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China will float the RMB, and rates will confirm if they succeed.

January 26, 2016

China will float the RMB, and rates will confirm if they succeed.

by Lushfun

As our Fed Funds rate begins to incrementally adjust upwards the pressure on China and RMB will increase exponentially. They ran out of time, which is obvious to all market participants and another decade or even a few years to off-shift from U.S. dollar dependency via creation of RMB demand from without will not occur. Flexibility is gone, there simply is not enough trade balances accreting to create a mechanism for clearance for the RMB at the adequate level to reset the financial system without having shocks. You cannot print money without demand in order to have backing for the financial system that does not clear asset prices and keeps ever larger segments of the economy in stasis for hope of price improvement.

 

The rate push by the Fed is forcing the separation. China cannot have a dichotomy of interest rates implicit in their exchange rate and explicitly set internally for financing. Rates have to move, but they cannot because of refinancing becoming net-present-value destructive. Theoretically if a massive cleanup effort were to occur the amount of trust generated would be sufficient to overcome the belief that any new demand would end up in mal-investments and non-productive, the problem is this had to have happened years ago. As of right now the Yuan simply has to adjust lower while the asset losses accelerate on the financial balance sheets to reflect the increased damage that occurred through holding the line in re-distribution of savings via corporate refinancing in China.

 

 

Nothing here is political. It is simply a reflection of capital that was saved being plowed into assets that are not just worthless but carry a negative cost to both society and other capital by promoting the mis-alignment of interests. Rationalization of savings in the form of loans was corrupted, thus destruction of capital was inevitable. How much capital is destroyed is only going to be decided by how quickly salvageable assets can pass to market participants that can make them productive. This does not mean that those assets will get the best and highest bids by speculators on the way down to realize the margin but by those whom are end-users and would be able to gain the maximum utility of these assets. Ergo the added-value from rationalization would salvage whatever capital was left instead of wiping it out altogether.

Where there is a will there is a way, but there is always a price. Sometimes the price is far higher than one was willing to pay at the beginning. Holding an artificial price for a good be it a currency, oil, or a dozen eggs can only happen for as long as there is sufficient supply of those things produced or provided at those prices. Every transaction that happens at artificial prices sets a signal to the underlying industry how to adjust that will have to change with the amount of future change occurs in regards to those prices. If you try to sustain something artificial long enough the marginal cost of doing so becomes so heavy and so burdensome that the adjustment that is unleashed systemically undermines not just what you attempted to achieve but the structure of how you went about doing it.

 

Million dollar question of course is what will the RMB interest rate will be when it becomes floating?

 

Then again perhaps I am wrong and everything will be fine*sarcsm*.

 

Somewhat inspired by:

http://www.zerohedge.com/news/2016-01-26/china-warns-soros-against-starting-fx-war-ha-ha-you-cannot-possibly-succeed

Be well and have good thoughts.

 

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