Daniel Lian of Morgan Stanley: Navigating Long Macro Voyage for Southeast Asia

Navigating Long Macro Voyage for Southeast Asia
Daniel Lian (Singapore)

Morgan Stanley

Navigating Southeast Asia’s Structural Investment Themes and Avoiding Cyclical Noise and Rhetoric

International investors are clearly excited about the prospects for Southeast Asia, especially Singapore, Malaysia, Indonesia, and the Philippines. All sorts of cyclical and structural reasons are being advocated to justify reweighting of the region. Last week, we highlighted to investors that despite an improved macro environment, a favorable shift in economic restructuring strategy, and momentum in political economy reform, Southeast Asia remains quite heterogeneous. Different Southeast Asian countries have made different degrees of progress in each of the positive areas highlighted by international investors.

Favorable cyclical factors are often fickle. We believe Southeast Asia must navigate a long macro voyage. On this voyage, investors must carefully analyze and appraise structural developments, and eliminate unsustainable cyclical noise and rhetoric. Last week, we began our voyage by discussing the common favorable factors cited by international investors, on a country-by-country basis, and analyzing their merits and demerits (Macro Cherry-Picking Southeast Asia, November 24, 2004). This week, we examine the “investment theses” advocated by various quarters of the investment community.

Political-Economy Reform and Domestic Security — Geopolitical Risks

A large number of international investors are clearly excited by the prospect of political economy reform and the probability of some containment of domestic security and geopolitical risk. The emergence of new leaders (Malaysia and Indonesia) and stronger mandates on second terms (in the Philippines and possibly Thailand) are key factors in such excitement.

We do share the excitement to some degree. There are clearly some prospects of political economy reform concentrating on elimination of or substantial reduction in the rent-seeking complex (Malaysia, Indonesia, the Philippines) that, in turn, would substantially improve the distribution of economic fruits and the multiplier impact on growth, as well as probably reduce domestic security and geopolitical risk (Thailand, Indonesia, the Philippines). However, both efforts require a favorable political climate where the politicians who drive the present reform stay in power. One cannot rule out probable “offenses” and “responses” by vested interest groups and local separatist or extremist elements where they will fight to retain their rents and their goals. It is probably fair to price in some positive development, but, in our view, the market risks substantial mispricing on both. For example, over the past year or so, the market has been fairly optimistic on Malaysia, Indonesia, and the Philippines, but pessimistic and punitive on Thailand. It remains somewhat uncertain whether investors are correctly pricing the risk premium linked to political-economy reform and domestic security in Southeast Asia.

The “Natural Complementary Economic Relationship” with China

One of the strongest reasons that investors cite for investing in Southeast Asia is that the four bigger Southeast Asian countries (Malaysia, Thailand, Indonesia, and the Philippines) are well positioned to continue “exploiting” the “natural complementary economic relationship” — China manufactures for the world, and Southeast Asia supplies agriculture and resources to China as its manufacturing dwindles with the rise of China.

We have been strongly advocating the deployment of a dual-track strategy to develop the vast but underdeveloped non-manufacturing second-track sectors. Our argument is that this would reduce Southeast Asia’s dependence on manufacturing, multinational corporations, and their foreign direct investment. Pricing power would be improved by securing economic niches not “threatened” by China. Nonetheless, I am skeptical that the region is now fully ready to effectively exploit the complementary relationship opportunity with China.

There is indeed an elementary complementary economic relationship between China and Southeast Asia. China is single-mindedly pursuing industrialization, whereas Southeast Asia has the endowments and the development niche to be an even bigger agriculture, agro-business, tourism, and other soft-hard commodity supplier to China. However, the Southeast Asia niche in this aspect is relatively underdeveloped. Without proactive development of such a basic complementary niche through comprehensive economic strategy shifts, Southeast Asian nations cannot expect to make a good living out of the basic complementary economic relationship. We believe that a well thought out “dual-track strategy” emphasizing the development of the “second-track” sectors — agriculture, agro-business, rural and grassroots, small and medium enterprises, resources encompassing both soft and hard commodity development — and complementing the “first track” that emphasizes only mass manufacturing and urban-centric service infrastructure development is a critical strategy shift required by Southeast Asia in order to prosper together with China.

However, Southeast Asia ex-Singapore is far from fully exploiting its second-track potential. The whole region has become more manufacturing-dependent, in terms of both output and exports, over the past decade. Manufacturing output’s share of ASEAN 5 GDP rose from 25.2% in 1994 to 30.2% in 2003, and manufactured exports’ share of GDP went up from 35.5% to 49.3%. The growth in manufactured goods and merchandise (all goods) production and exports is the principal reason why Southeast Asia has survived the onslaught of China and recovered from the Asia Crisis over the past decade.

However, the intensified manufacturing dependence is not a bad development at all. It demonstrates that the “Sino Hollow” thesis is probably not valid (see our October 7, 2004, note of this title), and that Southeast Asia retains good manufacturing growth potential and can grow strongly and structurally if it further develops and exploits its complementary economic relationship with China.

Export- or Domestic Demand-Led Growth?

A large number of international investors believe that Southeast Asia will either have to export well, i.e., economies will have to stay extremely export-driven/outward-oriented, or successfully shift to a sustainable domestic demand strategy. They thus tend to build their investment case on either rising trade with a prosperous China or a stronger domestic demand thesis.

These investors are not wrong. However, Southeast Asia is likely to have to continue to count on both. We believe it is quite possible that the region will continue to enjoy both export and domestic demand growth. Positive GDP growth trends and output potential can accommodate both. Hence, the correct investment theme would be to appreciate that traditional exports — mass-manufactured or generic soft or hard commodity exports — will not generate enough income to see the region to prosperity. The larger Southeast Asian nations need a balanced strategy as outlined in the dual-track discussion above.

The balanced dual-track strategy is the key, because it provides the critical economic linkage between growth in the second-track sectors, with both second-track-driven exports and second-track-led structural resilience in domestic demand. Thai Prime Minister Thaksin’s dual-track experiment over the past four years has clearly demonstrated that properly stimulated second-track sectors create domestic demand resilience. Underdeveloped agricultural, rural, grassroots, and SME sectors are capable of generating better multipliers, as leakage to imports on income created is fairly small. At the same time, new entrepreneurs in the non-mass manufacturing sectors are carving out export niches that are not in direct competition with China or other generic manufacturers elsewhere.

Exports have consistently outgrown domestic demand in ASEAN over a long period. ASEAN can structurally underpin the export sectors through the development of export-oriented non-mass manufacturing in the second-track sectors. This would generate a great deal of domestic demand resilience as second-track sectors are stimulated. Every ASEAN economy has increased exports faster than domestic demand over the past decade — this is where the opportunity lies for sustainable second-track-driven domestic demand growth.

Private Consumption- or Investment-Led Growth?

International investors who subscribe to the domestic demand boom thesis tend to put their faith in Southeast Asian private consumption. They believe the region over-saved and over-invested in the 1980s and ’90s. Hence, they think a private consumption boom is both a “default” outcome — as investment gives way to private consumption — and a necessary one if Southeast Asia is to salvage its growth, given the rise of China and the Asia Crisis. I was a subscriber to such a consumption thesis until quite recently. However, I now disagree on the basis of the following observations:

First, with the exception of Indonesia, Southeast Asia has used exports rather than private consumption as the engine of growth over the past decade. The so-called structural boom in private consumption has taken place only in Indonesia. For the other four countries (Singapore, Malaysia, Thailand, and the Philippines), private consumption to GDP ratios in 2003 remain roughly the same as in 1994, as well as the average over the 1994–2003 period. In other words, there is no fundamental “macro” expansion in private consumption (however, the banking system’s orientation towards consumers and away from corporates in the region over the past decade may have contributed to expansion in household balance sheets). More significantly, in Indonesia, the structural lift in private consumption — from sub-60% in 1994 to almost 70% in 2003 — was hardly a sign of economic strength or economic prosperity but rather a “default” phenomenon of corporates and households massively scaling back their investments and contracting their balance sheets. Concomitantly, households trimmed their wealth or reduced their rate of savings in order to sustain living standards in the face of massive inflation, currency devaluation, and falling real income after the Asia Crisis.

Second, there are serious institutional barriers to raising private consumption. Young demography, institutionalized or forced saving social structures, the high price of property relative to income, unequal distribution of income and wealth, and undervalued exchange rates all contribute to excessive saving. In my view, these institutional barriers will remain for a long time, thus dimming the prospects for private consumption.

Instead of private consumption, we see Southeast Asia embarking on a structural boom in domestic investment. The economic and policy rationale for a structural investment boom, the macro magnitude and economic implications of such a boom, and the “content” of such investment are critical to understanding the forthcoming investment boom.

Economic and policy rationale. While Japan and the four Asian Tigers (Singapore, Hong Kong, Taiwan, and South Korea) may have already passed the phase of rapid capital accumulation, the larger ASEAN four that are still low in per capita income must use new productive investment to boost future growth potential. (We believe Singapore has largely exhausted domestic investment opportunities and may not raise its domestic investment ratio further. That is why its external economy strategy centers on deploying excess saving in acquiring foreign assets.) Sources of productive investment would include appropriate infrastructure, upgrading the value chains of existing economic activities, and new second-track economic development.

