Why Currency Matters (FXI, TBT, TLT, UUP, FXP)

Jim Trippon: The rhetoric has been rising on both sides of the debate on the currency bill which will soon be voted on in Congress, a bill which allow for sanctions against countries which have artificially low currencies. The bill is widely seen as targeting China, as the US has maintained for some time China has kept its currency very undervalued to enhance its export trade. The bill if passed could lead to tariffs imposed on Chinese goods which the US imports.

100 Yuan (new)

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The US Senate voted last week to allow debate on the proposed legislation the Currency Exchange Rate Oversight Reform Act of 2011. Provisions in the bill would require the US Treasury Department to determine whether China is manipulating its currency, the renminbi. If the subsequent determination would be that China is deemed to be manipulating the renminbi, the Commerce Department would order taxes on Chinese goods.

Blame And Delay

President Barack Obama said that China had been “gaming” the system on trade to its advantage and pointed out that China has kept its currency deliberately weak. Obama, however, also expressed caution on the currency bill, saying there was no point in passing symbolic legislation that wouldn’t be upheld by the World Trade Organization. He also said that any remedies had to be “tools that can actually work.” The comments by Obama were interpreted by some observers as borne out of having to walk the line of speaking in support of possible sanctions on China trade to appease certain segments of the electorate, notably potential labor supporters in some industrial states, while Obama at the same time stopped short of saying he supported the legislation. This allows the Obama administration still to chart a course in which it could work with China to resolve trade differences. More pragmatically, it would be unwise for Obama to throw down the gauntlet to China and possibly face off in an open trade war as some predict would happen.

Strongly critical of the bill was House Speaker John Boehner (R-Ohio), who called it “wrong and dangerous,” and that its passage could risk starting a trade war. Some supporters of the legislation insisted the US is in a trade war already with China, one it’s already losing. Beijing weighed in firmly with its voice on the legislation, stating that there would be “serious repercussions,” according to an AP story. China’s Foreign Ministry and Commerce Ministry have both issued statements against the bill.

China’s Take

China’s (NYSE:FXI) position is that it has acknowledged that the yuan has been undervalued and China has been changing the way it’s managing its currency, in an attempt to allow for gradual appreciation of the yuan. In an AP article, Chinese Foreign Ministry spokesman Ma Zhaoxu said that China had been allowing the yuan to rise in value, and that the Chinese currency had gained 7 percent against the US dollar in the last 16 months. Ma also was quoted in the article as saying that the legislation “seriously disturbed” China US economic and trade relations, and that it violated WTO rules.

Currency Managing Or Manipulating?

In a CNN Money piece, Paul LaMonica pointed out that the US has been aggressively devaluing its own dollar via monetary and fiscal policies. This includes notably the two rounds of massive quantitative easing as well as the recently begun Operation Twist. One could add the several years’ of keeping interest rates low. LaMonica points out that China should allow the yuan to trade “more freely,” but that US policy on the dollar has been manipulative as well.

Chinese Yuan To US Dollar, one year chart

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LaMonica points out that the yuan is hardly weak, as it’s actually risen against the dollar (NYSE:UUP) in the last year. Also, the wisdom of starting a trade war with China, which holds approximately $1.2 trillion in US Treasurys hardly seems apparent. The US trade deficit with China as of 2010 was $278 billion, so again, the strategy of pursuing or allowing a trade war with China or a currency war will hardly protect American jobs or boost America’s sagging economy.

LaMonica and others have pointed out that all countries attempt to manage or manipulate their currency. Japan and Switzerland have attempted to stem the tide of the value of the yen and the Swiss franc, which have risen to overheated levels. The US’ multiple decades of low interest rates which had fueled the long bull market in bonds and stocks have also led to a weakened dollar, a strategy which allows for goods to be imported with ultimately cheaper wholesale and consumer prices. The price the US has paid for this has been its massive trade deficit. No one is sure what the consequences of levying tariffs on China for its supposed currency transgressions, but it’s hard to see the US as a winner in this.

A Different Tack

The increase by US corporations in doing business in China is one way of recovering strength for the American economy. Another way is to deal with the Chinese currency situation with persuasion and continue to work with China to resolve these issues. These are not simple problems that are going to disappear because of the passing of legislation, should the legislation even pass. The reality of the situation calls for pragmatic solutions which won’t deflect the US from its real and more extensive economic problems. In that area, the US shouldn’t look to China but should instead look within.

Written By Jim Trippon From Global Profits Alert

Jim Trippon, founder of Trippon Financial Media, Inc., is a maverick that has dedicated his investment career to helping investors make smarter financial and stock selection decisions. Trippon, an internationally recognized expert on global and value investing, has a deep passion for finding hidden value in global equity markets. Trippon started his career as a financial statement examiner with Price Waterhouse which allows him to dissect a public company’s financial picture and better identify hidden gems. Trippon’s savvy approach to investing and personal finance makes him in high demand by major media who seek his unique perspective on stocks and global economics. He has been featured in top publications both in the US and abroad including Bloomberg, Investor’s Business Daily, The New York Times, The International Herald Tribune, Stock Futures and Options Magazine, The Bull and Bear Financial Report and he regularly appears on broadcast television including as an on air contributor to CNBC, CNN, Fox Business, and Fox News.

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