Re: [A-List] Greenspan's remarks

["Henry C.K. Liu" <hliu@xxxxxxxxxxxxxx>]

Greenspan also said:

“With respect to the question (of) large holdings of U.S. Treasuries, 
which both the Chinese Central Bank and Japanese Ministry of Finance 
have accumulated, in an endeavor to suppress rises in their currencies: 
at some point one must presume that they will stop doing that, and 
perhaps even start to sell. The notion that that’s going to have a 
significant impact on the American interest rates I think (is) a little 
overdone in that central banks – indeed all reserves by official 
monetary authorities – tend to be short-term maturities. They have to 
have it for liquidity purposes.

And as you know, the short-term maturity market in dollars is huge, and 
at least for a time, it’s locked into the federal funds rate that we at 
the Fed initiate. I’m not saying that we could keep that locked in and 
that it wouldn’t matter no matter how much goes in (foreign central 
banks sell), but it’s not going to have an immediate effect largely 
because the size of both the private instruments and governing 
instruments in the short end of the market is huge, and it would take a 
great deal to have made a difference.

I’m not saying there will be zero effect, there will be some effect, 
there almost has to be some effect. But those who are concerned that the 
effects are large, because they are thinking of the long-term 30-year 
bonds, or even 10-year notes being sold in huge volume into the market 
having a negative effect: that’s not what we are dealing with.”

In simple language, Greenspan is saying that the ability of central 
banks to dictate to the currency market is very limited, as George Soros 
has found out with the Bank of England. When the JOB buys dollars to 
keep the yen from rising, it is essentially giving money to hedge funds, 
money that Japan earns from its trade surplus.

The Japanese economy began to stagnate in the early 1990s because its 
national goal of export became dysfunctional after the Cold War. The 
introduction of central banking in 1998 reduced Japanese banks to 
financial basketcases in a liberalized financial market, instead of the 
healthy service institutions in support of a national policy of export 
under a national banking regime. Under central banking and a liberalized 
global financial market with floating exchange rates and full 
convertibility, the price to be paid for having trade surpluses 
manifests itself in a rising yen. This in turn causes domestic general 
deflation in Japan.

Japanese policy of keeping the yen's exchange value lower than that 
dictated by market pressure has now become an attempt to eliminate 
domestic deflation. But a below-market yen leads to a larger trade 
surplus in dollars, causing a net shrinkage in the yen money supply, 
thus shrinking the yen asset economy, leaving it with overcapacity and 
making yen assets less valuable. What Japan is doing is investing in the 
dollar economy while disinvesting in the yen economy through its trade 
surplus. This is the real cause of deflation in Japan.

To restore strong economic growth in Japan, deflation needs to be 
stopped. Under a central banking regime, the most straightforward way to 
stop domestic deflation is to force the yen to depreciate in 
foreign-exchange value. But this would go against market forces 
generated by Japan's trade surplus. Yet if Japan keeps the exchange 
value of the yen low merely to sustain its export prowess, it will 
continue to feed domestic deflation. This is because the rate of 
shrinkage of the yen economy from a huge trade surplus denominated in 
foreign currencies, mostly dollars, is greater than the rise in yen 
money supply released by a reluctant central bank.

Domestic deflation can be stopped if there are more yen chasing after 
the same amount of yen assets. But more yen in circulation will lower 
the exchange value of the yen. A low yen in turn will increase Japan's 
trade surplus, which, because it is denominated in foreign currencies, 
mostly dollars, is a mechanism that transforms yen input into dollar 
output, reducing the yen money supply. This reduction of yen money 
supply increases the amount of under- or non-performing yen assets, 
reducing their market value.

Japan's trade surplus contributes to increase in the US dollar money 
supply. Normally this would push down the value of the dollar. But 
dollar hegemony forces the Japanese and other trade-surplus nations, 
such as China, to finance their trade surplus with a capital account 
deficit in favor of the dollar economy. This expands investment in the 
dollar economy and pushes up the price of dollar assets and pushes down 
the price of yen and other non-dollar assets. Thus dollar hegemony keeps 
both the exchange value of the dollar and the price of dollar assets 
high, while other non-dollar economies must choose between a weak 
currency and domestic deflation. China is insulated because the yuan is 
not fully convertible. When the US Treasury allows the dollar to fall 
against the yen, it is in fact condemning Japan to more domestic 
deflation through yen appreciation, if all else remains unchanged. By 
allowing the dollar to fall, the United States is in fact exporting 
deflation.

