto, the Japanese prime minister at the time, told an audience in New York in June 1997.

One such moment, Hashimoto said, was during Japan's negotiations with the United States over auto sales.

He also cited occasions when "the exchange rate has suffered extreme movements and the American people have done little but look at domestic issues."

Hashimoto summed things up this way: "We were very tempted on these occasions. However, in terms of fund management, we did not take the most advantageous road."

Japan spent the next few weeks doing damage control, claiming Hashimoto had been misinterpreted.

Yet the inference seemed clear. The prime minister had just come from a Group of 8 meeting in Denver that featured considerable chest-thumping by the United States about its booming economy. Japan's leader was merely reminding Washington that while it had created a robust, highly productive economy, Asian central banks held the deed.

Whether Japan would dump vast amounts of U.S. debt is anyone's guess.

It would be a mistake to ignore the risk, as the Federal Reserve chairman, Alan Greenspan, suggested last month when he said foreign demand for U.S. assets might wane.

Greenspan's worry is that investors are suddenly realizing the U.S. current-account deficit - approaching a record 6 percent of the economy - is a problem. It may make dollar-selling the trade of choice in markets everywhere.

Again, all eyes are on Japan. Its much-hyped economic recovery is losing steam and the yen's rise this year is a growing headwind, with investment banks like Morgan Stanley lowering their forecasts for the dollar.

The bank reduced its June estimate to ¥95 per dollar from ¥115 and cut its year-end 2005 projection to ¥92 from ¥117.

That would undermine not only Japanese growth rates, but also the handful of exporters driving the recovery.

Japan's tolerance for a rising yen is being severely tested. That is especially true amid the perception that the United States now favors a weaker dollar and that the Bush administration seems likely to widen an already record budget deficit.

If Japan turns on U.S. debt, expect Asia's central banks to follow suit. That would slam the U.S. bond market, considering that the U.S. Treasury holdings of China, Hong Kong, Japan, Singapore, South Korea, Taiwan and Thailand total $1.1 trillion.

Debt investors the world over have been wondering if Asia's central banks will pull the rug out from under the U.S. bond market. Such a step may indeed be close at hand.

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There is no way that japan will be the first to move when it comes to dumping dollar assets. Japan is suffering from deflation so they don't care a dot about printing yen and using it to buy dollar denominated treasuries thus keeping the yen weak against the dollar. The japanese are desperate for a bit of inflation.

China on the other hand has a runaway economy with rising inflation partly due to their peg on the dollar which means that they essentially have the US's monetary policy. They can't afford for inflation to rise much further from its current levels, so at some point they will have to change their exchange rate policy. I believe this will begin with a revaluation, followed within a short time by a float within a larger band and against a basket of currencies.

There are also lots of other reasonably sized economies outside the south east asia with central banks that have large dollar reserves (e.g. most of eastern europe). If enough of these banks start selling dollars (most likely to be countries that don't trade much with the US), then that will start the ball rolling, possibly triggering some of the bigger fish to start selling (China, Taiwan, Singapore).

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I believe this will begin with a revaluation, followed within a short time by a float within a larger band and against a basket of currencies.

But China keeps shouting from the roof tops that there will be no revaluation while there is such intense international pressure on them to do so. Good point about Japan btw, I wondered why they were so content to prop up the dollar.

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Japan is suffering from deflation so they don't care a dot about printing yen and using it to buy dollar denominated treasuries thus keeping the yen weak against the dollar.

Japan is the largest holder of T Bonds.

Japan's currency (unlike China's) is not pegged to the dollar.

As the dollar falls the value of Japan's T Bonds falls.

Sooner or later, they are going to start unloading them.

Then, the trouble starts.

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Of course China keeps saying that, we are in a run on the bank situation here i.e. for everybody except Japan, America being the bank. If you think your bank is going bust and you have massive deposits at that bank what do you do? You withdraw your money, but the one thing you don't do is give all other bank customers advance warning of the fact that you will be withdrawing. Because if you do that, by the time you turn up at the bank your deposits will be gone.

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As far as I understand the economics of this, Japan is effectively paying monkey money for the T bonds they have bought. The yen they use for buying T bonds is equivalent to yen that they can print through virtue of being the central bank. So it only cost them the price of the paper the yen are printed on, to acquire the T bonds they hold.

Of course, in any normal situation a central bank can't do this because inflation would go through the roof. But Japan has deflation so they just go on printing = ultra loose monetary policy!

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Guest Charlie The Tramp

Come late spring and they will all be talking about the dollar crisis of 2004.

Who will take over the place of the mighty dollar, I don`t see any rush of volunteers. Lots of talk by the pundits but no answers. Forget about the euro the EC is heading for serious political and economics problems.

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As far as I understand the economics of this, Japan is effectively paying monkey money for the T bonds they have bought. The yen they use for buying T bonds is equivalent to yen that they can print through virtue of being the central bank. So it only cost them the price of the paper the yen are printed on, to acquire the T bonds they hold.

So America is selling T Bonds to Japan every month - and the Japs are paying with yen that is only worth the paper it is printed on. Sounds dodgy to me - sort of thing that triggers a crisis?

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In a normal situation (low inflation) this would lead to massive inflation in Japan. This is has happened several times in the past in European countries. But Japan has DEFLATION. They want inflation so it costs them nothing to have an ultra loose monetary policy. In fact, they WANT more inflation.

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I saw this in the Daily Reckoning, which sums up the weirdness of the Dollar Yen situation:

America is not only a debtor nation, but the biggest debtor nation the world has ever seen. Its overseas liabilities total $3.3 trillion - or 28% of its GDP. No one has ever seen such a pile of debt. And nowhere are US debts stacked higher than in Japan, where poor Mr Asakawa [The Japanese Alan Greenspan] tosses and turns at night - fearful that the whole mountain will fall down at any moment.

So worried is he that he keeps a sort of money seismometer ticking by his bedside, to alert him should the ground beneath him begin to give way. The International Herald Tribune reports:

"This thing wakes me up, it is terrible," Asakawa said as he toyed with a blue plastic portable currency monitor. "After hours," the paper reports, "the wireless device beeps by his bedside whenever the dollar strays beyond a set range."

Again, we stop dead in our tracks and hold our breath. We can scarcely believe it; what a wonderful, madcap world we live in. On one side of the world, 280 million Americans doze happily, apparently unaware that Mr Asakawa could ruin their Christmas at any moment. All he has to do is pick up the phone and utter a single syllable: SELL!

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Japan may well end up selling some of its treasuries but IMO there is no way they are going to be the first big holders of T bonds to start the selling, they have no reason to be: they have a deflationary economy teetering above recession. Selling those T bonds would definitely result in recession and higher deflation. Of all the big holders of T bonds Japan is the most likely to keep on buying. The economies with pegs to the dollar and high inflation are more likely to be the first to dump the dollar.

That currency monitor is more likely to be used to detect sharp rises in the yen so that Japan can rapidly intervene and buy more dollars to weaken the yen!

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It would be an interesting experiment if Japan did the opposite; cranked up the printing presses and bought every dollar-denominated asset on the planet that was for sale. The dollar would grow in value, since there was a willing buyer, and Japan would rapidly reach the position essentially of *owning* the US.

Would that give it useful influence over America in areas of, say, foreign policy, in the same way that Saudi Arabia/OPEC appear to have a very strong say in what the US gets up to?

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  • 442 Brexit, House prices and Summer 2020

    1. 1. Including the effects Brexit, where do you think average UK house prices will be relative to now in June 2020?


      • down 5% +
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      • up 5%



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