Speaker 1: Hello, and welcome to another episode of the Odd Locks podcast.
Speaker 2: I'm Joe Wisenthal and I'm Tracy Alloway.
Speaker 1: Tracy Dollar strength, dollar dominance conversation is not going away.
Speaker 2: No, I mean it's never really gone away.
Speaker 3: Is that?
Speaker 4: Like?
Speaker 2: That was our intro for the last episode we did
Speaker 2: on this topic, which is it seems like every couple
Speaker 2: of years you get this resurgence about oh, the end
Speaker 2: of the dollar. The dollar's going to lose its exorbitant privilege.
Speaker 2: I remember my dad sending me articles about like, oh,
Speaker 2: a Rack is invoicing oil in euros like in nineteen
Speaker 2: ninety eight or something. Lots of conspiracy theories around that one.
Speaker 2: But I will say we had that conversation with Paul McNamara.
Speaker 2: It was a really good overview of some of the
Speaker 2: talk that's happening right now and why certain countries scifically
Speaker 2: emerging markets like China might want to get away from
Speaker 2: the dollar. But I feel like there's more to say.
Speaker 1: All right, I'm going to make a confession, which is
Speaker 1: that in all of these conversations, there are certain things
Speaker 1: that people say and I just sort of like nod
Speaker 1: in my head to like, M that's right. That's right,
Speaker 1: but I don't totally get them. And one of them
Speaker 1: and it can it's not even so much about the
Speaker 1: dollar per se, but about dollar alternatives, right, And the
Speaker 1: big one is like, well, the redmon B cannot be
Speaker 1: a real dollar alternative until China runs a current account deficit.
Speaker 1: That's right, that's right, But like beyond that, like I actually,
Speaker 1: like do not totally get what that means or what
Speaker 1: what actual constraint China's trade position with the rest of
Speaker 1: the world means for the future of renman B internationalization.
Speaker 2: Well, I think the way I would frame it is,
Speaker 2: one thing we hear is that there isn't a viable
Speaker 2: alternative to the dollar. There are no other currencies slash
Speaker 2: country economies that are at the level the US's that
Speaker 2: could possibly replace the dollar. And so I think we
Speaker 2: need to talk about why that is, what exactly that means?
Speaker 2: What does it mean? So I get the idea that, Okay,
Speaker 2: maybe a country doesn't have enough financial assets for savers
Speaker 2: to buy to put their excess money in. I get that,
Speaker 2: But what does it mean that it's not a viable alternative?
Speaker 1: And I guess the question is like, okay, but what
Speaker 1: would it take yeah, right, Like it's like, I guess
Speaker 1: we could sort of agree this basic premise. Maybe there's
Speaker 1: some impulse for some countries to move away from the dollar. Also,
Speaker 1: there are no real alternatives at this point, but maybe
Speaker 1: at one point there will be. But actually, what would
Speaker 1: it take for another currency, maybe the renmand be, maybe
Speaker 1: the euro, to actually become a meaningful global reserve Now, if.
Speaker 2: China woke up tomorrow and put this like at the
Speaker 2: top of its agenda, I don't think it's going to,
Speaker 2: but what would that sort of ten step plan actually
Speaker 2: look like.
Speaker 1: That's a great way to sort of frame the conversation.
Speaker 1: What would it actually look like. So we're going to
Speaker 1: sort of be having part two to our recent conversation
Speaker 1: with Paul actually a long time a friend of Paul's,
Speaker 1: so maybe a similar, different perspective, but sort of like
Speaker 1: of what would it take for some other currency to
Speaker 1: be a meaningful global reserve currency. I'm very excited we're
Speaker 1: gonna be speaking with karthik sonchron a true FX veteran,
Speaker 1: recently at Corpe, He's been at Eurrasier Group, multiple banks,
Speaker 1: an avid maker of dad jokes and puns on Twitter.
Speaker 2: So just to actually cover Paul when he was trading right.
Speaker 1: So a perfect guest for this conversation in many respects,
Speaker 1: and someone who I feel like I've wanted to have
Speaker 1: on the show for like years and is like, in
Speaker 1: my mind, an odd lot's guest even though he hasn't
Speaker 1: been on the show before. Karthik sonchron thank you so
Speaker 1: much for finally joining us here.
Speaker 3: Thank you very much for having me. So that's a
Speaker 3: pleasure to be here.
Speaker 4: And what does that mean?
Speaker 1: Actually before I want to get to the alternatives just
Speaker 1: before we do, though, real quickly. I mean, you listen
Speaker 1: to our recent episode with your long time friend and
Speaker 1: colleague Paul McNamara, in which he said there is some
Speaker 1: global impulse for countries to stop using dollars, but there
Speaker 1: really aren't many alternatives. Do you basically agree with that premise?
Speaker 3: Yeah, I mean there are. I'd say two things about that.
Speaker 3: One is I think going to replacement, and that's how
Speaker 3: this usually gets framed as replacements. I think that's silly.
Speaker 3: And the way I think about it is, would it
Speaker 3: makes sense to see creeping regional displacement rather than replacement?
Speaker 3: And I think that's that's that's that's the possibility, and
Speaker 3: I would argue that the Euro has already done that
Speaker 3: to some extent in you know, not just in the
Speaker 3: Euro area, but also in Central and Eastern Europe, you know,
Speaker 3: And I remember when I started my career. You know,
Speaker 3: if you wanted to trade there's lotty, you traded dollar
Speaker 3: Polish and if someone asked for a price in Marx Lotti,
Speaker 3: you traded through the legs. Now it's the other way around.
