New Economic Order:New Economic Order: China, US Dollar & the G20 China, US Dollar & the G20

Game PerspectivesGame Perspectives Patrick McNuttPatrick McNutt

Web: Web: www.patrickmcnutt.comBlog: www.mcnutt.tm.mbs.ac.ukBlog: www.mcnutt.tm.mbs.ac.uk

The storybook……The storybook……

• The world economy is now enduring a signalling cycle that probably began in the US on March 12th 2007 and it

will continue to oscillate until either a market equilibrium (= continued recession with global

imbalances on trade and currency fluctuations) or a co-ordinated equilibrium is reached. The latter could be

achieved initially at the G-20 Summits if a managed exchange rate regime was on the agenda and a loud unambiguous signal transmitted to the international

investment and financial community, with escape clauses, of a managed regime 2010 to 2012. It’s the best

governments can do given the uncertainty in the world financial markets.

Why a signalling cycle?Why a signalling cycle?

• Financial and economic variables create cyclical patterns (CTL)

• Government policy is necessary but not sufficient

• Government policy is ‘signalled’• Economic policy depends on

policymaker’s commitment (PLT) • Signalling recognises that our economic

system is dynamic

Paradigm shift

EMs & ASLEEP economies to account for 50% World trade and 30% World exports by 2015

50% of World’s equity is now outside the US: Shanghai Composite correlates with S&P500.

US depends on Chinese credit; China has $790b of US debt

Trading blocs: only 25% of ASEAN exports go outside the trading bloc

Chinese exports growing by 30% to India, Brazil, Mexico and Indonesia.

Old view……….Old view……….

Other economies

National growth

Nationalcompanies

National markets

C + G

Signals to Observe in 2010Signals to Observe in 2010

• S&P 500: 40% of revenues from foreign sales• Exponential growth in FDI to EMs and ASLEEP. • EMs and ASLEEP economies v Anglo-Saxon &

US• Creative Industry: Transition from non-

technology to technology & innovation sectors.• Corporate Planning: Output ►demand ►income• Capital flows to EMs increasing to approx $700b

in 2010 from $450b in 2008/2009.• China: both PE and FDI in EMs, ASLEEP.

Paradigm Shift occuring……….Paradigm Shift occuring……….

ASLEEP economies

Global growth

Global companies

Global markets

X:Trading Blocs

Less emphasis on a national market (crowding-out): More emphasis on a global market of trading blocs (crowding-in):

GDP = C (M) + X + Corporate Investment/FDI=>Focus on global growthEmphasis products & services with global reach =>Focus on global companies: geography and industryEmphasis on Emerging markets in Asia, Latin America and Eastern Europe & Pacific Rim (ASLEEP)

ASLEEP economies to account for at least 50% of global growth, 30% of world exports by 2015

Real Time Information Flow

China equation: GDP = X + G/Corporate Investment/FDI + C(M)

• China more important source of funds than World Bank in Africa

• China to account for 10% (PPP) World GDP by end of 2010

• FDI in Africa, in Iraqi oilfields, China Unicom + Nitel, ICBC + RSA Standard Bank, China-Singapore Trade Deal 2008, China-Egypt Business Council 2006, Geely Auto

• China’s main stock index now trades p/e = 31: higher by 50% on S&P500.

• Capital inflows to China » either revalue, accumulate reserves or decrease interest rates

Capital flows and FDI

• Capital controls may be increased

• Revalue Yuan/RMB (most likely in Q3 2010 post-G20 in Canada)

• Accumulate reserves (unlikely as China has trillions of US dollars in reserves)

• Decrease interest rates (unlikely due to concerns with domestic inflation)

• Chinese Government RMB-Bonds

Game on….

China and its currency…does it need to revalue by 25%?US focus on export-led growth….will the USD fluctuate?

FED and Bernanke signals high UN at 10% ..unlikely to raise interest rates before Autumn 2010 and USD strengthensMore and more currencies are ‘captive’ in a yoyo

exchange…Euro/USD - Euro weakens/strengthens as USD strengthens/weakens

Critical Time Line

• Identify and verify the signals

• Locate into a pattern

• Observe the pattern: action and reaction

• Define Player A and Player B

• Dark strategy on belief and actions

‘‘Credible threat’ signalling language used……..Credible threat’ signalling language used……..

a) Debt-deflation trade-off

Beggar-my-neighbour deflation, devaluing currency to increase export

competitiveness

b) ‘Credible threat’ policy formulation

Nov 2009: APEC meeting signal on China to allow Yuan.RMB revalue in 2010

Jan 2010: President Obama in State of Union address: importance of exports

Sino-French alliance on global currency: IMF’s SDR substitution account

’