Macro magnitude and economic implications. Among the larger ASEAN four, Thailand and Indonesia possess more certainty of generating a structural investment boom. Thailand’s average savings rate of 34% from 1994 to 2003 means there is considerable room for its gross investment rate to rise from the present 25% to perhaps 35–36% over the next few years. We believe that is exactly what Mr. Thaksin wants to do over the next few years. In the case of Indonesia, its gross investment ratio has fallen from 31% in 1994 to only 19% in 2003, while its gross savings ratio stood at 24% at the end of 2003. Its much higher average savings ratio of nearly 28% indicates room to lift the gross investment ratio by 10% of GDP. In our view, shrinking the present current account surplus to zero or even running a small deficit at 1–2% of GDP would not have a negative influence on the macro prudence and stability enjoyed by both economies.

Both Malaysia and the Philippines possess good scope for a lift in investment as well. Malaysia has consistently generated very high savings (44% of GDP), and the Philippines has considerable scope to raise its present savings rate to at least in the low 20% area, if the present round of revenue enhancement efforts coupled with structural fiscal reform results in a significant reversal in the government’s deficit trend. Raising the investment rate to the low 20% level could trigger a significant rise in investment in the Republic. However, in the case of Malaysia, some investment uncertainty emanates from the fact that the government is attempting to reduce its investment role. In the Philippines, the battle on the present round of revenue enhancement moves and structural fiscal reform is far from complete.

Content of investment boom. During the last phase of the investment boom, i.e., the late 1980s to mid-1990s, Southeast Asia splurged largely on unproductive investments (many high-end condominiums, golf courses, and white elephant infrastructure) that are wasteful and on generic mass manufacturing production capacity that is no longer relevant to the region’s new growth strategy. The new phase of investment will require the region to boost the productivity of second-track sectors such as services, agriculture, agro-businesses, SMEs, and grass-roots sectors. It should also focus on boosting the productivity of education and the government, as well as infrastructure to support these second-track activities.

Currency Revaluation — Boon or Boom?

Some quarters of international investors are advancing the idea that as the US Federal Reserve drives down the value of the dollar and China finally submits to outside pressure to revalue its currency or implement exchange rate flexibility, the unwinding and revaluation/appreciation of the ringgit peg as well as appreciation of other Southeast Asian currencies under their managed float/basket peg regimes would warrant rising optimism on Southeast Asian markets.

We think these investors would be proved right if the Fed succeeds and China succumbs. There would be short-term capital gain on Southeast Asia investment holdings. Also, currency revaluation/gains would render a domestic demand boom quite probable in Southeast Asia. However, there might be at least two opposing structural impacts — one positive and one negative — resulting from such a titanic currency move.

A positive structural development could take place as Southeast Asia exploits its currency gains to help fund its own investment boom, since foreign capital goods that are essential for capital formation would become cheaper. The currency gains would also favor domestic demand in general as imports become cheaper, and a typical monetary response to currency revaluation is to allow for some degree of domestic monetary expansion. More significantly, the currency gains would help sharpen the region’s focus on second-track development as its generic mass-manufactured exports become less competitive and less in demand in the global marketplace.

A negative structural development would occur if a domestic demand boom were not managed properly. The region might take the easy route of compensating stronger currency-induced export deterioration with a loose money-induced unproductive asset boom rather than the tough journey of restoring export competitiveness through productive investment. This has happened in Japan and, to varying degrees, in the four Asian Tigers since the Plaza Accord in 1985.

New York Times: Economists Have Advice for Buyers as the Art Market Heats Up by Eduardo Porter

Economists Have Advice for Buyers as the Art Market Heats Up
By EDUARDO PORTER

Art prices are setting records again. In early November "No. 6 (Yellow, White, Blue Over Yellow on Gray)" by Mark Rothko was auctioned at Sotheby's for a record $17.4 million, almost 50 percent above the top end of Sotheby's estimate. "The Ninth Hour," a room with a lifesize wax pope felled by a meteorite, by the Italian artist Maurizio Cattelan, fetched $3 million at auction at Phillips, de Pury & Company, also exceeding its top estimate by half.

Not only are modern and contemporary artists being treated like pop stars, but earlier American masters are also soaring like late-1990's Internet stocks. Today Sotheby's is putting "Group With Parasols (a Siesta)," by John Singer Sargent on the block with a top estimate of $12 million. This would be a record for the artist at auction.

"We have more collectors today willing to spend more money than we've ever had," said Dara Mitchell, a director of the American paintings department for Sotheby's.

These rates of return are now attracting the interest of financial investors. In Britain, there is the Fine Art Management Fund, which has been in the market since March. A former co-owner of Phillips, de Pury & Luxembourg established Artvest, an art investment company, in the spring. The New York-based Fernwood Art Investments plans to establish several funds next year to buy and manage art portfolios. And virtually every bank on Wall Street has an art advisory group to assist rich clients.

The renewed appetite for art as an investment is rekindling interest in developing systematic ways to assess the value of art and is drawing attention to a small number of scholars who have been applying economics to this new asset class.

Two pioneers are Michael Moses and Jianping Mei of the Stern School of Business at New York University. Mr. Moses and Mr. Mei developed an index of repeat sales of the same work of art, compiled from the prices of thousands of artworks sold at auction since 1875. They found that the compound annual rate of return of art from 1953 to 2003 was 12.1 percent, slightly higher than the Standard and Poor's 500 stock index.

Mr. Mei and Mr. Moses also found that art prices have a low correlation with stocks, so art can enhance the performance of a portfolio of equities. Perhaps most interestingly, they found that the art-dealer maxim that masterpieces are the best investment is wrong. According to their index, masterpieces - usually meaning the most expensive works of art - tend, instead, to appreciate less, or depreciate more, than the art market as a whole.

Economic analysis has also exposed some other peculiar behavior. Two economists from Oxford University have found that presale estimates by auction houses have some systematic biases. In contemporary art, for some reason, the most recently executed artworks are overvalued. For Impressionist and modern art, physically wider paintings may be underestimated.

David Galenson, a professor of economics at the University of Chicago, has been using the prices of artworks at auction to study patterns of creativity. His findings include useful insights into what makes art valuable. For instance, collectors might think again before paying big prices for late pieces by Pop artists. Their most expensive and critically acclaimed work, according to Mr. Galenson's analysis, was done at the beginning of their careers, when the breakthrough idea that took them to the top - the mechanical reproduction of serial images, for example, or blowing up cartoon frames - was still fresh. The Abstract Expressionists, on the other hand, might be better bought old - once they have experimented enough.

Mr. Galenson splits creativity into two camps, inductive and deductive. Inductive-minded artists - say, Claude Monet or Jackson Pollock - will experiment endlessly, with no precise endpoint in mind. Deductive conceptualists, on the other end, rely on the great revolutionary idea that springs forth fully formed - Marcel Duchamp's 1917 urinal, "Fountain," for instance, or "Les Demoiselles d'Avignon," which Picasso painted when he was 26. "With conceptual artists you can usually express their real contribution in a sentence," said Mr. Galenson. Mr. Galenson also picks out a broad shift in the market's taste over the last half century, as the appetite for innovation favored the quicker, deductive approach and thus tended to reward younger artists. In particular, he found that artists born before 1920 tended to do their most important work after the age of 40, while those born after 1920 peaked before hitting 40.

"A persistently high demand for artistic innovation has produced a regime in which conceptual approaches have predominated," Mr. Galenson wrote in a paper. "The art world has consequently been flooded by a series of new ideas, usually embodied in individual works, generally made by young artists who have failed to make more than one significant contribution in their careers."

Todd Millay, vice president in charge of strategy and product development at Fernwood Art Investments thinks this economic approach is helpful. "It's taking the tools and techniques which have been useful to understand other sectors of the economy and applying them to the art market," he said. Mr. Millay is developing quantitative techniques that Fernwood will use to build its art portfolio. Mr. Moses said he and Mr. Mei are also putting together a pricing model based on variables including the number of times an artwork work has been exhibited, written about or sold. And their analysis can provide some benchmarks.

For instance, the Sargent up for auction today will be sold, by Sotheby's estimate of $9 to $12 million, at a price somewhere between 375 and 500 times what it fetched in 1962. But Mr. Mei's and Mr. Moses's index of American art has appreciated only 136-fold in that period. "If I'm looking for a financial return, maybe these prices are a bit high," Mr. Moses said. "If you tend to buy above the index-inflated purchase price, your future returns are going to suffer."

Ms. Mitchell of Sotheby's stands by the value of the Sargent nonetheless. "Paintings of uniquely superior quality appreciate to a greater degree," she said. "Great paintings have a different curve." She argued that auctioneers have a pretty good handle on what an artwork is worth, benchmarking against other recent works by the artist sold and the overall state of the art market.

Auction houses have a big advantage: they already know the fairly small number of people who can spend a few million dollars on a painting. That means they have a pretty good idea of who is likely to bid how much for the next big artwork to be put on the block. "We have relationships with collectors seeking works from certain artists," said Matthew Carey-Williams, senior specialist for contemporary art at Sotheby's. "The first thing we say when we look at a piece of art is 'who is going to buy this?' "

Indeed, many art dealers tend to mistrust these economic approaches to art. Andre Emmerich, the New York collector and dealer, argues that there is no systematic method that can measure the shifting tastes that ultimately dictate the value of art in the market. "I'm not very good at these abstract theories at all," Mr. Emmerich said. "Art has much more to do with gut than with anything else."

Even some of the proponents of a more analytical approach to art say it is uncertain how much these ideas will help investors beat the art market. Merely measuring the market is tough, because there are so few public transactions to base any analysis on. And many deals take place privately between dealers and collectors, so their details are frequently not known.

