This week, Asian markets were initially energized by China's announcement of a near $600 billion economic stimulus package for its own economy. Although I have never been a fan of government-fueled stimuli, the relative wisdom of the plan hinges on the source of funds the Chinese government decides to utilize. Their best choice would be the country's nearly $2 trillion in foreign reserves, the largest portion of which is held in U.S. Treasury and agency debt. This pile of dollars, which really amounts to no more than a subsidy for U.S. consumers, does nothing to benefit Chinese citizens.
If it does decide to employ this ocean of cash, China will become a net seller of U.S Treasuries just as the U.S. Government itself will be pushing up its issuance of new Treasury bonds into record territory. With two huge sellers and few major buyers (just about every major creditor nation having problems of their own), the Federal Reserve will become the only reliable customer. As a result, not only will the Fed monetize our own economic stimulus packages, but will be forced to provide the same service to the Chinese.
Most economists feel that China will maintain the status quo by borrowing or printing the funds for their own stimulus while continuing to hoard its trillions of existing U.S. dollars. Most also believe that the Chinese will substantially increase their dollar holdings in order to finance America's never-ending string of bailouts and its ballooning Federal deficit, which is soon to pass $1 trillion annually. These optimists are in for a rude awakening.
The Chinese cannot follow such a course without unleashing intolerable inflation at home. Selling down their vast reserves of U.S. debt and using the proceeds for domestic infrastructure projects (or anything else for that matter) is a vastly superior stimulus mechanism than "lending" to Americans so we keep "buying" their products. When Chinese authorities finally figure this out the United States will suffer the consequences.
As they have in the past my critics will cavalierly dismiss this view. However, as the following compilation of some of my 2006 and 2007 television appearances attests, my economic predictions have proved extremely prescient:
However, given recent global stock market and currency volatility, some are questioning the wisdom of my investment strategy. I am confident that the short-term effects suffered by foreign stocks and currencies as a result of financial de-leveraging and losses on bad U.S. debt will prove temporary. If so, my market forecasts will ultimately prove just as accurate as my economic predictions. Those who are currently patting themselves on the back for having had the apparent foresight to stay in U.S. dollars will be singing a different tune when the music stops playing.
Sincerely,
Peter Schiff
President and Chief Global Strategist
Euro Pacific Capital