Speaker 3: You know, if someone asked for a price in dollar Polish,
Speaker 3: you trade. You're Polish and you're a dollar. So it's
Speaker 3: taken a long time, but I think that's this regional
Speaker 3: displacement idea. But what this also brings out to me
Speaker 3: at least is everyone is so excited about the re
Speaker 3: memby kind of this bricks currency and so on. And
Speaker 3: one way to frame why I think, you know, there
Speaker 3: is a desire but it's a very long way from
Speaker 3: being fulfilled, is that look at what the euro has,
Speaker 3: which is kind of a solid number two pretty you know,
Speaker 3: kind of like avis to the dollars hurts. At least
Speaker 3: that's the way the old commercials used to go. But
Speaker 3: the re memb is really really really far behind. And
Speaker 3: one thing, just because I've been introduced as an avid
Speaker 3: maker of dad joke.
Speaker 4: First one to the first one here.
Speaker 3: It is is that or whenever this is played? But
Speaker 3: you know, you mentioned a ten step program for re
Speaker 3: memb internationalization, and I was reminded that the last person
Speaker 3: who had a ten step program that really worked with
Speaker 3: gengis Khan.
Speaker 4: Okay, let's not go anywhere.
Speaker 2: Okay, sorry, I'm gonna at the dad jokes. Just to
Speaker 2: back up a second.
Speaker 1: Oh, it took me a second to get that one. Actually, sorry,
Speaker 1: I it took me a second to get that.
Speaker 4: That's a good life. Okay, we're gonna have a fun
Speaker 4: time here.
Speaker 2: Just to backup and ask this question in a different way.
Speaker 2: But I mean, there is there is this assumption that
Speaker 2: China would want to have renman be internationalization. Should they
Speaker 2: want that? You know, if you consider China as an
Speaker 2: export driven economy that exchanges goods in return for US dollars,
Speaker 2: which are a relatively stable currency, does it make sense
Speaker 2: that it would want to have a different economic model.
Speaker 2: What are the benefits that it gets out of that?
Speaker 3: I mean, I disagree with this, you know, and the
Speaker 3: stuff that Joe mentioned in the beginning, does the country
Speaker 3: at the center of the international monetary system need to
Speaker 3: run deficits, and I don't think that's necessarily in fact,
Speaker 3: because you have a model written under the gold standard
Speaker 3: with a huge exporter of capital. The US, until the
Speaker 3: mid nineteen sixties was the center of the Bretonwood system
Speaker 3: and was also a huge exporter of capital. So what
Speaker 3: that suggests is that it is possible for a surplus
Speaker 3: country to run to be the center of the monetary system.
Speaker 3: You just have to find a way to get that
Speaker 3: currency out the door in size, in massive size. And
Speaker 3: you can do that either through the trade account by
Speaker 3: running very large external deficits, or you can do it
Speaker 3: by externing great jobs of capital either in your currency
Speaker 3: or that other countries are denominating your currency. So I
Speaker 3: think that's one way to think about it. But clearly
Speaker 3: China is not there, and they'll have a very long
Speaker 3: time getting there, not just because of the issues with
Speaker 3: capital con convertibility, but there's a lot of things in
Speaker 3: the basic way that Chinese financial markets operate that make
Speaker 3: it difficult even for other people to issue in REMN
Speaker 3: and BA size.
Speaker 1: So let's jump into this because I think this is
Speaker 1: a point that I have not really heard many people make.
Speaker 1: So people make the point that it's like, Okay, one
Speaker 1: way to get your currency out there into the world
Speaker 1: is to run a big trade deficit. But as we know,
Speaker 1: and I'm even thinking back to some of our conversations
Speaker 1: with like lev men and about the rise of the
Speaker 1: shadow banking system in euro dollars, the other pot way
Speaker 1: is just for other entities to start issuing your currency
Speaker 1: or assets that are denominated in your currency. And theoretically
Speaker 1: I could issue a renmon b denominated loan and off
Speaker 1: tell someone I'm going to pay them back in renman b.
Speaker 4: But you made this point with respect.
Speaker 1: It's a great thread with respect to Brazil, which is
Speaker 1: that actually like what we need to see as countries
Speaker 1: like Brazil being willing to take out renmon be denominated debt.
Speaker 1: Can you talk a little bit about the importance of that, Like,
Speaker 1: I think that's a very powerful thing.
Speaker 4: Not many people have talked about like this element of it.
Speaker 3: Yeah, And I think they are actually two issues in
Speaker 3: some ways. It might actually be a good idea for
Speaker 3: Bristol to issue remimbi debt, right because you have and
Speaker 3: I think this is one of the arguments for a
Speaker 3: multipolar system. More broadly is if you're a country whose
Speaker 3: terms of trade are driven by what's happening in China,
Speaker 3: if your business cycle is much more responsive to China,
Speaker 3: that it makes sense to be able to issue in
Speaker 3: the Chinese currency, because what you don't want to be
Speaker 3: in the situation that you see emerging markets end up
Speaker 3: in all the time they issued in dollars, the commodity exporters,
Speaker 3: commodities are priced in dollars, the world slows Chinas, commodity
Speaker 3: prices tank, the dollar goes up, and their host I
Speaker 3: mean this is like, you know, this is like this
Speaker 3: rinse and repeat cycle in the international financial system. So
Speaker 3: it might actually make sense for you know, that thread
Speaker 3: for you know, I was saying, like I'll get excited
Speaker 3: when cbr D issues like a huge amount in pandemonds.