Mr. Galenson argues that the art auction market is pretty efficient. Indeed, prices tend to reflect what art critics like and dislike. Orley Ashenfelter, a professor of economics at Princeton who studies art auctions, said all this analysis wass interesting, yet "I don't know how you can make money from this."

Vincent Lam of Quam Asset Management: "Reminbi-Appreciation Is A Matter Of Time"

Reminbi: Appreciation Is A Matter Of Time

There are two places in the world that is full of hot air -- hot gossips of celebrities and speculations in the stock market, and this is particularly the case when the jobs have just become more secure, and people have more leisure time to gossip and more spare money to gamble (and to lose). Since this is a financial column, and we would not like to step into the profession of the paparazzi, and therefore we will only focus on the hot air that is ballooning in the stock market. This time I will not bore you with the Macau concept again, which we have discussed several times on other occasions, but a more relevant issue -- the speculation of a potential revaluation of the Reminbi.

RMB Appreciation More Than Hot Air

Last Friday, the rumors have it that China might decide to revalue its currency in the coming few days, and Beijing could reach a decision at an annual high-level economic meeting over the weekend. When readers read this column, they might have realized that if these rumors is true or not. But my impression is that Beijing might have actually made up its mind to revaluate the RMB, and the hot air will likely precipitate into rock solid ice, the only matter is only the timing and the extent of the revaluation. Why? That is probably in the best interest of China and at the same time it can fulfill the needs of the rest of the world.

China being the world's most populated country is rich in population but short in natural resources. Since mid-2001, the US dollar has depreciated against the Euro by almost 38%, or in other words the Euro has appreciated over 58% against the greenback, and as a result of both a weakening US dollar and the persistent high growth in the PRC economy, China has imported much more natural resources, which dramatically reversed China's trade surplus from a positive ~US$6 billion in December 2003 to a trade deficit of ~US$6 billion at the beginning of this year. Due to rising prices of import raw materials, goods and services, inflation soared to a dangerous level of over 5% in the middle of this year, forcing Beijing to cool off the economy by both fiscal (austerity measures at the end of the first quarter) and monetary policies (raising interest rates for the first time in more than nine years).

If China continues to let the RMB stay pegged with the extremely weak USD, then China is risking an uncontrollable inflation and also a resurgence of trade deficits, which could be detrimental to the PRC economy in general and in particular to the banking system. For a country whose banking system has non-performing loans as a percentage of its annual GDP of over 48%, it needs to maintain a strong current account balance (both trade and net capital inflows through foreign direct investments) in order to defend against any potential attacks in the banking system. Inflation could also create social problems, as the salaries of the lower income class are unable to catch up with ever-rising prices.

Kill Two Birds with One Stone

Although raising interest rates can perform the same task, it is unable to solve the problem of rising import raw material costs. The only way to kill two birds with one stone, i.e. cool off domestic inflation and at the same time reduce potential trade deficits, is to let the RMB appreciate.

Depreciation of USD: A Conspiracy Theory

The European Central Bank (ECB) originally claimed that it might intervene in the currency market, but after the G20 meeting over the weekend it suddenly had a 180-degree change in attitude. We don't know what had been discussed during the meeting among the US Federal Reserve, Bank of Japan, and the ECB, but what we know was that they have since become silent on the currency market movements, which the market has interpreted as a agreement to let the greenback to continue to weaken. We suspect that this was probably a tactical measure to force China to appreciate the RMB.

Long before that, John Snow of the United States had said that the United States would like to adopt a strong USD policy, which we all knew that he was bull shitting, but at the same time he has neither said the Euro nor the Yen was undervalued except the apparent under-valuation of the RMB, which indirectly sent out a message that the free-falling of the USD was actually targeting at forcing the PRC government to appreciate the RMB.

China, in the meantime, has already sent out messages indicating that she is actually willing to appreciate the RMB as long as the revaluation will not invite future attacks on further appreciation, and even if that is the case the People's Bank of China (PBoC) will be able to defend. So you may say that there has already been a consensus among the international powers. The last question is only that whether the PBoC is confident of itself to defend against any potential attacks on further depreciations, and if China gets the nod of potential help from the US, ECB and BOJ, or at least paying lip service to China by saying that they are contented with the extent of the pace of appreciation.

RMB Appreciation and HK's Asset Reflation

If China does appreciate its currency, and the most likely rate of appreciation will be similar to the exchange rate of the Hong Kong dollar, which has an official rate of US$1 per HK$7.8, or an appreciation of approximately 6%.

We disagree with Mr. Joseph Yam, the Chief Executive of HK's de facto central bank, that the purpose of hot money staying in HK is use HKD as a substitute for the RMB. Mr. Yam has underestimated the IQ of the speculators. Their target is not an appreciation of the HKD but the expectation of asset inflation in Hong Kong. One argument for HK's wages failing to increase is that we have cheaper alternatives just a few steps northwards in Shenzhen. With an appreciation of the RMB, the pressure on HK's wages and property prices will at least be eased, even though some doomsayers are saying that a 6% appreciation in the RMB is far from enough for Hong Kong to regain its competitiveness. Investors who hold this view have again grossly underestimated the productivity of HK's employees.

I know that even in Quam Research Team, there are still an overwhelming number of HK bears. As always, I always tend to be the more optimistic one. With the fastest growing economy as our hinterland there is just no need to be too bearish about the future of our economy.

One last remark, since the main purpose of the free-falling of the USD is not targeted at the Euro and the Yen, when China announces the appreciation of the RMB, speculators may find them to have been made use of, and soon betrayed by the ECB and BoJ.

- written by Vincent Lam, Director of Research & Advisory of Quam (IA) Ltd., and Fund Manager at Quam Asset Management Ltd.

Newmont Mining's Pierre Lasonde "Take Stock in Gold" published by the Resource Investor.com

Pierre Lasonde: Take Stock in Gold
By Tim Wood01

Dec 2004 at 11:05 AM EST
Resource Investor.com

If you really want to know what the next 5-10 years are going to look like, I tell people that the best thing to do is look back to the 1970s. I really loved the music of the 70s, but look at the economic conditions and you're going to find that today we live in a world that is very similar.

In the 1960s we had very strong economic growth in the US and high productivity and low inflation – same thing here in the 1990s – and then it was followed by the Vietnam War. Well today we have Al Qaeda's War. In Vietnam, America was fighting over communism. Today it's fighting Islamic fundamentalism. Same difference the French will tell you! Now the only reason the French know a little bit more is because they got their head handed to them in Vietnam, and they told the Americans "don't go there!". The French also had Algeria, and they said to the Americans you know what, don't go there. Because they got their backsides kicked in Algeria as well. It's not that they really are smarter, they've just been there first.

The next thing that happened in the 1970s is we had an oil shock. Oil went up five times between 1971 and 1974. Guess what? Between 1998 and 2004 oil has gone up five times!

The monetary policies of the 1970s were highly expansionary with a negative real rate of interest. Guess what we're having today? Negative real rate of interest for the last two years. The rate of inflation is actually higher than the Treasury Bill rate and it's likely to stay that way for a bit longer.

We also saw a huge increase in the budget deficit in the 1970s. Well, same today. We've gone from a surplus of $150bn to negative $450bn, that's a swing of $600bn in budget deficit. Look at the current account deficit in the US. It's now over $660bn. That represents 70% of the world's savings that this country has to have every year to live in the style we've been accustomed to. How long can that last? Not forever.

Finally in the 1970s we saw a huge increase in commodity prices and we can see that right here. Commodity prices represented by the CRB Index, the Commodity Research Bureau Index, went up 250% between 1971 and 1980. We're up 60% so far. Let me ask you, do you think that that's the end? Over a 10 year period 250% and over a two year period we're up 60%.

Let's look at the things that are not the same from the 1970s.

The first difference is inflation. In the 1970s, for those of you who have a few white hairs and for some who have no hair, inflation was a real problem. It peaked at something like 14-15%. Why? Well some of it was because of the dollar devaluation, some of it was because of price push inflation and a lot of it was cost push inflation that came from union bargaining who could afford to increase wages throughout the economy because there was no alternative.

Today we have a very different situation where China in particular, Asia in a global fashion, is exporting wage deflation. If you go to a Wal-Mart today 70% of the goods sold there are basically from Asia, a lot of it from China. These countries can produce anything at cheaper prices than anybody else. If there's one thing that you have to remember it's that China today is the world price setter for commodities that it buys and for the finished goods that it exports. That's a first in economic history where a country is so dominant in either what it buys or what it sells.

So, if you look at the US economy, do we have inflation? Yes. If you look at services, you know, Starbucks increased its coffee price; you try to go to a Broncos' game and tickets are up 50% over the last three years. Yeah, we do have some inflation but then on the other hand we have deflation that's exported in the products that you go buy at Wall-Marts or any other commodity.

It's like having your head in the oven and your feet in a bucket of ice. On average its feels pretty good and that's exactly what you've got – the inflation rate supposedly is around 2%, but in reality it doesn't feel quite that way because either it's really cold or it's really hot. And it's likely to stay that way for the next few years.

I think you're going to have some inflation that's going to come through on the finished product side because China's inflation rate is increasing and they're going to have at the end of the day to increase the currency too. So you will have China exporting a higher inflation but I don't think it's going to go from more than 4 or 5%, enough however to have real interest rates stay negative even if the Fed pushes interest rates to 3 or 4%. My view is that you're still likely to have negative real rate of interest which is very good for gold.

