As anticipated by LEAP/E2020 in the past months, the United States are really sinking into the 2007 « very great depression », with a tipping point of the global systemic crisis coming up in April as indicated in last month’s GEAB (GEAB N°12. In the coming weeks, the contagion will spread from real estate to the whole of the financial sector and to US household consumption, bearing severe consequences on the results of various economic sectors in the US and on the US market. Simultaneously, these tendencies will accelerate the winding up of the trans-Pacific trade war which, as early as December 2006, LEAP/E2020 anticipated would be a dominant feature of the year 2007.

The contagion spreads in four directions:

1. Global stock markets: First victims of the China-US trade war
2. Housing crises: Besides subprime mortgages, all financial players operating on the US market are dragged into the infernal spiral
3. Dollar (and related currencies): Another nose-dive in April 2007
4. US consumption: Large companies’ exodus out of the US market

In this announcement, LEAP/E2020 chose to make public the first of those four directions.

According to LEAP/E2020, it is not by chance that the current stock market crisis started from China with the Shanghai stocks falling steeply (close to 10 percent) following the release of Chinese declarations aimed at restricting stock speculation. Besides the fact that global stocks diving after Shanghai illustrates the central role played by China in the global economy, it would be very surprising that Chinese authorities triggered this crisis by unintentional mistake precisely on the eve of US Treasury secretary Hank Paulson’s arrival in Asia. It is obvious that the content of Paulson’s Asian tour was deeply transformed by the surge of a global stock crisis: he came to moralize US economic partners in the region and to teach lessons of good financial and monetary management to China, but in the end he spent most of his week restoring Asia’s confidence in US economic health and the absence of any monetary or financial risks resulting from Wall Street’s dive and from the subprime crisis.

Remember that it is upon declarations by the Chinese central bank’s governor on the diversification of the country’s currency reserves out of the dollar that the US dollar tumbled against all other international currencies last November (and more specifically that the EURUSD exchange rate climbed above 1.30), at a time precisely when another tour of Hank Paulson and other US representatives in China was being prepared. By the way China seems to persist in this direction as Beijing authorities recently formed an investment fund with a view to make better use of the country’s currency reserves (1).

In doing so Chinese leaders are probably sending signals about the risk for Washington to engage their country in protectionist policies with direct consequences on Chinese (but also Japanese) (2) exports. It is indeed in the very next weeks that the US Congress, led by the Democrats with the support of part of the Republicans (and the rather explicit support of Fed’s president Ben Bernanke), prepares to vote for a whole array of protectionist measures specially designed to hinder part of Chinese exports, such as for instance those – emblematic – aimed at protecting US paper mills (3). The message thus sent by Beijing will nevertheless only contribute to the « action / reaction » spiral and reinforce the trans-Pacific trade confrontation.

As highlighted by the US-China Business Council, the trade limitations the US considers to undertake can only endanger the two countries’ trade relationships altogether (4). LEAP/E2020 indeed abundantly described in the previous issues of GEAB (GEAB 8 & 9, in particular) why Washington’s elites were fundamentally incapable of changing this course of events, on the one hand for electoral reasons (to protect US employment is now the only way for the democrats to keep their majority in Congress, not mentioning the chances of their candidate in the 2008 presidential election) ; and on the other hand due to blind Democrat and Republican leaders incapable of taking the measure of the level of dependence and frailty of their country and its economy compared to the rest of the world and more particularly to Asia.

In summary, US leaders are taking steps to « teach a lesson » to China (and to a lesser extent to Japan’s car makers) without realizing (despite Beijing’s warnings, resulting in the current stock crisis) that not only they are in no position to « teach any lesson » to China, but in doing so they are triggering a trade conflict which will contagiously spread to the financial and monetary sectors. It is indeed now in Beijing that the value of US dollars and treasury bonds is determined (not mentioning the value of Fannie Mae’s and Freddie Mac’s shares, in the past few months massively purchased by Asian investors thus following the advice of their US bankers, knowing that Ben Bernanke himself now acknowledges that the amount of their engagements conveys a “systemic risk” for the US economy).

The United States have somehow become an enormous hedge-fund whose leaders have decided to confront by the end of April the bank lending them the money they need to go on with their highly risky business (i.e. China). Of course their idea is that the “banker” is doomed to go on playing by fear of losing everything. At this level of the game (with billions of people and thousands of billions of US dollars involved), it is a very simplistic idea, especially when the banker begins to realize that nearly all the “securities” provided in the past years are worth no more than bits of papers. That is indeed what the housing crisis’ contagion to the US financial sector is revealing to the whole planet.

China’s USD 200 billion trade surplus with the US must be compared to a 10% drop of the US dollar’s value over one year on China’s currency reserves, i.e. USD 100 billion. To think that Beijing will kindly accept to lose on all fronts and not trigger any retaliation, is a sign of great intellectual naivety similar to when four years ago everyone in Washington was convinced that the Iraqis would welcome US troops with flowers.

GEAB N°13 (on subscription

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Notes:

(1) « China forming fund to invest reserves”, Yahoo News, 09/03/2007

(2) On that matter, LEAP/E2020 reiterates the anticipation made at the end of 2006 (GEAB N°10) in which they described why they thought Japan would have to make jointly liable with China in this trade war with the US.

(3) The « Paper Mills » battle could indeed be the trigger of a whole range of trade measures and counter-measures between both sides of the Pacific Ocean. Contrary to other topics (such as car imports for instance), this « battle » is popular because it stars small producing units scattered across US hinterland. « US threatening tariffs on paper from China », International Herald Tribune, 28/02/2007.

(4) « US-China Trade Relations », US-China Business Council, 02/2007