Speaker 3: But that's difficult, that's really difficult, and there's so many
Speaker 3: different reasons for that related to the way Chinese financial
Speaker 3: markets work. One is, if you issue in REDMENB, which
Speaker 3: remenbe do you want to issue in do you want
Speaker 3: to issue in the onhore market which is deeper, or
Speaker 3: do you want to issue in the offshore market, which
Speaker 3: you know, which where you might have more people able
Speaker 3: to transact, but it's a much sellower market. If you
Speaker 3: do end up issuing the entre market, obviously they're you know,
Speaker 3: and you may not want to. The reputation that Chinese
Speaker 3: investors have is of being somewhat more excitable. I think
Speaker 3: we've seen that in via in the equity markets. On
Speaker 3: the other hand, if you issue offshore, the problem is
Speaker 3: that China not only have as to currency CNY and
Speaker 3: CNH and not your currency and off shore currency that
Speaker 3: trade reasonably closely together a lot of the time. But
Speaker 3: one of the ways they do that is by having
Speaker 3: different interest rates. And one of the things that Chinese
Speaker 3: do periodically is when their worried about the speculative pressure
Speaker 3: on their MMB, which they think is coming from offshore players,
Speaker 3: is they will jack up interest rates on CNH. They
Speaker 3: will take it to the moon. They've seen it a
Speaker 3: few times, which might work in deterring the speculators, bring
Speaker 3: you know, speculative pressure back down again, get CNY and
Speaker 3: CNH to converge, but that's really not that comfortable if
Speaker 3: you've issued in you know, in the you know, in
Speaker 3: the off shore currency. So you know, and one of
Speaker 3: the things that the US has the dollar has is
Speaker 3: incredibly deep derivative markets or instance, so if you want
Speaker 3: to issue, if you if you issue in dollars and
Speaker 3: you want to head your interest rate risk, you can
Speaker 3: do it by trading your dollars. Probably the most liquid,
Speaker 3: one of the most liquid financial futures contracts in the world,
Speaker 3: I would remember financial futures. Interest rate futures are just
Speaker 3: a are like a very very very small fraction of that.
Speaker 3: The other issue with issuing on shore is you know
Speaker 3: what's your and I'm China has this huge domestic debt market.
Speaker 3: It's the world's second largest debt domestic debt market, but
Speaker 3: to a very significant extent, it's composed of entities with
Speaker 3: opaque finances. Right the CGB market, the Chinese government bond
Speaker 3: market is a relatively small fraction of the onshore market.
Speaker 3: Just true, you know which and treasuries are not the
Speaker 3: entirety of the US market either, but the opacity of
Speaker 3: entities issuing domestically is significantly hard. You know. My one
Speaker 3: liner on this is everyone talks about China not having
Speaker 3: a rule of law. My view is that the real
Speaker 3: problem the China doesn't have rule of accounting. That's the
Speaker 3: real issue here, so expect that.
Speaker 2: Yeah, I was expected I was stealing myself karthk So
Speaker 2: I guess this brings me to the big question, which
Speaker 2: is how much of this boils down to just capital
Speaker 2: controls and the fact that China does not have an
Speaker 2: open economy, and you might expect that one of the
Speaker 2: requisites for having an international currency would be to have
Speaker 2: relatively free movement of that currency.
Speaker 3: Absolutely, I mean that's I think capital controls are a
Speaker 3: you know, and that's the obvious that's the obvious one,
Speaker 3: and they're trying to tinker with it at the edges,
Speaker 3: allowing in flows and outflows. But even at those edges,
Speaker 3: you know, what I was trying to get at was
Speaker 3: this idea that you know, you have in offshore rem MEMB.
Speaker 3: That's much that's more freely tradeable than the onshore REMMB,
Speaker 3: But there are very sizable disincentives to issuing in size
Speaker 3: in the offshore REMMB because these things like a smaller market.
Speaker 3: How do you head? So capital controls are a huge
Speaker 3: part of it, But if you dig deeper into the
Speaker 3: capital controls issue, I think it raises more questions.
Speaker 1: Well, then I would sort of want to maybe just
Speaker 1: go back to a question Tracy asked, which is, like,
Speaker 1: is there a reason China should pursue the internationalization of
Speaker 1: the renmen b or should pursue having more global central
Speaker 1: banks hold renmon be as part of their reserve stock, Like,
Speaker 1: is there some obvious reason why you know, it's not
Speaker 1: going to be number one on the agenda, but is
Speaker 1: there a reason why it should be in the top
Speaker 1: ten or top twenty of the agenda.
Speaker 3: I mean, one of the things that they've said for
Speaker 3: years is that they want to see a more internationalizedrum,
Speaker 3: and but I think when they look at the trade
Speaker 3: offs that they might need to make, I don't think
Speaker 3: they're ready to, you know, take a to take a
Speaker 3: huge jump. And I think the the other issue is
Speaker 3: that we've seen this before, right Japan didn't want to.
Speaker 3: Japan didn't want to either, And about thirty years ago
Speaker 3: people were talking about the extent to which Japan and
Speaker 3: the end could act as another reserve currency, and the
Speaker 3: Japanese just decided they simply didn't want to because of
Speaker 3: the pressure it would put on the profitability of their
Speaker 3: industrial base. Things are somewhat different from China in the
Speaker 3: sense that they seem to have a hankering for kind
Speaker 3: of broad spectrum global power in a way that the
Speaker 3: Japanese did not have, and maybe having an international currency
Speaker 3: is part of that, but to the extent that it happens,
Speaker 3: it would likely be much more halting. But they've got
Speaker 3: a really, really long way though regard.
Speaker 2: So Karthik, just going back to the deficit, I and
Speaker 2: I know you kind of spoke to this already, but
Speaker 2: what if instead of telling China to run like a
Speaker 2: massive deficit, what if China was able to retool its
Speaker 2: economy in some way where I mean, the reason it
Speaker 2: runs this big ball of savings that tends to roll
Speaker 2: around internally is because there isn't that much of a
Speaker 2: social safety net. There isn't that much of a you know,
Speaker 2: social welfare in the state, and so people tend to
Speaker 2: accumulate a lot of savings or maybe rely on their children.
Speaker 2: But given the one child policy that's been in effect
Speaker 2: for a long time until recently, that wasn't really viable.
Speaker 2: What if China just built a social safety net to
Speaker 2: reduce the excess savings. Would that go some way towards
Speaker 2: retooling the economy in such a way that you could
Speaker 2: have r and b internationalization.
