FORECASTS & TRENDS E-LETTER
by Gary D. Halbert
January 24, 2017
1. China Continues to Sell US Treasuries at a Record Pace
2. Significant Decline in China’s Foreign Exchange Reserves
3. Is China a “Currency Manipulator” as Many Claim?
4. The Largest Foreign Holders of US Treasury Debt
5. What to Expect in President Trump’s First 100 Days
China Continues to Sell US Treasuries at a Record Pace
China is selling US Treasuries at a record pace to support its currency, the Chinese yuan (also known as the renminbi), and to stem the flow of money leaving the country. China’s holdings of US Treasuries declined for a sixth straight month in November, as the world’s second largest economy continued to dip into its dollar-denominated reserves to prop- up a weakening yuan.
China’s holdings of US Treasuries declined to $1.049 trillion in November, a drop of about $66 billion, according to data from the US Treasury Department released last week. November’s drop in China’s holdings was the largest since December 2011’s record fall of $102.7 billion.
In continuous selling over the six months through November, China sold $194.66 billion of Treasuries, and over the previous 12 months it sold $215.11 billion. Both figures are records, according to Reuters.
The People’s Bank of China or “PBOC” (the central bank) is intervening in this particular case by selling US Treasuries and buying yuan in an effort to mitigate the downward pressure on their currency. In other words, the PBOC is trying to avoid further weakness in the yuan.
They are very concerned that unless the yuan is stable, there will be a self-perpetuating acceleration of capital outflows, thus weakening the currency further. No one knows exactly how much or how quickly money is leaving China, but anecdotes and financial reports suggest the outflows are significant.
Significant Decline in China’s Foreign Exchange Reserves
The continued selling in Treasuries coincides with China’s declining foreign exchange reserves, which fell in December to the lowest since February 2011 at $3.011 trillion. China’s foreign exchange reserves have shrunk by over one-fourth since the end of 2013. Since that time, over $1 trillion in capital has moved out of China according to the New York Times.
With a smaller pot of reserves, Chinese leaders have less room to maneuver should the economy undergo a sudden shock. The reserves decline also weakens China’s control over the value of the yuan. The drop in reserves could also hurt China’s efforts to raise its global profile, as it doesn’t have as much money to pump into major projects in developing countries.
The dwindling reserves are one of the many factors shaking global investor confidence because of the impact the slide could have on China’s financial system. A number of investors are now betting that China may have to let its currency depreciate even more, rather than dip further into its reserves.
Is China a “Currency Manipulator” as Many Claim?
Candidate and now President Donald Trump was a frequent critic of China for keeping its currency artificially weak. Of all the countries in the world, he said, China is “the best ever at devaluing its currency.”
Yet as discussed above, today China is shoring up its currency while the rest of the world is trying to push it down. That change speaks to an enormous shift in China’s economic fortunes and to its rising position in the world.
Not too long ago, China was still an up-and-coming country looking for ways to nurture an economic boom that was lifting millions of its people out of poverty. As such, there was an economic benefit to devaluing its currency and it did so often.
The chart above illustrates the change in the number of yuan it takes to equal one US dollar over the last five years. The range has been from around 6.10 to 6.96 yuan to the dollar, or a devaluation of apprx. 14% since the end of 2013. The yuan ended last week at 6.88.
Now, however, China’s leaders want us to believe that it will take whatever measures are necessary to keep the yuan steady, if not stronger. China’s president Xi Jinping basically said as much at last week’s World Economic Forum in Davos, Switzerland.
Today, China is a world power with ambitions to call more of the shots in global economic affairs. Beijing is no longer content to cede that role to the likes of Washington, Brussels, London and Tokyo.
With that shift in attitude comes a change in the way China thinks about its money. A decade ago, China saw its currency as merely a tool to help its factories sell goods overseas. That meant keeping the yuan weak.
Now, China sees the yuan as an instrument of its growing power. If more people around the world hold yuan in their wallets, the thinking goes, then China will have greater say in the decisions world leaders make. Someday, Beijing hopes, the yuan may even rival the US dollar as the world’s de-facto reserve currency. With that in mind, China has pledged to make the yuan more appealing.
Last fall, the International Monetary Fund formally added the yuan to its basket of reserve currencies, lumping it in with the dollar, the pound, the euro and the yen. That was a major accomplishment for China.
Yet critics argue that the move was largely symbolic and the yuan does not fully meet IMF reserve currency criteria of being freely usable, or widely used to settle trade or widely traded in financial markets. Obama’s Treasury Secretary Jack Lew said at the time that the yuan was “quite a ways” from true global reserve currency status.
And then there’s Donald Trump who warned repeatedly on the campaign trail that he would formally label China a “currency manipulator” if the Chinese government devalues the yuan further. Trump has warned he would impose tariffs up to 45% on imports from China if they continue to devalue their currency.