Convoluted debt

Solutions Opportunities

Debt & Financial Complexity

Credible threats

Deflation

1. China CB Governor raises the issue of the role of US $. Diplomatic language ‘lost in translation’

23 Mar 2009

2. G20 London Summit

2 April 2009

3. BW theme of ‘new protectionism’; FT theme of ‘currency misalignment’.

22 June 2009

4 China signal on ‘normal’ Agenda with exchange rates

5 July 2009

5. Italy and France no to ‘normal’

7 July 2009

6. G20 Italy Summit

8 July 2009

7 Signals that China biggest X than Germany

15 July 20098. China US Strategic Econ Summit

28 July 2009

9. Signals on WS ‘bull’ market

31 July 2009

10. Iron ore reaches $100 tonne spot

2 August 2009

11. IMF on Asian need to M. China signals ‘inflation’

17 August 2009

Critical Timeline March - September 2009: US and China

12. G20 Pittsburg Summit

22 Sept 2009

1. At APEC Meetings signal that China will allow Yuan/RMB revalue in 2010.

14 Nov 2009

2. Economic commentators calling for 25% revaluation

20 Dec 2009

3. At AEA Meeting Bernanke on low interest rates

10 Jan 2010

4 Obama State of Union focus on X but silent on exchange rates

1 Feb 2010

5. OECD/MoodyChina Current Account Surplus $328b

8 Feb 2010

6. Obama meets Dali Lama

19 Feb 2010

7 Obama Time Magazine interview and China must revalue ‘over-heating economy’

22 Feb 20108. Chinese commercial banks increase reserves

20 Feb 2010

9. IMF and 4% inflation target and justifying capital controls

20 Feb 2010

10. Signal..we observe

dd.mm.2010

11. Signal.we observe.

dd.mm. 2010

Critical Timeline November 2009 - February 2010: US and China

12. G20 Canada Summit Toronto

26-27 June 2010

Commitment to exchange rate targets 2010-2012 Commitment to exchange rate targets 2010-2012 with escape clauses ….why?with escape clauses ….why?

• Global growth will depend on world exports as domestic demand continues to fall.

• China Yuan/RMB is ‘captive’ to other countries exchange rate policies

• EMs and ASLEEP economies will substitute export-led growth for more G

• Beggar-my-neighbour policies emerge: both US and China cannot rely on export-led growth simultaneously

• China needs to increase domestic consumption• China limited on interest rates moves due to capital

inflows

2010

Policy A

2010

Policy B

2010

Policy A

Solution 2010-2012

Managed Exchange rates: US$ and RMB

US X and China M in world rebalance

China controls

inflation & asset bubbles

EMs & ASLEEP

Deflation-Debt

More G and Socialising losses

‘Captive’ exchange rates

Beggar-my-Neighbour policies

2010

Policy B Deflation-Debt

More G and Socialising losses

‘Captive’ exchange rates

Beggar-my-Neighbour policies

Solution 2015

Currency fluctuations

Reflation and taxation

protectionism

devaluation

Managed exchange ratesManaged exchange rates

• Managed exchange rates to ‘manage’ corporate earnings/FDI, Chinese inflation.

• ‘Manages’ protectionist trading blocs with a common currency: GCC, NAFTA, APEC, EU, ASLEEP

• ‘Manages’ the degree of uncertainty in financial markets

• ‘Manages’ Export-led growth v Domestic demand

• ‘Manages’ China, Japan, ASLEEP surpluses v US indebtedness

And in conclusion…..

2010 is time period t

Our prognosis is for time period t+1

Investment Cycle

Private Equity: Prognosis

Global Economic OutlookCreating opportunities

Preamble• Signalling cycle ≠ a business or trade cycle. It arises from non-binding

chat at time period T.• Signalling cycle => a requirement for a new international economic order

in the geo-political space to focus on the redistribution of world trade and income.

THE NEW POTENTIAL (First-best solutions: to dampen or break down the cycle)

• MSCI Emerging Markets Index has risen 75% in 2009. • The EU, US and Asian banks and financial institutions will determine the

length of the cycle via co-ordinated management of global capital flows.• ASLEEP/EMs to account for at least 50% of global growth.• Corporate Investment plans of 3 years for ‘global reach’ in the

ASLEEP/EMs (i) infrastructure projects, (ii) technology and (iii) product and services innovation.

Concluding

• China will signal revaluation in Q3 2010, depending on information on Imports, domestic inflation and FDI and PE.

• Currency fluctuations will continue to depress Q2-Q3 corporate earnings…TNCs (Unilever, P&G, Siemens, Standard Chartered) now receive at least 30% of sales from China, Brazil and India and at least 40-50% if including MENA and 50-60% if including Asia.

• Managed exchange rates or use of SDRs will be on G20 Agenda..Canada [June 2010] or S.Korea [November 2010]

THANK YOU

‘’do not wait for the stream to stop

before crossing it’’