Speaker 3: Yeah, I mean I think so. I mean, to my mind,
Speaker 3: it would actually take care of two or three different issues.
Speaker 3: And one is the underlying growth model in and of itself, right,
Speaker 3: because you've kind of, you know, all the low hanging
Speaker 3: fruit on investment, particularly real estate investment. You know, they're gone.
Speaker 3: And I've kind of tended to be an optimist about
Speaker 3: China because I think you kind of need two things.
Speaker 3: One is a kind of demonstrated capacity for technological convergence
Speaker 3: and income convergence for the rest of the world, which
Speaker 3: they've shown. But the other thing you really need is
Speaker 3: internal convergence between kind of the coast and the interior, more.
Speaker 2: Middle income in the Middle Kingdom. That's my dad joke.
Speaker 2: Thank you.
Speaker 3: I like that. Thanks, And you know, and you kind
Speaker 3: of look at you know works, you know works about
Speaker 3: what rural China is like. There's just there's a huge
Speaker 3: incentive both socially and economically to to do that. To
Speaker 3: do that, and think the other thing that lower precautionary
Speaker 3: savings would would achieve is that would be a contribution
Speaker 3: to ending this kind of like really horrible nexus of
Speaker 3: excess savings no place to put them, and underfunded mandates
Speaker 3: for local governments, which then end up having to sell
Speaker 3: real estate to developers in order to, you know, in
Speaker 3: order to get the money to provide the services the
Speaker 3: central government want. So there's this really nasty nexus right
Speaker 3: there that a larger social safety net would also help
Speaker 3: with it help with financial stability.
Speaker 2: I think, Joe, this is something that I've never really
Speaker 2: understood about China, that it's ostensibly a socialist country, but
Speaker 2: it actually doesn't have that big.
Speaker 4: Of a say.
Speaker 1: I think like anti unions and weren't there like some
Speaker 1: stories like they didn't want kids reading marks and stuff
Speaker 1: like that.
Speaker 4: I don't know, maybe I may have.
Speaker 1: I think I read something like that. Anyway, I don't
Speaker 1: want to expect it.
Speaker 3: I think that I don't Well, you know, this is
Speaker 3: the socialist The Chinese road to socialism is the Lendinis
Speaker 3: road to capitalism. Is kind of how you could think.
Speaker 1: Of there you go going back to the US real quickly.
Speaker 1: So you pointed out that like Japan decided in the end,
Speaker 1: it didn't want to make the trade offs that would
Speaker 1: have required for the for the end to be a
Speaker 1: big international currency, and maybe China will not anytime soon
Speaker 1: choose to make those trade offs. But that of course
Speaker 1: brings back to another sort of like other debate that
Speaker 1: people have and again Klein petests and some of these others,
Speaker 1: it's like, well, is the dollar strength of burden? And
Speaker 1: you know, should we reverse that basically try? Should we
Speaker 1: try on some level, at least at the margins to
Speaker 1: deinternationalize the US dollar that maybe is not so great.
Speaker 1: I'm curious, like where you stand on that question.
Speaker 3: My personal view is that the my response to the
Speaker 3: burden discourse is check your exorbitan privilege, because you know,
Speaker 3: I've been around, you know em long enough that I
Speaker 3: think that if you think being able to print dollars
Speaker 3: to pay your debt is a problem, try owing dollars
Speaker 3: without having any. So that's you know, that's that's extreme.
Speaker 3: But I guess more substantively, I would say that there
Speaker 3: are lots of reasons I don't think the dollar is
Speaker 3: is a burden. It certainly is a burden for certain
Speaker 3: sectors of the US economy that are very exchange rates
Speaker 3: sensitive and very exposed to kind of catch up growth
Speaker 3: in other countries, you know, and those regions also fall
Speaker 3: basically along America's political fulcrum, which is the upper Midwest
Speaker 3: and western pensivey, you know, so, so I think that
Speaker 3: adds a political urgency to this debate. That said, you know,
Speaker 3: the US in total, I think is a much more
Speaker 3: interest rate sensitive economy than it is an exchange rate
Speaker 3: sensitive economy. It's basically it's a much more closed to
Speaker 3: economy than either China or Europe. And if you think
Speaker 3: that the flip side of dollar centrality leading to dollar strength,
Speaker 3: which I'm also not convinced is always true, is lower
Speaker 3: interest rates and otherwise, then you have to ask the question,
Speaker 3: why are we not doing more with that windfall from
Speaker 3: low interest rates? Why why did we sink it all
Speaker 3: in countertops as opposed to doing things like you know,
Speaker 3: improving Laguardi you know, fifteen years ago, or building a
Speaker 3: better bque. I've only been here five years, so all
Speaker 3: my analogies is still East coast in egg. But you know,
Speaker 3: and I think there, I mean, I think finally we're
Speaker 3: moving that direction of having a more activist government that
Speaker 3: uses that potential windfall from issuing currency to do something
Speaker 3: more in terms of building out essential infrastructure, rather than
Speaker 3: being oh, the government always does stupid things, let's give
Speaker 3: it the households. So you know, then you end up
Speaker 3: what happened before two thousand and eight. But that's said.
Speaker 3: The evidence that dollar centrality, which has been true basically
Speaker 3: since nineteen forty five in one form and since nineteen
Speaker 3: seven to one another, always leads to dollars strength, I
Speaker 3: think is not really true because in the fifty years
Speaker 3: since nineteen seventy one and Betton was essentially ended, the dollar.
Speaker 3: You know, I'm an FX guy, the dollar has appreciated
Speaker 3: for fifty five percent of that time and depreciated for
Speaker 3: forty five percent of that time. The period of maximum
Speaker 3: current account deficits by the US, it's between two thousand
Speaker 3: and two and two thousand and eight. We're running currentcount
Speaker 3: deficit are close to six percent of GDP. In two
Speaker 3: thousand and six, the US current account death the largest
Speaker 3: in terms of the rest of the world GDP back
Speaker 3: then close to two and a half percent, and no
Speaker 3: one wanted to hold dollars. I remember that, I remember,
Speaker 3: you know, that was when that's when Giselle wanted euros.
