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July 25, 2006
What The Dollar Bears Have Been Waiting For
China should increasingly diversify its foreign-exchange reserves to reduce the risk of losses from declines in the dollar, the country's National Bureau of Statistics said...
"The U.S. dollar may continue to weaken, increasing the risks of foreign-exchange losses in our currency reserves,'' the statement said. Speculation that the dollar will fall "also boosts expectations that the yuan will strengthen.'' The bureau didn't provide reasons why it expects the dollar to fall.
Well, beyond the obvious fact that the U.S. current account deficit is pretty large, there are the reasons included in the update in this post. And, of course, there are the simple facts on the ground. From Brad Setser:
Floyd Norris of the New York Times highlights something that was also on my radar screen: a sharp fall off in foreign demand for US treasury bonds. For the first time in years, the US budget deficit is being financed by domestic investors.
Foreign inflows to the US haven’t fallen off, to be sure. But the composition of these inflows has changed. Foreigners are buying more agencies and US corporate debt and fewer Treasuries. First quarter data is here; the TIC data from April and May do not indicate that the story has changed.
And (again from the Bloomberg article):
"Diversification is a continuation of China's reserves management,'' Standard Chartered's Hui said. "There's evidence or suggestions China has been moving gradually away from U.S. dollars into other major currencies, such as the yen or euro.''
There are, of course, the not atypical mixed messages:
[China] should also encourage Chinese companies to invest abroad to curb expectations of a stronger yuan, the bureau today said in a statement on its Web site...
Today's statement came a day after China said it may allow its brokerages to raise hard-currency assets and invest them overseas for the first time As part of the central bank's efforts to encourage capital outflows and reduce pressure on the yuan to rise.
That should give you pause, but if you are looking for a fearless prediction, here it is:
Fund outflows "will be gradually increasing, but they probably won't have an immediate effect in reducing the upside pressure of the yuan,'' [Tai Hui, an economist at Standard Chartered Bank in Hong Kong] said. The Chinese currency may strengthen 3.8 percent to 7.80 to the dollar by the end of this year, he said.
Even at the lower end of that range, I'd declare Nouriel Roubini's 5-percent prediction a winner.
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