The next thing is savings. When you look at the savings rate: in the 1970s in the US it was about 8%. Today, believe it or not, it is close to zero. Last quarter in the United States the same savings rate was 0.4% of GDP.

How can you have a country continue to invest with zero savings? That's a huge problem and that's why the current account deficit is so high. It cannot go on forever. What's happened is that the rest of the world has been funding our current account deficit to the tune of over $600bn a year. Every year the US economy is being sold at the rate of 1% to the rest of the world. You can't do that forever. What's going to have to give is the currency.

The final difference with the 1970s is the amount of debt in the economy.

In the 1970s we had 130% gross total debt including corporate, government and private debt. Today we have that figure over 200% of GDP. The last time the US economy was over 200% of debt to GDP was 1930. Not a good reference point!

Consumers today are tapped out and over indebted; basically the Fed has painted itself in a corner. If the Fed was to raise interest rates to a level that would have a significant real rate of interest it would plunge the economy into a recession and possibly even worse.

It cannot afford to raise rates to 7,8 or 9%. Or even 5% for that matter. So, what gave in the 1970s? Who was the big winner and who the big loser? The big loser was the US dollar.

If you look back to the 1970s and you look at the two major currencies against which the dollar depreciated, well it was the yen and the Deutsche mark and funny enough the only difference between the two was two zeros. The yen was 350, the Deutsche mark was 3. 50, and where did they end up? They ended up at 165 and 1.65, for a depreciation of over 50% of the dollar against these currencies.

Who was the big winner? Well, there was one big winner and it was gold.

The gold price went up 2500% from 1970 at $35 to 1980 at $850; for one minute it was $850. That was okay! Gold was undervalued because don't forget at that point in time gold was fixed by the government so if you really think about it and you start in 1974 when gold was, had already been loose for a couple of years, gold really went up from about 100 to, it did go to $800 on a, but let's say 600, that's still about a 500% increase between 1974 and 1981 or 82.

Gold today is a currency once more.

If you look at the gold price vis-à-vis the dollar euro relationship what you're going to find is that that explains the correlation between gold and the euro dollar relationship. It explains about 90 to 95% of the change in the value of the gold price.

Gold today is as close to a currency as you will ever see and gold growing in the future and our view is and we've been saying it now for four years, the American dollar has got to go down. The dollar has been the best export that the US has ever manufactured!

The central banks of the world today have got 2.1 trillion of those dollars. The question is if they just stop buying, that's enough to send the dollar down by 50%. If they start selling it's going to get even worse.

We don't think it's going to go there because at the end of the day when we look at China and Japan in particular, they want the economy to continue exporting so if there's anything that's managed in the world it's those two currencies.

Some people have gold conspiracies, I don't know about that. The one thing I do know is that those currencies are managed currencies and they are going to probably let them revalue against the dollar but in a very stepwise way. I tell people that one thing about China is that they do things in a Chinese way, which means that on their own time. Tight now my feeling is – and I'm sure Marc Faber is going to talk far more about it and he knows more than I will ever know – but my feeling is it's going to be a very stepwise fashion, you're going to have to wait for that.

I would like to go over something that we first published in our annual report in 1999. It is the Dow Jones Industrial Average divided by the gold price. Some of you have probably seen it in other places; I think we were the first one to put this out.

What it gives you is a view of the last 100 years of paper versus hard assets. It's very interesting because if you go back to the 1920s, for example, that was your peak. In 1929 it peaked at 18:1 so the gold price was $20 and the Dow was 360 points. And then the excesses of the 1920s had to be corrected so then we entered into a hard asset bull market and by definition, a paper bear market that lasted 3.5 years and bottomed in February of 1933 at 1.95:1 so gold went up to $35 at that point and the Dow was around 42 to 44.

The Dow by the way lost 90% of its value in four years.

Then the ratio went sideways for about 10 to 15 years and then started a bull market right after the war in ‘45, ‘46 and peaked again in 1966 at 28:1. At that point gold was $35 if you remember. We needed another generation to correct the excesses that had been created in the previous 20 years and those were the 1970s.

Interestingly enough in the 1970s we saw a bull market in hard assets; commodity prices going up. I started in this business in 1973 when copper was $1.60. The equivalent today would be a 3.50 or 4 dollar copper price. Can you imagine if you had copper at these prices? You know what? It could well happen!

The bull market in hard assets lasted 14 years and it topped out in 1980 at a ratio of 1:1. The Dow in 1980 was 800, gold was 800. Twice in a century and then what happened? Well we had a bull market in paper assets and what a bull market we had; an incredible one.

The top end in 2000 peaked at 24:1. Now four years later we are 23 or 24 to 1 and here's the question. If that bull market in hard assets is to mimic what we've seen twice in the past 100 years and go back to the 1:1 ratio; I ask you, where do you think the Dow's going to bottom? And I'll tell you where the gold price could go. For some of you it's like, "well is that possible?"

The Dow today is 10,500 in case you haven't quite noticed, OK, so if you're real bearish on the Dow where do you see it? 5,000? I don't know where it's going to bottom and no-one knows and no-one knows the future and no-one knows how much inflation and how much money printing we're going to have here in the United States or anywhere else and you know when you talk about the US dollar having to go down against the euro and the yen. But believe me I don't think for one second that the euro is a better currency than the dollar or that the yen for that matter is a better currency. It's only a relative game. At the end of the day all of these currencies will have to depreciate against the only currency that is not a managed currency and that is gold.

When I look at the problems that the Europeans are going to have over the next 10 years with the baby boomer retiring and their unfunded liabilities in terms of healthcare and pension – those are in the trillions of dollars they will never be able to fund those. What are they going to do?

They're going to depreciate their currencies. Well heck what are they going to depreciate against? The dollar? The dollar's in no better shape. The yen? The debt in the Japanese economy, we're at 200% of GDP, they're even worse. The only place is the dollar.

When I look at the gold price and commodity prices over the next 5 to 10 years I do believe that you're going to see gold with three zeros at the end, but you're going to have to be patient because I don't think that you're going to see that this year or next year. I think it's going to be five to eight years down the road, it takes time for these things to happen.

I do believe that the dollar is going to continue to depreciate against mostly the Asian currencies at this point.

If I look at the euro, I was in Europe, in Italy a couple of months ago I had to get a haircut, it was $55 in a barbershop! I just don't think the euro is such a great currency.

When the Italians are going to Switzerland for shopping because it's cheaper in Switzerland, you've got a problem! And this is what's happening. I actually have a friend who has a shopping mall on the border in Switzerland, right on the border with Italy, he built it 20 years ago and said: "Pierre it was the worst thing I ever did". In the last six months he tells me: "you know what it's unbelievable, the place is full now".

So no, you're going to have depreciation of all of these currencies against the only currency that will appreciate and that is going to be gold. But over the next 12 months I think that you're going to see gold maybe up to $500 and then it could mark time until we see the next big move in the Asian currencies.

We could see the dollar against the euro going up to 1.40, maybe 1.50 but frankly I can't see it any higher than that, it's already well past it's due date, but against the Asian currencies I think you have a 50% move and that's going to be the next really big move.

Then the question is how do you fund all the retirement liabilities. These issues are going to start creeping up in the next 10 years when in the US for example 77m baby boomers are going to start to retire. In Italy in the next 10 years the average age of the population is going to go from 45 years to 54 years old. All of a sudden you've got a huge increase in the aged population. How do you fund the healthcare, the retirement? They haven't addressed any of those issues.

So when I look at that in the long run I am very, very positive on the gold price. And with that I thank you very much.

Prudent Investor Reminisces: "The Philippine Mining Index Lags the World" Sept 25, 2003

In September 25th of 2003, your 'lone wolf' cried for a BUY on mining issues given that macro developments were imminently directed towards the Philippines' role as a major supplier for commodities particulary on the metals. My article was published in international websites as the goldseek.com and safehaven.com....

The Philippine Mining Index Lags the World
Guest Editorial: Benson J. Te


“The country is ranked second in the world in gold reserves, third in copper, and sixth in chromite; but mining has dropped from 26% of export earnings 20 years ago to only 6% today. And not because the Philippine economy has boomed; it's been the worst in East Asia for decades. Copper production, for instance, has dropped 40% since 1981.”-Doug Casey, International Speculator

The resource rich country is an upcoming significant player in the supply dynamics of gold and other industrial metals. Despite the abundance of its natural resources, the mining industry remains moribund largely due to the depressed commodity prices that plagues the industry for more than a decade, aside from other factors such as taxes and regulation, environmental concerns, as well as other usual developing country ailments as lack of infrastructure, corruption, peace and order and political stability. However, while the government has been working hard to revive the industry, gold’s renaissance has not yet flowed into the revival of the industry itself, as evidenced by the lackadaisical movements of the prices of the mining companies, as signified by the mining index.

The market capitalization of the entire Philippine Stock Exchange is only about US$ 21.8 billion making it one of the smallest stock markets in the world. Its 30-company benchmark composite index, the Phisix, has a market capitalization of US$16.8 billion while the mining index comprising of a piddling 6 companies is capitalized at $112.5 million only. Its 2002 GDP to market capitalization (P55 to a $US) is at 29%.