Speaker 3: That's when you know. So this idea that you have
Speaker 3: an excessive demand for the safety of US assets that
Speaker 3: leads to dollar strength is not true. It's not true
Speaker 3: in the nineteen seventies. It's not true between two thousand
Speaker 3: in two. In two thousand and eight, people want to
Speaker 3: hold dollars when US interestrates are rising, when you have
Speaker 3: terms of trade shock like shale, when you have a
Speaker 3: perceived technological productivity miracle like the Internet book in nineteen
Speaker 3: ninety five and two thousand and two, those are strong
Speaker 3: dollar moments. But the dollar goes up and down all
Speaker 3: the time. It's been central and I think that's not
Speaker 3: appreciated enough of to burden discourse.
Speaker 2: So what about x US And you know, I take
Speaker 2: the point about maybe, you know, the dollar's centrality doesn't
Speaker 2: always lead to dollar benefits necessarily. But one argument that
Speaker 2: has been made, and I think it came up in
Speaker 2: the episode with Paul, is that the dollar can be
Speaker 2: a problem for the rest of the world at various
Speaker 2: points in time. And you know, we've had Yung Sunction
Speaker 2: on the show talking about this idea that the stronger
Speaker 2: dollar basically acts as an economic drag on other economies
Speaker 2: because of its role in the world and in trade
Speaker 2: and business activity. Is there an argument to be made
Speaker 2: that maybe it would make sense from a financial stability
Speaker 2: perspective for instance, to have alternatives to the US currency.
Speaker 3: Absolutely, I am one hundred percent. I am like a
Speaker 3: total multiple prolaetarian on that front, right. And the reason
Speaker 3: is this idea, you know, like I was saying earlier,
Speaker 3: if you think about the global real economies organized around
Speaker 3: some hubs and there are spokes, right, and you know,
Speaker 3: if you think about Germany or kind of Germany France
Speaker 3: as being a hub, what the EU has done and
Speaker 3: what the Eurozone has done and the extended EU has
Speaker 3: done has created a financial cycle that kind of parallels
Speaker 3: the real cycle in the hub, right, Because if you're
Speaker 3: barring in euros and you're highly exposed to what's happening
Speaker 3: in Germany or the core European or the broader core
Speaker 3: European economies, when that economy slows, the euro will go down,
Speaker 3: the ECB will cut rates unless it's doing something really stupid,
Speaker 3: which it does periodically that could not be excluded. But
Speaker 3: still you have this kind of and to me, that's
Speaker 3: that kind of coincidence of real and financial cycles is
Speaker 3: really important. And a world in which the dollar is
Speaker 3: the only currency and the most important cross border liability currency,
Speaker 3: which is something also I keep harping on is that
Speaker 3: the big role is as a liability denomination, not as reserves,
Speaker 3: not as invoices, none of this stuff. And that's where
Speaker 3: the financial stability issues come from. If you are indebted
Speaker 3: in a currency, the tends to strengthen every time the
Speaker 3: global economy slows. It's bad news for everybody, and that's
Speaker 3: consumptioning spart.
Speaker 1: This is also like not to diverge. But this is
Speaker 1: also like what the bitcoiners never get the liability aspect,
Speaker 1: because people are like, oh right, sure, some people may
Speaker 1: like the idea of like getting paid in bitcoin, but
Speaker 1: no one really like wants to like take bitcoin denominated debt.
Speaker 1: And that's like, and I understand I don't want to
Speaker 1: like have like a big like crypto or bitcoin tangent,
Speaker 1: but it really is like this like this idea of
Speaker 1: like the liability side is being like really crucial and
Speaker 1: in like you have to ask yourself, are you willing
Speaker 1: to take on debt denominated in this currency? And I
Speaker 1: don't think many people would say yes. And that really
Speaker 1: like sort of like blows up the whole thing.
Speaker 3: Yeah, And but I mean I think the other thing
Speaker 3: that the you know, this is also I think the
Speaker 3: liability side is also really important to the broader discourse
Speaker 3: about this because you see all this excitement, you know about,
Speaker 3: oh my god, they're going to do their trade and
Speaker 3: they're going to do their trading dollars, and yeah, it's
Speaker 3: interesting because this is your classic economic comparison, right. One
Speaker 3: of the ways you and an argument of the economist
Speaker 3: is you're confusing stocks and flows. But I think that's
Speaker 3: exactly what's a issue here. People are focused on the invoicing,
Speaker 3: which is a flow, but the stock of debt is
Speaker 3: a multiple both of reserves and of trade flows.
Speaker 2: So okay, classic stock versus flow thing going on there.
Speaker 2: But one of the things you do hear from China
Speaker 2: every once in a while is, you know, it might
Speaker 2: talk about doing invoicing more stuff in renmon b but
Speaker 2: it also talks about special drawing rights so SDRs, which
Speaker 2: I have never quite understood what means are. But this
Speaker 2: idea of like, I think it's basically a basket of currencies,
Speaker 2: like a supercurrency that would involve a lot of you know,
Speaker 2: different currencies from different countries. How viable is that? Like,
Speaker 2: maybe instead of trying to create a multi polar currency
Speaker 2: reserve system, maybe we should just move on to SDRs
Speaker 2: and use those.
