Opportunity for China

The following  was posted Jan 10 09 on this web. It appears that China is listening to the first part (how about a deal with Canada? I guess China is still intimidated by USA!!!). I am waiting for the second part .



Economic Crisis and Its Opportunity to China

The economic crisis in the worldwide economies provides a great opportunity to China. First of all, China should use this opportunity to add its strategic oil reserve to take advantage of the current oil price drop. More importantly, China should establish new strategic reserves immediately of other metal materials like copper and aluminum.  The prices of many raw materials like these metals have dropped by more than half from their peak due to concerns in worldwide economic slowdown. In addition, China can use this opportunity to sign long term supply contracts with corporations in Australia, Brazil, Canada,  and Russia. These economies have suffered at the moment due to drops in the prices of raw materials. Such contracts will be mutually benefited.  China gains not only in the price front but also in the diplomacy, which will benefit China in its long term relationships with these countries, especially Russia and Brazil.   

Secondly, the Chinese government should use this opportunity to reallocate its foreign reserves away from the US dollar and the dollar denominated assets like T-bills.  The crisis has created a price bubble in the T-bill markets pushing the yields of T-bills to the historical low level. Such a bubble will burst as the equity market is finally stabilized, which can be expected in three to six months.  The price performance of this last week in the T-bill markets shows that this bubble may burst sooner rather than later. The Chinese foreign reserve will suffer in a great deal by then, if without any action now.  

Where to invest the reserves then? China should get into the US corporate bond market or purchase the preferred stocks. The US corporate bond market has dried up pushing the yields high.  Even though majority US corporations are suffering at the moment, the big picture is not going to change any time soon. As the worldwide economy recovers later,  major corporations in USA will still dominate the world economy.  At the same time, China should diversity its reserves into currencies like Brazilian real, Canadian and Australian dollars, (except Russian Ruble), and their denominated assets.  These currencies have depreciated against the US dollar by about 20% or more since the last July.   The rebound in dollar should be a short term phenomenon because the US budget deficit is not going to improve anytime soon.  Once the equity market recovers in these economies, fund will flow into these markets once again. By that time, the dollar should follow its modest depreciation path again.  The weakness of the dollar the last six weeks starting in the middle of November 08 has signaled that some funds start to move away from the USA.  

Domestically, China should use this crisis to have a major structural change in its economy toward to a more sustainable and energy-efficient one.  To do so, the governments should use taxes rather than spending as a major fiscal policy. While an increase in the government spending has an immediate effect on the real economy, it will not do much better in terms of structural change of the economy  than a favorite tax policy. In China, local and central governments have controlled so much wealth as a whole. This creates a big government, which has been shown in Economics to have a detrimental effect for its  long run growth of an economy.  Moreover, a big government also encourages corruption. By cutting taxes, personal or corporate, the government redistributes the wealth to the public. This will induce higher personal consumption. It is in principle wrong to have governments spend the wealth created by people. Wealth created by people should be earned by people.