Moreover, of late, the Phisix have joined the growth in global equity markets arising from the endless stream of money supplies brought about by the loosening of the monetary spigot by the world’s central banks. According to Mr. William Pesek Jr., Asian analyst for Bloomberg, “The MSCI Asia Pacific Index, a regional benchmark, is up more than 27% this year. The Thai Shares alone are up over 68% in US dollar terms. Indonesia shares are up 45%, while the Philippine Stocks are up 25%.”

Overseas investors or portfolio flows comprise a significant share of the traded volume during the latest run-up which begun during the latter portion of May of this year. Since June, despite the political stresses hounding the government, overseas investors plunked in more than $ 95 million in equity assets acquisitions; however, most of these purchases were seen in the index heavyweights, with hardly a smidgen for mining issues.

While it is understandable for money flows to be directed to emerging markets due the several factors, as enumerated by BCA Research, such as rapidly improving economic fundamentals, short-term interest rates below dividend yields, cheap currency, stimulative monetary policies and inexpensive equity assets. The prospects of a continuing rise in commodity prices due to the tightening of supplies and possibly in combination with mounting demand from the rapidly expanding China and India, or from the steep fall of the US dollar, should highlight the potentials of mining and resource based companies in our region too.

Compared to mid-November 2001 prices, London’s second fix spot gold prices as of September 23, 2003, grew 39.63% while major mining global indices had remarkable returns as the HUI 232.64%, Australian Gold Index 186.08%, SA Gold Index 183.58%, GOX 109.27%, XAU 87.54%, while only the Canadian S&P/TSE Gold Index grew a measly 51.74% close to the Philippine Mining Index’s 33.46%.

As Dr. Marc Faber points out, “it is important to understand that the emerging economies of today are the lowest-cost producers in practically every sector of the global economy.” Since the Philippines hold one of the largest reserves of gold and other industrial metals could it be that these investors, whom have been buying into our market, have overlooked the potentials from the industry’s viewpoint?

Benson J. Te

****

Businessworld: High Court upholds mining law

High Court upholds mining law
By Ma. ELISA P. OSORIO, Reporter

'The Constitution should be read in broad life-giving strokes. It should not be used to strangulate economic growth or to serve narrow, parochial interest...Rather, it should be construed to grant the President and Congress sufficient discretion and reasonable leeway to enable them to attract foreign investment, as well as to secure for our people and our posterity the blessings of prosperity and peace.'

The Supreme Court yesterday, with a vote of 10 to 4 with one abstentation, effectively reversed itself as it declared the Philippine Mining Act as constitutional.

In a 246-page decision, the court en banc overturned its January decision that nullified the mining law (Republic Act 7942) as well as the Financial and Technical Assistance Agreement (FTAA) between the government and Western Mining Corporation Philippines, a wholly-owned subsidiary of Western Mining Corporation Holdings Limited of Australia.

Those who voted for the reversal of the January decision were Chief Justice Hilario G. Davide, Jr. as well as justices Artemio V. Panganiban, Reynato S. Puno, Leonardo A. Quisumbing, Angelina Sandoval-Gutierrez, Alicia Austria Martinez, Renato C. Corona, Dante O. Tinga, Minita V. Chico-Nazario and Cancio C. Garcia.

Those who dissented were justices Consuelo Ynares-Santiago, Antonio T. Carpio, Conchita Carpio-Morales, and Romeo J. Callejo. Justice Adolfo A. Azcuna abstained because he was a former lawyer of one of the parties.

The decision, penned by Justice Panganiban, ruled that the 1995 FTAA did not contravene the 1987 Constitution because the charter expressly allowed service contracts in "large-scale exploration, development, and utilization of minerals, petroleum and mineral oils."

'LIFE-GIVING STROKES'

"The Constitution should be read in broad life-giving strokes. It should not be used to strangulate economic growth or to serve narrow, parochial interest," the court said.

"Rather, it should be construed to grant the President and Congress sufficient discretion and reasonable leeway to enable them to attract foreign investment, as well as to secure for our people and our posterity the blessings of prosperity and peace," it added.

The court also said the government may undertake mining activities through "agreements with foreign-owned corporations involving either technical or financial assistance."

The court also said there was nothing unconstitutional about the mining law's Implementing Rules and Regulations that were drafted by the Department of Environment and Natural Resources.

It noted that the State, through the President, still retained and exercised full control over mining operations despite FTAAs.

"The drafters [of the Constitution] in fact knew that the agreements with foreign corporations were going to entail not mere technical or financial assistance, but rather, foreign investment in and management of an enterprise for large-scale exploration, development, and utilization of minerals," the court decision read.

"Indeed, the Chief Executive is the official constitutionally mandated to enter into agreements with foreign owned corporations," it added.

The law also states that Congress may review the action of the President regarding "every contract entered into in accordance with this [constitutional] provision," the court said.

In reversing itself on earlier nullifying the mining law, the court also said "the judiciary should not inordinately interfere in the exercise of this presidential power of control over the EDU [exploration, development and utilization] of our natural resources."

The court also said its new decision would answer "the need to develop our stagnating mining industry and extract what NEDA [National Economic and Development Authority] Secretary Romulo Neri estimates is some $840 billion worth of mineral wealth lying hidden in the ground, in order to jump-start our floundering economy on the one hand, and on the other, the need to enhance our nationalistic aspirations, protect our indigenous communities, and prevent irreversible ecological damage."

"Verily, the mineral wealth and natural resources of this country are meant to benefit not merely a select group of people living in the areas locally affected by mining activities, but the entire Filipino nation," the court added.

The Supreme Court, last January 27 struck down as unconstitutional the provisions of the Philippine Mining Act of 1995 that allowed 100% foreign-owned firms to exploit the country's mineral resources.

In that 95-page ruling, the court en banc declared provisions of RA7942 void in so far as they pertained to the so-called FTAA.

That ruling likewise declared as void the FTAA between the government and Western Mining.
WELCOME NEWS

Reacting to the decision, the Chamber of Mines of the Philippines said "the knowledge and wisdom of the court in this landmark case [was] expected to draw support from the entire business community, locally and internationally."

In a separate statement, American Chamber of Commerce of the Philippines Executive Director Robert Sears said the court decision would help the government "create jobs, increase revenues from exports, and bring in needed foreign direct investments."

Stock market analysts said the decision would also bode well for the local market and the economy.

In telephone interview, Astro del Castillo of First Grade Holdings, Inc. noted that mining, being an untapped sector for some time, had plenty of potential.

"This will open the floodgates [for developments] that will impact the country's fiscal problems," he said.

"They [foreign and local companies] will complement each other and enhance competition, which will result in more efficient operations for the sector," he added.

The mining and oil indices were up in yesterday's trading.

Jose Vistan, Jr. of AB Capital Securities, Inc. also welcomed the court ruling. "This is good news, which brings into the country not only potential capital but also technology. Mining companies short in capital can now tap the technology of those foreign companies and help the economy," he said.

He added the ruling was a "much-needed shot in the arm" for the economy to take off.

"Oil and copper prices are high. The Philippines is rich in these resources so the decision of the Supreme Court is good news for the economy, the stock market and the country as well. It is pro-business for a change," he added.

Meanwhile, Environment and Natural Resources Secretary Michael T. Defensor said, "We would now be assured of investments [in the mining sector], the economy would surely benefit from it. Any decision otherwise would have been disastrous for us."

"We see a potential $2 billion to $3 billion worth of investments during the first three years, and about $2 billion annually after that," he added.

Mr. Defensor also said, "There are about 30 potential investments with pending process of implementation because of the issue on mining. Now it is all systems go." -- with reports from Roulee Jane C. Calayag and Rommer M. Balaba

Marc Chandler: "World View: Dollar correction may not help deficit" published by the Financial Times

World View: Dollar correction may not help deficit
By Marc Chandler
Published: November 28 2004 22:10

Could investors buying the rumours of a Chinese revaluation get caught out by selling after the fact?

Forecasting the foreign exchange market is a mug's game, according to Alan Greenspan, chairman of the Federal Reserve. But his warning has not stopped many people from trying and sentiment towards the dollar is currently as negative as it has been in nearly a decade.

The macro-economic argument seems straightforward and compelling. The US has been living beyond its means, importing much more than it has been exporting and in the process becoming the world's largest debtor. At nearly 6 per cent of gross domestic product, the current account deficit is unsustainable and the long-predicted dollar correction is upon us. A substantial decline in the dollar, so the argument goes, would boost US exports and deter imports. It may also force up US interest rates, to compensate investors for the currency risk, and reduce US appetite for imports.

Asia is the critical zone and China at the epicentre because it is there that the deficit is concentrated and officials are loath to allow the currency market to bear the burden of the adjustment process. If China allows the renminbi to appreciate in some fashion against the dollar from the Rmb8.278 peg, the political and economic elites of other Asian countries will also allow their currencies to appreciate against the US dollar. This in turn will help balance US books and allow China to achieve some domestic objectives, such as cooling the economy and slowing inflation.

But there is good reason to be suspicious that depreciation on any reasonable scale will bring the US trade account into balance. One critical fact is that the movement of goods within the same company accounts for a significant part of US trade - nearly a third of US exports and almost 40 per cent of US imports - and this trade tends to be less sensitive to currency market fluctuations.

A review of recent patterns may be even more persuasive. The euro reached its nadir in October 2000 near $0.825. That month, the 12-month US-western Europe trade deficit was $59.35bn. By September this year, the euro had appreciated by more than 50 per cent against the dollar, yet the 12-month trade deficit stood at $110.87bn - an 86 per cent increase.

