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Dollar’s Fate Hinges on Trump’s China Policy

NewsMax  |  Hans Parisis

US dollar versus China Yuan

With 2017 only a couple of trading days away, one of the big questions for long-term investors is “Who will buy the dollar next year?”

Technically spoken it’s clear that the dollar is overvalued against the other reserve currencies of the world.

According to data of the OECD, the dollar is overvalued by 20 percent against the euro, by about 15 percent against the British pound and by about 10 percent against the Japanese yen.

As for now, it is still impossible the obtain a solid estimation of the purchasing parity parity (PPP) value of the Chinese yuan, which is the 5th currency of the International Monetary Fund’s basket of reserve currency and as it continuous to depreciate against the dollar and by the way it just hit its lowest value against the dollar since it dropped its de-facto peg to the dollar in 2010 and is now closing in on the 7 yuan per dollar, what we could call the line in the sand for further yuan weakness, for not saying crossing the line for going into a free fall.

Maybe it could be helpful to keep in mind that since the 3rd plenum in November 2013, China’s net holdings of US Treasurys have declined by 12 percent or $159 billion and that this downward trend even picked up in Q3 of this year. The latest Treasury International Capital System (“TICS”) data show that Chinese holdings of U.S. Treasurys have fallen by $83.8 billion, which is about 6.7 percent of its net position and that only since the end of June to the end of September.

If Chine is obliged to continue to intervene in the FX markets to prevent the yuan from collapsing, and that intervention is expected to continue, and if the U.S. dollar as well as U.S. yields continue to rise (never forget that higher yields mean lower bond prices) then it is highly probable that will see the downward trend in holding U.S. Treasuries to continue into 2017.

For all investors this is important. Let’s not overlook the fact that in 1994 when Bill Clinton was President, China was designated as a currency manipulator. At that time, new law required Treasury officials to develop 3 criteria to decide if countries are being unfair, including a disproportionate trade surplus with the U.S. and sizable purchases of foreign assets as a result of currency intervention. Now, in its latest report to Congress, dated October 14, 2016, of the U.S. Treasury on “Foreign Exchange Policies of Major Trading Partners of the U.S.”

China was found to comply with only 1 of the 3 criteria that were set out in 1994.

In simple words that means that Mr. Trump knows very well how China behaves as far as its currency is concerned.

Therefore, it should not be taken lightly when during his campaign, Mr. Trump pledged that he will declare China a currency manipulator on his first day in office.

Yes, all this is very important for all investors because in case President Trump goes through with calling China a currency manipulator there is no doubt that this will complicate the relations between the 2 biggest economies in the world and will strengthen fears that the United States could give preference to a more protectionist attitude. One of the problems with this is that China and the U.S. are each other’s single biggest trading partners.

Calling China a currency manipulator could in the end mean that the U.S. will apply potential penalties on trade coming in from China.

Such a situation would create big uncertainties for investors everywhere on the globe, which could easily drive them to some kind of a wait and see attitude as far as extending their holdings of U.S. dollars and even equities is concerned and that, of course if that would be the case, could cause, first of all, a fall in the value of the dollar.

Notwithstanding that for now, optimism seems to be the only name of the game in town, I would prefer to wait and see for what will happen.

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