1. China’s President Hu Jintao visits the United States. This is an official state visit and there will be an official state dinner as President Hu comes to Washington D.C. and then travels to Chicago.
Yesterday, he answered submitted written questions from both the WSJ and WaPo. WSJ question 4: What do you think will be the U.S. dollar's future role in the world? How do you see the issue of making the RMB an international currency? Some think that RMB appreciation may curb China's inflation, what's your view on that?
Here are the salient bullets on the currency:
- The monetary policy of the United States has a major impact on global liquidity and capital flows and therefore, the liquidity of the U.S. dollar should be kept at a reasonable and stable level.
- …making the RMB an international currency will be a fairly long process.
- Changes in exchange rate are a result of multiple factors, including the balance of international payment and market supply and demand.
- In this sense, inflation can hardly be the main factor in determining the exchange rate policy.
The takeaway is straightforward: The Federal Reserve is too easy in its monetary policy and this is creating inflation in China. China has a program to address inflation, but allowing the currency to appreciate significantly is not the central answer to the problem. Like most of EM, China has an inflation problem that requires deft monetary and fiscal response. They are and will be cautious. As long as the US Federal Reserve’s monetary policy remains stimulative and China moves cautiously to tighten, inflation will build throughout the year and bond yields will continue to increase.
2. Euro zone dodges a bullet and puts off key decisions. Last week, we had “successful” auctions in the Euro zone and a strong rally in the Euro currency. The Portuguese auctions were the focal point and they refunded the 10 yr bond at 6.7% which was lower than the last auction in November at 6.8%. At these rates, Portugal will not be able to fund itself for very long as their growth is not strong enough to generate the necessary tax receipts. As the Economist points out, “A public debt ratio in three figures (100% projected for 2015), might be tolerable at 4% or so, but would be too costly to bear at today’s bond yields.”
European finance ministers met yesterday on the future of the European Financial Stability Facility or EFSF. This bank-like entity is set to issue bonds at the end of this month to fund itself and enable it to assist periphery members. The ministers pledged support, but put off difficult decisions on the use and size of the facility until the end of March. Late Q1-early Q2 is the danger time frame I have been warning about for the markets and this will be another reason why it could be trouble.
Today, the UK announced a faster than expected jump in the consumer price index.
The UK CPI rose at 1.0% in December and was the fastest monthly pace since 1996. We know more inflation is coming due to the increase in the UK VAT tax from 17.5% to 20.0% in January. This means that inflation above 4% for Q1 2011 is likely cooked in the books. The Bank of England left it’s monetary policy unchanged last week and will have to write another letter to the UK government explaining why they have allowed inflation to exceed their target. I can’t wait to see wage negotiations in the UK when the retail price inflation is running at 4.8% and will be used as the cost of living gauge. Unlike the EM countries that have growth with inflation, the UK has inflation without much growth.
Today, the British poundjumped in value after the inflation data on the belief that the BOE will act sooner to quell the jump in CPI by raising interest rates. The Bank of England is not the ECB and is alreadly allowing inflation to accelerate. A return of stagflation will be an unwelcome development for the UK, but may be one way to deal with their debts without officially defaulting.
Andrew B. BuschDirector, Global Currency and Public Policy Strategist at BMO Capital Markets, a recognized expert on the world financial markets and how these markets are impacted by political events, and a frequent CNBC contributor. You can comment on his piece and reach him hereand you can follow him on Twitter at http://twitter.com/abusch.