To stop domestic deflation, Japan not only needs to inject more yen into 
the yen economy but it must also keep the yen in the yen economy by 
reducing its trade surplus without shrinking its economy. This is 
because the trade surplus coupled with a capital account deficit is 
leaking yen into dollars faster than the Bank of Japan (BOJ), the 
central bank, can inject more yen into the yen money supply because of 
the so-called liquidity trap. Thus Japan needs to shift its historical 
national role by changing its investment policy from one of promoting 
ever-increasing export for trade surplus in dollars that are of little 
use to the Japanese yen economy. Japan needs to adopt a new national 
goal of developing and expanding the global economy, particularly the 
Asian economy, from which the relatively overdeveloped Japanese yen 
economy will derive sustainable expansion in tandem.

Henry C.K. Liu

Hudsonmi@aol.com wrote:

> The following remarks of Greenspan show that profits in the foreign 
> exchange markets are NOT made by analytic foresight, but by 
> controlling the markets -- to generate ups and downs, "churning" the 
> markets to make money on derivatives.
> Rather than "serving" foreign traders and investors as shown in the 
> textbooks, the banks and other financial institutions act as predators 
> to make money OFF traders and investors -- who have no reasonable way 
> to make sound decisions. Whereas free-enterprise theory says that 
> speculation "stabilizes" markets, it obviously has become part of a 
> system of destabilization -- in Greenspan's own words.
> Greenspan also chortles that the dollar depreciation has NOT led to 
> rising import prices for Americans. Rather, it has cut into foreign 
> profits, as Europe and Asia have absorbed losses to keep exporting to 
> America.
> This is today's new form of monetary imperialism.
>
>
> Remarks by Chairman Alan Greenspan
> Current account
> Before the Economic Club of New York, New York, New York
> March 2, 2004
> Exchange markets have become so efficient that virtually all relevant 
> information is embedded almost instantaneously in exchange rates to 
> the point that anticipating movements in major currencies is rarely 
> possible. The exceptions to this conclusion are those few cases of 
> successful speculation in which governments have tried and failed to 
> support a particular exchange rate.
> Nonetheless, despite extensive efforts on the part of analysts, to my 
> knowledge, no model projecting directional movements in exchange rates 
> is significantly superior to tossing a coin. I am aware that of the 
> thousands who try, some are quite successful. So are winners of 
> coin-tossing contests. The seeming ability of a number of banking 
> organizations to make consistent profits from foreign exchange trading 
> likely derives not from their insight into future rate changes but 
> from market making.
> Since the start of 2002, the extraordinary purchases by Asian central 
> banks and governments of dollar assets, largely those by Japan and 
> China, have totaled almost $240 billion, all in an apparent attempt to 
> prevent their currencies from rising against the dollar. In 
> particular, total foreign exchange reserves for China reached $420 
> billion in November of last year and for Japan more than $650 billion 
> in December.
> Reflecting the swing from dollar appreciation to dollar depreciation, 
> the dollar prices of goods and services imported into the United 
> States have begun to rise after declining on balance for several 
> years. But the turnaround to date has been moderate and far short of 
> that implied by the exchange rate change. Apparently, foreign 
> exporters have been willing to absorb some of the price decline 
> measured in their own currencies and the consequent squeeze on profit 
> margins it entails in order to hold market share. In fact, given that 
> the nearly 9 percent rise in dollar prices of goods imported from 
> western Europe since the start of 2002 has been far short of the rise 
> in the euro, profit margins of euro-area exporters tothe United States 
> may well have turned negative.
> Vast improvements in information and communication technologies have 
> broadened investors' vision to the point that foreign investment 
> appears less exotic and risky. Accordingly, the trend of declining 
> home bias and expanding international financial intermediation will 
> likely continue. This process has enabled the United States to incur 
> and finance a much larger current account deficit than would have been 
> feasible in earlier decades. It is quite difficult to contemplate 
> foreign savings in an amount equivalent to 5 percent of U.S. GDP being 
> transferred to the United States two or three decades ago.
> At the end of 2002, U.S. dollars accounted for about 65 percent of the 
> foreign exchange reserves of foreign monetary authorities, with the 
> euro second at 19 percent. Approximately half of private cross-border 
> holdings were denominated in dollars, with one-third in euros.
>
> Thanks to Gary for posting Greenspan's speech.
>