Speaker 3: I mean, I think that's and I think that's even
Speaker 3: less frankly, I mean in China. I mean, China's big
Speaker 3: tantrum over SDRs was in two thousand and nine, and
Speaker 3: one of the reasons for that was the FED did
Speaker 3: QI and you had a situation where the dollar had
Speaker 3: resumed weakening again after this huge dollar spike, you know,
Speaker 3: post Sleman, and what China was concerned about at the
Speaker 3: time was that it was holding all these dollars. The
Speaker 3: FED was doing QI, and commodity prices were rising again
Speaker 3: partly because of Chinese in good part because of Chinese stimulus,
Speaker 3: you know, post crisis stimulus, and also because and also
Speaker 3: because of Hue. So that conjunction in China was like,
Speaker 3: oh my god, these are the Americans are doing things
Speaker 3: that's making the real value of our reserves go down.
Speaker 3: It's kind of very similar to the Arab reaction in
Speaker 3: the nineteen seventies, for instance. And I think that's one
Speaker 3: of the things that kicked off Opeck was not just
Speaker 3: the young people wall on all the other stuff. It's like,
Speaker 3: we're holding all these dollars and now they're worthless because
Speaker 3: the US is now floating.
Speaker 2: This is the old Dick Beauvet argument that que was
Speaker 2: actually like a currency war in disguise. Almost right, That's
Speaker 2: what it's reminding me of.
Speaker 3: Yeah, I mean it's a I mean, interestingly enough, I
Speaker 3: think to some extent not so much currency war, but
Speaker 3: more just a way to reflate, to reflate the US economy.
Speaker 3: And I think the FED was kind of koi about that.
Speaker 3: The FED had has been pretty coy about the dollar
Speaker 3: until twenty fourteen, twenty fifteen, when it was finally like, Okay,
Speaker 3: we'll just come out. We'll just come out and say it.
Speaker 3: And that's wonderful. If it's been much more open about
Speaker 3: the way the dollar figures into his thinking. You know,
Speaker 3: the world needed reflation and it got it from US
Speaker 3: monetary policy and Chinese fiscal policy, and together that's what
Speaker 3: did a good deal to pull the world out of it.
Speaker 3: It's something in two thousand and eight was this combination
Speaker 3: of US monetary policy, eat a Chinese fiscal pause, huge investments.
Speaker 1: I want to go back to Chinese domestic trade offs
Speaker 1: and this idea. You know, I think we have some
Speaker 1: idea that the elites might lose out in China. Were
Speaker 1: there to be some domestic reorientation towards more robust household consumption,
Speaker 1: or maybe just from the question of Japan in terms
Speaker 1: of they didn't want to make those trade offs that
Speaker 1: would take you know, that would allow the end to
Speaker 1: become more international. What are we actually talking about in
Speaker 1: terms of the potential costs either to the country as
Speaker 1: whole or to a certain category, maybe the coastal elites
Speaker 1: within China, and what kind of like hit laws or
Speaker 1: meaningful shift, because it's hard to like, Okay, yeah, there's
Speaker 1: gonna be some domestic shift that happens everywhere. What are
Speaker 1: we really talking about in terms of how signify that
Speaker 1: would be?
Speaker 3: I'm honestly not sure to be frank, And this is
Speaker 3: probably a question for form, you know, for for tom
Speaker 3: oi like Mike Pettis or you know, I'm not a
Speaker 3: I'm not a deep. I'm not a deep you know,
Speaker 3: China expert to the same extent I pretend to be
Speaker 3: an expert on f X for anything else like that.
Speaker 3: But but you know, one thing you do know about
Speaker 3: China is that it sets a fair amount of store.
Speaker 3: The leadership sets a fair amount of store in kind
Speaker 3: of output legitimacy, right, and that you know, we're doing
Speaker 3: things that make people's lives better, which is a very
Speaker 3: significant difference from the Soviet Union, you know, or you know,
Speaker 3: or where the big calling card was we won the war,
Speaker 3: what do you want from us? We won World War Two?
Speaker 3: And increasingly that kind of became, you know, this is
Speaker 3: all we have to show. The Chinese leadership is not
Speaker 3: like that. It's had real gains I think it can
Speaker 3: point to, and presumably it makes sense for them to
Speaker 3: want that to continue. Now the question is can the
Speaker 3: leadership deliver on those things? And to what extent are
Speaker 3: the forces are powers that be within China that are
Speaker 3: not the leadership that kind of intermediate level, to what
Speaker 3: extent are they against that. The one thing I can
Speaker 3: actually think of which seems to be a concrete issue
Speaker 3: is changing HOOKU registration requirements. Affects the relatively privileged status
Speaker 3: that people who have that in the ability to live
Speaker 3: in cities.
Speaker 2: This is allowing people from the country to move more
Speaker 2: freely into cities and vice versa, although no one ever
Speaker 2: really does the first part.
Speaker 3: And then the other one, which is more obvious, is
Speaker 3: issuing some kind of tax on residential real estate, so
Speaker 3: you kind of increase the cost of carry on housing
Speaker 3: on housing, which is otherwise basically considered a pure appreciation asset.
Speaker 3: I can see those two being concrete disincentives to people
Speaker 3: that I can distinctly identify. But as to why you
Speaker 3: shouldn't why China doesn't have a larger a larger healthcare,
Speaker 3: better social provision of healthcare, for instance, they only spend
Speaker 3: I think six percent of GDP on healthcare at one
Speaker 3: third of the United States, and France is kind of
Speaker 3: the sweet spot at twelve according to me. But I
Speaker 3: don't really see where the actual maybe I don't have
Speaker 3: enough granular understanding of the social structures as to why
Speaker 3: people might be opposed to that.
Speaker 2: Well, I mean, I guess in the US we have
Speaker 2: the same argument all the time about well, why don't
Speaker 2: we just reform the healthcare industry, stud it's so easy,
Speaker 2: and like, clearly there are major issues with doing that.
Speaker 2: But Karthink, just to go back to the original premise
Speaker 2: of this conversation, I don't expect you necessarily to come
Speaker 2: up with a ten step Genghis Khan style plan on
Speaker 2: the fly, but like, what would be the steps or
Speaker 2: the prerequisites that you would look out for in order
Speaker 2: for the renmen B to achieve some degree of internationalization.