This would be very dangerous as it could spark a major trade war with China. Most observers believe that Trump understands these risks and will be hesitant to pursue such tariffs on China and other trading partners. Let’s hope so.
For all these reasons, China’s leaders have more incentive than ever to support their currency. What that means is China will very likely continue to reduce its holdings of US Treasuries. That does not mean, however, trouble for the US. There is plenty of demand for US sovereign debt around the world.
All of which brings us back to the question: Is China dumping US dollars? Yes, China is selling record amounts of US Treasuries. Yet it is doing so in measured amounts to support its currency. In my view, that doesn’t amount to dumping.
The Largest Foreign Holders of US Treasury Debt
Most American believe that China is the largest foreign holder of US Treasury debt. Not true anymore. Last year Japan became the largest foreign holder of US debt at almost $1.2 trillion, followed by China at just under $1.05 trillion.
As you can see in the partial list above, after Japan and China, the amounts of US debt owned by country falls off dramatically. Of the US debt of almost $20 trillion, foreign holdings of Treasuries amount to apprx. $6 trillion according to the Treasury Department.
The top holder of our national debt by far is US citizens and American entities, such as state and local governments, pension funds, mutual funds and the Federal Reserve. Together they own the vast majority — 67.5% — of the debt, while foreign nations only hold 32.5% of the total.
What to Expect in President Trump’s First 100 Days
Many of America’s voters are still stunned that Donald Trump was elected president, and that includes some who voted for him but didn’t think he could win.
As such, American voters on both sides of the political aisle are scrambling to get a handle on what President Trump will try to get done in the weeks and months just ahead. I’m getting this question from lots of friends and business associates (as if I know).
What follows is a quick summary of what President Trump’ highest priorities are likely to be in his first 100 days in office. He will no doubt have plenty of other initiatives he’ll try to get going in the first 100 days.
Obamacare Repeal & Replace
Trump often stated his desire to repeal the Affordable Care Act. In the plan for his first 100 days, he proposed repealing the law and replacing it with health savings accounts. He and the Republican-controlled Congress are in general agreement on this issue.
On January 12, the Senate passed a measure allowing it to pass ACA repeal legislation with a 51-vote majority, rather than the 60-vote majority usually required for important bills. The GOP has 52 seats in the chamber.
While the law might be repealed within the first 100 days, it remains less clear how long parts of the law will remain intact and what the replacement will look like.
Mr. Trump pledged to withdraw the United States from the Trans-Pacific Partnership (TPP), calling it “a potential disaster for our country.” Yesterday he formally withdrew the US from the TPP as promised. He also wants to renegotiate the North American Free Trade Agreement (“NAFTA”).
President Trump also surprised many politicos yesterday by signing an Executive Order freezing hiring at almost all federal government agencies, with the exception of the military and certain public safety departments.
Mr. Trump campaigned on comprehensive tax reform including tax cuts for individuals and corporations, but the details are far from clear. He wants fewer individual tax brackets and the elimination of most tax deductions.
He also wants a special one-time tax cut for corporations to repatriate the trillions in profits that they currently hold outside the US. Of course, all of these tax cuts must be approved by Congress.
Trump maintained all along that border security would be one of his first orders of business. The details of any orders to secure the nation’s border are not known, but Trump made clear time and again on the campaign trail that securing the nation’s border with Mexico is a centerpiece of his agenda.
But before any wall can go up, it will have to go through Congress for approval and appropriations, which will slow the process. Ever since Mr. Trump was elected, I have continually cautioned that it will take longer than he suggests to get his policies enacted.
Included in Trump’s 100-day blueprint is the passage of the American Energy and Infrastructure Act. This legislation is described as a $1 trillion infrastructure investment over the next decade through public-private partnerships and private investments through tax incentives.
This initiative could be one of the few that manages to gain bipartisan support. Senate Minority Leader Chuck Schumer told ABC News that the measure “sounds good to me.” While Trump’s infrastructure plans may enjoy bipartisan support, it will take time to hammer out the details.
As for energy, Trump also pledged to roll back “job killing” energy regulations and declared himself a friend of clean coal. What’s unclear is which restrictions he means to target. This morning President Trump signed Executive Orders to reauthorize the building of the Keystone XL Pipeline and the Dakota Access Pipeline.
These are just the highlights of Trump’s agenda for the first 100 days. There will be many other issues that I expect he will pursue in his first few months in office, including rolling back many cumbersome regulations.
I think we will all be surprised to see the swath of proposals he will seek to advance. How much success he will have remains to be seen. I’m not especially optimistic, especially since many of his proposals require congressional approval.
Very best regards,
Gary D. Halbert
Article by Gary D. Halbert