Canada's story is similar. The US dollar peaked against the Canadian dollar in early 2002 near C$1.62. It is now trading at about C$1.18, a loss of just over a quarter of its value. But over that period, the 12-month US trade deficit with Canada has grown by 24 per cent from $50.35bn to $62.40bn in September 2004.

Let us not forget Japan. After putting in its historical low in the spring of 1995, worth less than Y80, the dollar recorded its cyclical high in August 1998 near Y147.50. Having lost nearly a third of its value since, the dollar is currently trading near Y103. The US 12-month trade deficit with Japan has widened by almost 20 per cent to $73.1bn.

If there is no guarantee that dollar depreciation will reduce the US current account deficit significantly, what about the benefits to Asia of floating currencies? The assertions often appear exaggerated. Most countries that have adopted floating currencies did so reluctantly. This includes the US as much as Brazil and Argentina. Europe has been reluctant since the get-go to embrace the volatility that floating exchange rates imply. The euro itself is the logical culmination of attempts since the break-up of Bretton Woods to minimise foreign exchange volatility among key trading partners.

The US, western Europe, and even Japan enjoyed rapid growth and modernisation under fixed exchange rates and limited capital mobility. Many countries in east Asia have experienced a prolonged period of strong growth under similar conditions. In response to the 1997-1998 financial crisis, Malaysia resisted the liberalisation pressure. It pegged the ringgit and limited capital mobility. In recent years, Malaysia's economic performance is just as good, if not better than its neighbours.

This is the context for arguments by some developing countries that the G7's repeated calls for more flexible currency regimes amount to kicking the ladder after one has climbed off.

The non-deliverable forward market, largely the creation of investment banks to circumvent a country's capital market restrictions, currently implies less than a 4 per cent appreciation of the renminbi against the dollar over the next 12 months. This is close to the historical extreme and in the big picture represents little more than a drop in the bucket, especially given that labour costs in China are on the magnitude of 1/25 of US levels. This also seems modest given the flood of speculative money that has reportedly flowed into the east Asian equity markets in anticipation of an appreciation of the renminbi.

Moreover, there are signs of moderating inflationary pressures and the latest data also suggest fixed asset investment and loan growth has slowed, easing the economic pressure for a stronger currency. Of course, China faces numerous challenges but the case for a near-term foreign exchange rate adjustment does not appear as compelling as the speculative community seems to think. In addition, it is possible that, in the not too distant future, China will begin running small trade deficits - not with the US but with the world as a whole.

In spite of the clamour and seemingly nearly universal opinion, the evidence suggests that an appreciation of the Asian currencies, and particularly China's renminbi, is no panacea for either the US trade deficit or China's own economic challenges. Structural reforms are the key not price adjustments. Investors pouring money into Asian currencies and equity markets, betting on a significant revaluation of the renminbi are vulnerable to disappointment. And even if a small revaluation takes place down the road, these investors are vulnerable to "buy the rumour sell the fact" type of activity. Forewarned is forearmed.

The writer is a partner in Terra Capital Partners, a financial advisory firm.E-mail: marc.chandler@ worldnet.att.net

New York Times: Dollar Drops Further as Central Banks Reassess Reserves By ERIC PFANNER

Dollar Drops Further as Central Banks Reassess Reserves
By ERIC PFANNER
International Herald Tribune

LONDON, Nov. 26 - The falling dollar reached new depths against the euro today, after a weeklong erosion of value prompted by concern that the dollar's status as the premier international reserve currency is growing more precarious.

The central bank of Russia said today that it would stop trying to peg the ruble solely against the dollar, shifting instead to a target based on a basket of global currencies. That could result in a decline in dollar purchases by the Russian central bank, whose currency reserves are dominated by dollar assets.

The biggest questions hang over Asian central banks, which have bought hundreds of billions of dollars' worth of United States Treasury securities and other dollar-denominated assets in recent years to slow the decline of the dollar, in order to safeguard their countries' exports to the United States.

Comments by a Chinese central bank official, suggesting that the bank might slow its dollar purchases, briefly sent the American currency into a volatile spin before they were retracted.

Analysts say any move to shift those banks' assets out of dollars could result in a sharp long-term fall in the dollar, given that the United States requires a steady inflow of close to $2 billion a day in international funds to finance its current-account deficit, a broad measure of trade in goods and services.

"The present situation could be maintained for a while yet, but overseas investors are unlikely to continue accumulating dollar assets at the current rate indefinitely," said Charles Bean, chief economist at the Bank of England, in a speech late Thursday. His comments appeared to echo a warning from Alan Greenspan, chairman of the Federal Reserve, last week.

By adding more euros and other currencies into the mix, central banks overseas would be able protect themselves against a loss of value in their holdings if the dollar continues to slide. The currency mixes of those banks' reserves may also reflect more accurately the trade relationships of their economies. A number of comments from Asian central bankers in recent days suggest that these banks are at least growing more reluctant to add to their vast quantities of dollar reserves, even if, analysts say, no wholesale move to dump them seems imminent.

The Chinese central bank official, Yu Yongding, appeared today to confirm market fears of a reappraisal of the bank's dollar holdings. The dollar bounced back, however, after a clarification from Mr. Yu, published on a Web site. Analysts said it remained unclear whether any policy changes were immediately in store at the Chinese central bank.

"Treat the story with caution, as it appears a tad dramatic," analysts at ABN AMRO wrote in a note to investors.

Indeed, the report, from China Business News, appeared to reflect confusion over the nature of China's dollar-denominated holdings. It quoted Yu as saying China had cut its Treasury holdings to $180 billion. But United States government data had recently shown Chinese holdings of only $174 billion in Treasury bonds.

If bonds issued by United States government agencies and other assets are included, however, China's dollar reserves probably are far higher.

Analysts at Barclays Capital said the central bank has total international reserves of more than $500 billion, about 70 percent of which probably has been invested in dollars.

A number of comments from other Asian central bankers - often quickly denied when reported by news agencies - have fueled speculation that their employers might consider shuffling their portfolios.
On Tuesday, a Russian central bank official, Alexei Ulyukayev, said his bank was considering altering the mix of its reserve holdings, possibly adding more euro-denominated assets, as the dollar weakens. And today, the bank's deputy chairman, Konstantin Korishchenko, said the bank would henceforth aim to keep the ruble trading within a range determined by a basket of currencies, not just the dollar.

The dollar, which traded as low as 102.18 Japanese yen after Yu's remarks, bounced back to 102.59 yen in New York today, up marginally from 102.58 yen late Thursday. The euro, which soared as high as $1.3329, was quoted late in New York at $1.3297, still up from $1.3240 on Thursday.

The size of the swings in the dollar today may have been magnified by the fact that currency trading desks were thinly staffed because of the Thanksgiving holiday in the United States and because Mr. Yu's comments came during the nighttime hours in London, the hub of global foreign-exchange trading.

Still, analysts say the overall tone for the dollar remains negative amid growing concern about the gap in the United States current account, as well as the shortfall in the federal budget.

Against the euro, "$1.35 now seems a natural target in the current dollar-selling frenzy," the ABN AMRO analysts wrote.

Other analysts say the dollar could fall further next year.

Still, a cautious tone prevailed in the markets as traders sought to prevent overexposing their own positions. Because the dollar has dropped so rapidly, falling nearly 8 percent against the yen since early October, for instance, it could bounce back sharply in the short term as traders take profits.

Also, there is the possibility of market intervention by central banks to try to prevent a sudden loss of confidence in the dollar. Most analysts think the Federal Reserve and the European Central Bank are unlikely to intervene in the near term, though the E.C.B. would grow increasingly worried about the strength of the euro if it climbed over $1.35.

Meanwhile, China has signaled that it will continue to resist calls to revalue the yuan in the near term, and Japanese policy makers want to avoid an overly steep climb in the value of the yen, which could undermine Japan's economic recovery.

As the dollar has fallen in recent weeks, it has pushed up the value of gold and oil. Trading in both of those commodities is denominated in dollars, so some of the movement is simply a balancing effect as the dollar weakens. But gold is also seen as a store of value at times of uncertainty in the markets.

Today as the dollar fell, gold prices briefly surged above $455 an ounce, the highest price since June 1988, before easing back.

New York Times: "When Weakness Is a Strength" by Stephen Roach

When Weakness Is a Strength
By STEPHEN S. ROACH

New York Times

November 26, 2004

Suddenly all eyes are on a weakening dollar. In recent days, the American currency has fallen against the euro, the yen and most other currencies around the world. The renminbi is a notable exception; China has kept its currency firmly pegged to the dollar for a decade.

The fall of the dollar is not a surprise. It is the logical outgrowth of an unbalanced world economy, and America's gaping current account deficit - the difference between foreign trade and investment in the United States and American trade and investment abroad - is just the most visible manifestation of these imbalances. The deficit ran at a record annual rate of $665 billion, or 5.7 percent of gross domestic product, in the second quarter of 2004.

While a decline in the dollar is not a cure-all for what ails the world, it should go a long way toward bringing about a sorely needed rebalancing. With a weaker dollar, economic and even political tensions among nations would be relieved, helping to promote more sustainable growth in the global economy.

Still, a debate persists as to the wisdom of allowing the dollar to decline. The Bush administration seems to have given its tacit assent, and Alan Greenspan, chairman of the Federal Reserve, is finally on board. But outside the United States, where policymakers have long been vocal in their displeasure over America's deficits, officials are now objecting to America's cure. Europeans have referred to the dollar's recent decline as brutal. The Japanese have threatened to intervene again in foreign exchange markets. And Chinese officials have argued that global imbalances are "made in America."