Speaker 3: I think the most logical place to look for it,
Speaker 3: given capital controls and so on, is slow incremental remenbiization
Speaker 3: of bridge and road lending. That's the most logical place
Speaker 3: to look for it because you have all these other
Speaker 3: issues I think at capital controls just in the structure
Speaker 3: and nature of Chinese financial markets that makes it much
Speaker 3: harder to achieve more on that front. But bridge and
Speaker 3: road lending in particular seems to be a place where
Speaker 3: you know, you have a very large stock of debt
Speaker 3: out to China. Almost all of it is in dollars,
Speaker 3: not in remenby, which is interesting in love itself, And
Speaker 3: the question is why is that? It's because they're just
Speaker 3: long a ton of dollars. Some of it is because
Speaker 3: of shadow, kind of shadow intervention by other entities that
Speaker 3: then pass those dollars, that passed those dollars along. Now,
Speaker 3: what you're doing in many of these distances opening up
Speaker 3: exactly those kinds of kind of real financial cycle mismatches
Speaker 3: stock flow mismatches that I talked about more broadly. So
Speaker 3: could there be a way to change that stock of
Speaker 3: dollar denominated debt in bri I that's basically owed to
Speaker 3: Chinese development banks, is that it would change that a
Speaker 3: way to change that gradually into remmen be I mean,
Speaker 3: I mean that seems like the most the most immediate
Speaker 3: likely prospect right now. One interesting thing here is this
Speaker 3: idea that you know, Argentina is going to denominate all
Speaker 3: its trade with China and remmenby and obviously you know
Speaker 3: that trade is small. There's you know, Argentina's problems that
Speaker 3: has I think two hundred billion dollars of debt, one
Speaker 3: hundred and twenty billion dollars of which are Oden dollars.
Speaker 3: But there's a very interesting thing from Brad from Bradcester
Speaker 3: and Daniel McDonald this morning talking about how this is
Speaker 3: really about Argentina really wants to hang on to its dollars.
Speaker 3: So what they're doing is changing the invoicing of their
Speaker 3: trade with China into to rememby. But over a very
Speaker 3: very long time, what this allows is a replacement of
Speaker 3: a stock of dollar debt owed to the rest of
Speaker 3: the world with owing rememby to China. Because of the
Speaker 3: swamp line, they run a deficit, which they run a
Speaker 3: deficit with China, so you're gradually changing liability structure, but
Speaker 3: an incredibly slow paced My joke is, you know this
Speaker 3: is like the Ron Paul It's happening gift, only you
Speaker 3: played at the slowest possible speed.
Speaker 1: It's imagining that like a very slow that it is,
Speaker 1: so it's happening.
Speaker 3: Yeah, you know, how do you replace a stock with
Speaker 3: flows very very slowly? Right? And it may happen. You know,
Speaker 3: they're probably not end up having a restruction before then.
Speaker 3: I mean the other places people have talked about with this,
Speaker 3: allows and Cambodia, which gives me an opportunity's sake, you know,
Speaker 3: Cambodia might find a new nominal anchor, but.
Speaker 2: Anchor of what? Sorry? Sorry, can I just ask what?
Speaker 2: One quick? Sorry? Can I ask one quick follow up question,
Speaker 2: which is why didn't China denominate built in road loans.
Speaker 3: In rem and B And that's a complete mystery to
Speaker 3: me and someone who knows immeasurably more about this, Brad,
Speaker 3: I've asked him and he's like, he's not really sure
Speaker 3: about it either. I think it's just because they had
Speaker 3: a ton of dollars. And one of the things that
Speaker 3: we're seeing around the world this reminds me of the
Speaker 3: conversation with Paul on this economist story, is that as
Speaker 3: reserve accumulation goes up, then countries find you know, if
Speaker 3: you're above precautionary reserves, you can find other things to
Speaker 3: do with those excess reserves for a sheet of you know, political,
Speaker 3: geopolitical gains or influence. Right. So it's not and that's
Speaker 3: not just China doing that by bri it's what the
Speaker 3: GCC is doing with Turkey and Egypt for instance.
Speaker 1: So and so, in your view, like in a world
Speaker 1: in which Brazil maybe we're doing renmon B denominated debt,
Speaker 1: or Cambodia or someone else, some of these countries that
Speaker 1: have a lot of dollars and we talked about this
Speaker 1: with Paul, that maybe have some political tension with the US,
Speaker 1: and Saudi Arabia comes to mind, is a country that
Speaker 1: accumulates tons of dollars and you know, depending on the
Speaker 1: administration at a given point, the political tension, ebbs and
Speaker 1: flows may want to acquire Brazilian issued R and B
Speaker 1: denominated debt as a way to diversify. It's big, you know,
Speaker 1: it's money, it's portfolio.
Speaker 3: I mean, it's it's it's certainly possible, And I would
Speaker 3: argue that. I mean, for me, the argument to do
Speaker 3: that is that if what you know about the way
Speaker 3: the global financial cycle works is that countries with dollar
Speaker 3: denominated debt that are commodity exported get into a lot
Speaker 3: of trouble, and this happens to them repeatedly, then it
Speaker 3: might make sense for you to look at buying their
Speaker 3: debt in a currency that more closely corresponds their real cycles.
Speaker 3: Just you know, it's like asking from the point from
Speaker 3: a financial stability point of view, would you rather buy
Speaker 3: Polish debt in zlati, in euros or in dollar? And
Speaker 3: I would put it precisely in that order by Biden
Speaker 3: Slotti first that in euros than in dollars.
Speaker 1: Because every once in a while you hear those stories
Speaker 1: about like in some European country and people have mortgages
Speaker 1: dollars or something like that and then it's cheaper until
Speaker 1: one day then they can't print them domestically and there's
Speaker 1: a huge shock, and so it's like a macro version
Speaker 1: of that story that you hear about from time to time.
Speaker 3: Yeah, I think dollar centrality. I'm kind of mixed on
Speaker 3: that for the US. And one thing I do want
Speaker 3: to mention about dollar centrality as an advantage. Yes'm I
Speaker 3: have no faith in these kind of beliefs that you know,
Speaker 3: the loss of dollar centrality will lead to it crash
Speaker 3: the US economy in the whole treasuries. I mean, that's
Speaker 3: that's crap, right, because I mean, you know, the UK,
Speaker 3: Australia and use it. When you have all these countries
Speaker 3: that kind of printing their own currency, currencies go up
Speaker 3: and down investors hold them. I think the one more
Speaker 3: concrete benefit to the US is the US as much
Speaker 3: lower inflation passed through when the currency weakens. Basically what
Speaker 3: ends up happening is that the combination of invoice currency
Speaker 3: effects is inertia there. And the sheer size of the
Speaker 3: US economy means that when the dollar weakens, prices are
Speaker 3: slow to change and wanting access to the US market,
Speaker 3: which is the biggest market in the world, means that
Speaker 3: exports to the US will mostly just eat it their margins, right.
Speaker 3: And that's something that you know who's now who she
Speaker 3: was the ex chief Economists not first Deputy MD of
Speaker 3: the IMF. She's written a lot about. So that's kind
Speaker 3: of a very concrete benefit which kind of brings us
Speaker 3: to another point, which is China is the world's largest
Speaker 3: manufacturing exporter. They're paying their workers in remenb. There's gotta
Speaker 3: be someone somewhere who wants these remenb. It can't be,
Speaker 3: you know, even taking into account the peculiarities of its
Speaker 3: financial system. But I think this is where something The
Speaker 3: people who are buying the most from China are the US,
Speaker 3: right because that's the largest bilodal trade deficit, and there's
Speaker 3: no way that the US is going to rednominate. It's
Speaker 3: created with China into remybe, which kind of means that
Speaker 3: this idea that you know, being the world's largest exporter
Speaker 3: means someone is going to want your currency. I think
Speaker 3: that runs into that runs into a problem.
Speaker 1: Karthik, this is such a great conversation. I feel like
Speaker 1: in the in like that spend of time, so many
Speaker 1: like these long standing things were like tied up and
Speaker 1: like several light bulbs went off. So really appreciate you
Speaker 1: coming on Odd Lots for the first time.
Speaker 4: It's been too long, but definitely won't be the last time.
Speaker 3: That great. I really love being there. Thanks very much,
Speaker 3: Thank you.
Speaker 4: Thanks so much. So that was a lot of fun.
Speaker 4: That was great. The anchor lot was a beautiful moment of.
Speaker 1: Like too great, too great, a word play, a fishing
Speaker 1: auto making magic happened live on air, Tracy. I loved
Speaker 1: talking to Karthik, and the thing that like when I said,
Speaker 1: you know, at the end the light bulb moments for
Speaker 1: me was not even actually like the questions about the
Speaker 1: future of the renmand B, but in this idea that
Speaker 1: it would like solve some of these problems that we
Speaker 1: talked about with human soungtion all these times that there
Speaker 1: is there's like the economic cycle and the dollar cycle,
Speaker 1: and we know that like that's a big problem all
Speaker 1: around the world. And so maybe the story is like
Speaker 1: in a more multipolar currency world, you just have fewer
Speaker 1: those mismatches.
Speaker 2: Right, and you have less pro syclicality in the system.
Speaker 2: I mean, I thought his point about like is this
Speaker 2: actually possible. Yeah, it feels like we're converging. I guess,
Speaker 2: getting to a consensus where you know, we've switched from
Speaker 2: never going to happen to it might happen, but it'll
Speaker 2: take some time. But I think Karthik laid out there
Speaker 2: reasons for that really clearly, which is the whole stock
Speaker 2: versus flow are in it, like it takes time to
Speaker 2: actually replace all those liabilities with something other than dollars.
Speaker 1: Right, So you can have these announcements like you talked
Speaker 1: about the recent announcement with Argentina, Like you can have
Speaker 1: these announcements where you just improve the flow a little bit,
Speaker 1: or you could or you could have like a big
Speaker 1: change in stock. But if we're just going to do
Speaker 1: it through like these sort of bilateral announcements, we're going
Speaker 1: to denominate this and Redmon be we're going to denomince,
Speaker 1: It'll happen just really slow. We'll just take a really
Speaker 1: long time as opposed to something sort of big, which
Speaker 1: is like okay, like China decides we're going to start
Speaker 1: making all these loans in Redmon b which is really interesting.
Speaker 1: Kind of makes me feel good that like even Brad
Speaker 1: sets Are doesn't know the answer to that one.
Speaker 2: Yeah, well that was like the big question for me
Speaker 2: because it would make sense in a lot of different ways.
Speaker 2: But the other thing about that episode is I think
Speaker 2: it's another one that's just going to lead to further
Speaker 2: episodes because now we got to get Brad Setser on
Speaker 2: to eat yes, And I know we've had Michael Pettis
Speaker 2: one before, but I feel like we should maybe dive
Speaker 2: in a little bit more to the China's social safety
Speaker 2: Net question. Yes, she and Matt Klein have written about
Speaker 2: in various ways, so we need to do that.
Speaker 4: Many follow ups to come.
Speaker 2: All right, shall we leave it there? For?
Speaker 3: No?
Speaker 4: Leave it there?
Speaker 2: This has been another episode of the All Thoughts podcast.
Speaker 2: I'm Tracy Alloway. You can follow me on Twitter at Tracy.
Speaker 4: Alloway and I'm Jill Why Isn't Thal?
Speaker 1: You can follow me on Twitter at the Stalwart. Follow
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