In this blame game, it's always the other guy. Yet global imbalances are a shared responsibility. America is guilty of excess consumption, whereas the rest of the world suffers from insufficient consumption. Consumer demand in the United States grew at an average of 3.9 percent (in real terms) from 1995 to 2003, nearly double the 2.2 percent average elsewhere in the industrial world.

Meanwhile, Americans fail to save enough - whereas the rest of the world saves too much. American consumers have borrowed against the future by squandering their savings. The personal savings rate was just 0.2 percent of disposable personal income in September - down from 7.7 percent as recently as 1992. Moreover, large federal budget deficits mean the government's savings rate is negative.

Lacking in domestic savings, the United States must import foreign savings to finance the growth of its economy. And it runs huge current-account and trade deficits to attract such capital from overseas.

America's consumption binge has its mirror image in excess savings elsewhere in the world - especially in Asia and Europe. For now, America draws freely on this reservoir, absorbing about 80 percent of the world's surplus savings. Just as the United States has moved production and labor offshore in recent years, it is now outsourcing its savings.

This is a dangerous arrangement. The day could come when foreign investors demand better terms for financing America's spending spree (and savings shortfall). That is the day the dollar will collapse, interest rates will soar and the stock market will plunge. In such a crisis, a United States recession would be a near certainty. And the rest of an America-centric world would be quick to follow.

The only way to avoid this unhappy future is for the world's major central banks to carefully manage a gradual but significant depreciation of the dollar over the next several years. America, and the world, would gain in several ways.

First, there would be a gradual rise in interest rates in the United States - compensating foreign investors for financing the biggest debtor in the world. That would suppress growth in those sectors of the American economy that are most sensitive to interest rates, like housing, consumer durables like cars and appliances, and business capital spending. The result: a higher domestic savings rate and a reduced need for foreign capital - a classic current-account adjustment.

Second, when the dollar falls, other currencies rise. So far, the euro has borne a disproportionate share of the change. That puts increased pressure on Asian nations - including China - to share in the adjustment by allowing their currencies to strengthen. Most currencies in Asia are now rising, but the renminbi has remained conspicuously unmoved.

Third, as the currencies of Asia and Europe strengthen, their exports will become less attractive to American consumers. This will force Asia and Europe to work to stimulate domestic demand to compensate - resulting in a reduction of both excess savings and current-account surpluses. This is easier said than done, especially since it may require painful structural reforms, like a loosening of domestic labor markets, to unshackle internal demand.

Fourth, a weaker dollar might defuse global trade tensions. Dollar depreciation will support American exports, and higher interest rates should slow domestic demand and reduce imports. That means the United States trade deficit should narrow - tempering protectionist risks. And with Asian countries allowing their currencies to fluctuate, Europe gets some relief and may be less tempted to resort to protectionist remedies.

What's certain is that a lopsided world needs to be put back into balance. The dollar is the world's most widely used currency, but its fall affects more than just foreign-exchange rates. A weakening dollar is an encouraging sign that the world's relative price structure - essentially the value of one economy versus another - is becoming more sensible. If the world can manage the dollar's decline wisely, there is more reason for hope than despair.

Stephen S. Roach is chief economist for Morgan Stanley

Prudent Investor: A Compelling Buy!

With the US Dollar appearing to fall from a cliff....

Gold seems to Rise above the Din....



Which should bring the forth a momentous buying opportunity from the Philippine Mining Index which has apparently lagged behind the current developments (down below)….

phi mining 

Financial Times: Dollar recovers on denial of Chinese sell-off

Dollar recovers on denial of Chinese sell-off

By Steve Johnson in London and Mure Dickie in Beijing

Published: November 26 2004 11:14

Last updated: November 26 2004 11:14

The dollar rallied from new lows in European morning trade on Friday as a Chinese official backtracked from earlier claims that China had started to shift its vast foreign exchange reserves out of dollars.

Shanghai-based China Business News quoted Yu Yongding, a member of the central bank’s advisory monetary policy committee, as “revealing” that the rate of increase of holdings of US government bonds had fallen and total holdings were currently around $180bn.

This tied in with recent speculation that China, which is believed to hold around 80 per cent of its $515bn of reserves in dollars, has already begun to diversify out of the dollar in order to minimise potential losses in the event of a further dollar decline. Russia’s central bank hinted on Tuesday that it would continue its policy of shifting reserves from dollars to euros, and there have been suggestions that Japan may follow suit.

Analysts also seized on data released on Thursday showing portfolio inflows into the eurozone rose to €39.6bn in September from €6.3bn in August as evidence of an ongoing shift out of US assets.

Meanwhile Charles Bean, chief economist at the Bank of England, said: “Overseas investors are unlikely to continue accumulating dollar assets at the current rate indefinitely.”

The China Business report helped send the dollar sharply lower to a fresh all-time low of $1.3329 against the euro, a near five-year low of Y102.19 against the yen and a nine-year low of SFr1.1337 against the Swiss franc.

However Prof Yu claimed the report was an erroneous account of an off-the-record address to students in Shanghai and stressed that he had no personal knowledge of the composition of China’s foreign exchange reserves or reserve strategy.

Prof Yu, a respected professor of economics, said he had merely quoted statistics from the US Federal Reserve supplied to him by friends at a foreign investment bank. “I think the Chinese monetary authorities are very clever and they must already have taken action,” he said. “But I have no information whatsoever about what they are doing.”

Analysts also questioned Prof Yu’s comment that holdings of US government bonds had fallen to $180bn. The most recent US Treasury data showed China holding $174.4bn of Treasuries in September. At the recent rate of accumulation, this would only have risen to $180.8bn by the end of this month anyway, according to Mitul Kotecha, global head of FX strategy at Calyon.

Adam Cole, senior currency strategist at RBC Capital Markets, suggested that the real story was that China was slowing the pace at which it accumulates US Treasuries. “This should not be major news as there has been a general perception that China was diversifying reserve holdings out of dollars for some time,” he said.

This clarification, combined with renewed jitters about the prospect of intervention to prop up the ailing dollar, allowed the greenback to erase all of the losses incurred in Asian trading, recovering to $1.3224 against the euro, Y102.92 versus the yen and SFr1.1462 against the Swiss franc.

“After moving nearly 4 cents in a week [against the euro], the dollar’s decline is turning disorderly, raising the chances of aggressive central bank intervention, perhaps within days,” said Mark Cliffe, economist at ING Financial Markets.

Reuters: Gold Eyes New Highs

Gold Eyes New Highs

Thu Nov 25, 2004 09:45 AM ET

By Nick Trevethan

LONDON (Reuters) - Gold broke to new 16-1/4-year highs above $450.00 an ounce on Thursday, before pausing as players began to eye the next big target of $455, traders said.

With U.S. markets closed for Thanksgiving holidays on Thursday and Friday, analysts and traders said gold might again challenge the day's peak, driven by an ailing dollar in conditions made thin and volatile by the U.S. holiday.

Barclays Capital's Kamal Naqvi said the market was looking at new resistance levels.

"People tell me the next resistance level is $455, but our technical analysts actually say higher at about $461," he said.

"But there's some good selling at the moment and I'm thinking the market...could retrace some more," one trader said.

By 9:32 a.m. EST spot gold (XAU=: Quote, Profile, Research) was at $450.50/451.00, up from New York's late close of $448.75/449.50 and against the high reached earlier on Thursday at $452.75.

The euro (EUR=: Quote, Profile, Research) was seen sitting firm at $1.3216 near all-time highs of $1.3237 set on earlier on Thursday.

Gold has gained 13 percent since early September, climbing steadily on the back of a weakening dollar, which makes dollar-priced gold cheaper for buyers in other currencies.

Analysts and traders said the euro/dollar rate was still the key driver for gold, but they expected a small retracement as players took profits before the metal consolidated above $450.
Traders were also watching for possible intervention by the Bank of Japan, which is worried about dollar-yen levels.

"With the U.S. market effectively on holiday for the rest of the week, it is clear that some market players have seen this as an opportunity to attempt to break and hold above the $450 level," a daily report by Barclays Capital said.

Dresdner Kleinwort Wasserstein questioned whether buying would be strong enough to push gold through the next target of $455.

Analysts added that speculative exposure on the New York gold market remained high, so the risk was growing of sharp moves ahead of the year's end.

Other precious metals mostly firmed on gold's gains.

Spot silver (XAG=: Quote, Profile, Research) was at $7.64/7.67, up from New York's close of $7.53/7.56.

Platinum (XPT=: Quote, Profile, Research) was up to $861.00/867.00 from $850.50/855.50, but palladium fell to $213.00/217.00 from $214.00/218.00. (Additional reporting by Iza Kaminska)

Buttonwood of the Economist: The dollar’s demise

The dollar’s demise
Nov 23rd 2004
From The Economist Global Agenda

Is the dollar’s role as the world’s reserve currency drawing to a close?

WHO believes in a strong dollar? Robert Rubin, Bill Clinton’s treasury secretary, most certainly did. John Snow, his successor but two, says he does but nobody believes him—if only because he wants other countries’ currencies, in particular the Chinese yuan, to go up. Mr Snow’s boss, President George Bush, in one of his mercifully rare forays into economics last week, also said he wants a muscular currency: “My nation is committed to a strong dollar.” Again, it would be fair to say that this was not taken as a ringing endorsement. “Bush’s strong-dollar policy is, in practical terms, to maintain a pool of fools to buy it all the way down,” a fund manager was quoted by Bloomberg news agency as saying. It does not help when the chairman of your central bank, Alan Greenspan, whose utterances on the economy are taken rather more seriously than Mr Bush’s, has said the day before that the dollar seems likely to fall: “Given the size of the current-account deficit, a diminished appetite for adding to dollar balances must occur at some point,” were his exact words. The foreign-exchange market immediately decided that it was sated, and the dollar fell to another record low against the euro.

Mr Greenspan’s words were of huge moment, and not just because he spoke clearly, unusual though this was, nor because the Federal Reserve rarely comments on foreign-exchange movements. No, Mr Greenspan’s words were significant because he was tacitly admitting what right-thinking economists the world over have long believed: that the emperor has no clothes.

Mr Greenspan’s previous line had been that America’s ever-expanding current-account deficit was not a problem when capital could flow so freely around the world; and that, in effect, it would continue to flow to America because the country is such a wonderful place in which to invest. Now he is saying that it won’t, or at least that investors will demand a cheaper dollar, or cheaper assets, or both, to carry on financing America’s deficit.

But Buttonwood suspects that the deeper significance of Mr Greenspan’s admission is that the game that has been played since the collapse of the Bretton Woods system in the early 1970s is drawing to a close. The dollar’s status as the world’s reserve currency—its preferred store of value, if you will—is gradually coming to an end. And, ironically, the fact that it has become so popular in recent years will only hasten its demise.

One man who undoubtedly believes in a strong dollar is Japan’s prime minister, Junichiro Koizumi. Unlike America, Japan has been putting its money where its leader’s mouth is. On behalf of the finance ministry, the Bank of Japan has bought more dollars than any other central bank has ever done. At last count, it had the equivalent of $820 billion in foreign-exchange reserves, most of it denominated in the American currency.

As goes Japan, so goes the rest of Asia. In an interview this week with the Financial Times, Li Ruogu, the deputy governor of China’s central bank, the People’s Bank of China, said that his country would not be rushed into revaluing the yuan, and that America should put its own shop in order. Mr Ruogu’s bank, too, has been a huge buyer of dollars in recent years. China and the rest of developing Asia now have $1.4 trillion of reserves, mostly dollars. This is more than the combined reserves of the rest of the world (excluding Japan). Thanks mostly to Asian intervention, foreign-exchange reserves at the world’s central banks have climbed from $2 trillion in 2000 to $3.5 trillion in 2004.

It used to be that countries amassed reserves as a war chest to protect against a run on their currencies of the sort suffered by East Asia in 1997, or Russia in 1998. But Asian countries have snaffled up far more than would be justified to prevent such crises. Their aim in accumulating these reserves is generally different now: to stop their currencies rising against the dollar and so keep their exports competitive. In effect, they are trying to peg their currencies; China’s peg is explicit. Huge foreign-exchange reserves are the result.

Some pundits have dubbed this arrangement the new Bretton Woods. The Bretton Woods arrangement (a post-second world war agreement that tied the dollar to gold and other currencies to the dollar) collapsed in 1971. The present arrangement seems similarly doomed to failure. The big question is whether the world will suffer similarly ill effects when it collapses.

Past saving?

The upward pressure on Asian countries’ currencies stems either from their saving too much and consuming too little, or from America saving too little and spending too much. American politicians, naturally, tend to concentrate on the first interpretation, because it stops them having to recommend unpleasant remedies, such as cutting deficits or encouraging Americans to save more. But Mr Greenspan’s most recent comments show that he recognises the problem is more home-grown. Personal saving in America, as a percentage of household income, slumped to just 0.2% in September, close to a record low. Indeed, the savings rate has been declining remorselessly since 1981, when it reached a high of 12.5%. This lack of saving shows up in the current-account deficit, which is a record near-6% of GDP and rising.

In effect, foreigners are saving on America’s behalf. In a recent study for the New York Fed, two economists, Matthew Higgins and Thomas Klitgaard, point out that the United States now absorbs more than the measured net saving of the rest of the world combined (suggesting someone’s got their figures wrong somewhere). The American economy cannot continue to expand at its current rate without those foreign savings. The question is whether foreigners will be happy to carry on financing this growth with the dollar and asset prices at their present level. The private sector is already voting with its wallet: it has been financing an ever smaller percentage of the deficit, and there has been a net outflow of direct investment. That leaves the public sector—ie, central banks—and those, in particular, of Asia.

At the heart of the central banks’ calculations is a trade-off: intervening to keep your currency down can be costly, but it is good for exports. Though the costs of intervention are hard to quantify, they are potentially big. Because the domestic money supply is expanded—those dollars must be paid for with something—it can cause inflation (though this can be neutralised through “sterilisation”, ie, bond sales). But the big potential cost is in amassing a huge stash of dollars with precious little exit strategy. Quite simply, Asian central banks now own too many of them to exit en masse, for their exit would cause the dollar to crash and American interest rates to soar, which would cause huge losses on their holdings of Treasuries.

Get out while you can

The biggest risk, of course, is that lenders would lose pots of money were the dollar to fall. As the printer of the world’s reserve currency, America can pass on foreign-exchange risk to the lenders because, unlike other indebted countries, it can borrow in its own currency. Messrs Higgins and Klitgaard reckon that for Singapore, the most extreme example, a 10% appreciation against the dollar and other reserve currencies would lead to a currency capital loss of 10% of GDP. Though loading up with even more dollars might of course stop the dollar from falling for a while, it would increase the risk of still larger losses were it eventually to do so. America already needs almost $2 billion a day from abroad to finance its spending habits, and the situation deteriorates by the week because America imports more than it exports, which worsens the current-account deficit.

The incentives to flee the Asian cartel (to give it its proper name) thus increase the bigger the game becomes. Why take the risk that another central bank will leave you carrying the can? Better to get out early. Because the game is thus so unstable it will come to an end, and probably a messy one. And what will then happen to the dollar? It is hard to imagine its hegemony remaining unchallenged when so many will have lost so much. And doubly so given that America has abused the dollar’s reserve-currency role so egregiously that its finances now look more like those of a banana republic than an economic superpower.

Financial Times: China tells US to put its house in order

China tells US to put its house in order

By James Kynge in Beijing, Chris Giles in London and James Harding in Santiago

Published: November 22 2004 18:36 Last updated: November 22 2004 18:36

In a mark of China's growing economic confidence, the country's central bank has offered blunt advice to Washington about its ballooning trade deficit and unemployment.

In an interview with the Financial Times, Li Ruogu, the deputy governor of the People's Bank of China, warned the US not to blame other countries for its economic difficulties.

“China's custom is that we never blame others for our own problem,” said the senior central bank official. “For the past 26 years, we never put pressure or problems on to the world. The US has the reverse attitude, whenever they have a problem, they blame others.”

Mr Li insisted an appreciation of the Chinese currency would not solve the US's structural problems and that although China was “gradually” moving towards greater exchange rate flexibility, it would not do so under heavy external pressure.

“Under heavy speculation we cannot move [towards greater flexibility] and under heavy external pressure we cannot,” said Mr Li. “So the best environment for us to gradually move towards a more flexible exchange rate is when people don't talk about it.”

His comments will disappoint US, Japanese and European politicians. Pressure has mounted on the Chinese administration to revalue the renmimbi or to increase the flexibility of the Chinese exchange rate over the past two years.

Mr Li said China could only permit greater renminbi flexibility after creating a domestic financial infrastructure, including reformed banks and developed markets, able to cope with a more liberalised currency mechanism; considering the conditions and the wishes of neighbouring Asian economies on any move towards a more flexible system; and educating people on how to deal with a new exchange rate system, teaching them how to hedge.

Mr Li, who spoke before a meeting of the Asia-Pacific Economic Co-operation (Apec) forum last weekend, said China did not want to run trade surpluses or accumulate foreign currency reserves. Its reserves stand at $515bn.

“If there is a small deficit, we are not concerned. But certainly we don't want to run into the US situation of having a trade deficit of 6 per cent of GDP,” he said.

“That is not sustainable,” he added. “The appreciation of the RMB will not solve the problems of unemployment in the US because the cost of labour in China is only 3 per cent that of US labour they should give up textiles, shoe-making and even agriculture probably.

“They should concentrate on sectors like aerospace and then sell those things to us and we would spend billions on this. We could easily balance the trade.”

China's timetable for freeing up the renminbi is expected to have an impact on sales of US goods to the mammoth and growing Chinese market as well as the consumption of Chinese goods in America.

The recent, adjustment to Chinese interest rates is seen by some in Washington as evidence that Beijing accepts administrative measures that are no longer an effective means of managing an increasingly liberalised market.

At last weekend's G20 meeting, finance ministers and central bank governors called for a global effort to reduce trade imbalances, and in partiuclar, the US current account deficit. John Snow, the US treasury secretary, repeated his commitment to work towards halving the US budget defict and to increase net US national saving, which would reduce the current account deficit.

But President George W. Bush's assurances at the weekend that his administration is committed to a strong dollar policy appeared to do little on Monday to encourage buying of the dollar, evidence of how far the White House's credibility on currencies has been undermined by the rising deficit. In mid day trading in New York the dollar was at 1.304 against the euro and 103.21 against the yen.