The international monetary system is in chaos trying to establish order to avert currency war and trade protectionism. China with the highest growth rate and surplus and massive forex reserve has emerged as the new global financial super power and she is resisting pressure to assume its global financial responsibility.

Forex buyers are turning to gold as dollar’s fate is uncertain and Yuan is not freely available. American dollar is expected to drop as part of U.S. strategy of “Quantitative Easing” to enhance exports. U.S. manufacturers are asking to devalue dollar by 40% to make American products globally competitive.

Iran’s foreign exchange reserves have increased by billions of dollars because Iran imported tons of gold when the price of gold was $656 per ounce and now gold price has risen to $1,230 dollars per ounce.

World Bank president Robert Zoellick has suggested a gold standard in view of the uncertainty of the fate of currencies in the global financial market. Others foresee the ascendancy of two or three reserve currencies in the world besides dollars.

G20 summit in Seoul merely endorsed the agenda agreed upon in G20 ministerial meeting in Gyeongju to move toward a market determined exchange rate, to restrain from competitive devaluation of national currencies, to implement IMF reform, and to introduce guidelines on current account balance.

G20 head of states meeting failed to persuade China to accept the leading role as the global financial leader substituting United States. The global financial market is left without a captain as United States has relinquished its captaincy and China refuses to accept it.

Leaders of the western industrial nations and emerging economies are gathering together to participate in G20 summits for the first time in Asia to negotiate an agreeable global economic solution to prevent economic protectionism that satisfies both the developed western nations and the emerging economies.

Developed western economies with very low growth rate are facing the challenges of high unemployment and massive deficits. Emerging economies with high growth rate presently need western markets for their exports.

G20 Ministerial meeting couple of weeks ago has put trade imbalances and forex exchange rates on top of the agenda of the two days G20 head of states summit beginning tomorrow.

United States has been pushing China to quickly increase the value of yuan by 20-40% and to decrease the trade imbalance by 4%. China has refused US demand to drastically appreciate yuan by 20-40% calling it a “shock therapy” that will lead to social and economic unrest in the country.

Higher yuan and lower dollar can bridge the gap in trade imbalance between United States and China as it will enhance Chinese buyers’ purchasing power and make American products competitive.

The second round of United States policy of “quantitative easing” has intensified the currency row and it is criticized by Germany and China for weakening the value of dollar.

A weaker dollar to enhance U.S. exports will result in depreciation of forex reserves traditionally kept in dollars in all the countries, and it will also lower U.S. national debt.

Drop in the value of U.S. dollar will adversely affect China the most being the leading lender to United States and having US $2.65 trillion in forex reserve.

Japan and Brazil had intervened in forex markets earlier to limit the appreciation of their currencies.

China has refused to accede to pressures from western developed countries with dwindling economies especially from USA.

After G20 ministerial summit US treasury secretary visited China. British premiere David Cameroon visited China before heading for G20 head of states meeting. German finance minister visited China and criticized US tactics to bog down China. Germany is expecting to have $100 billion trade with China.

All the western countries are wooing China to partake in its massive and growing economy.

China is leading the emerging economies because they are facing the same economic challenges from within and from the western world as China.

The G20 summit is fraught with challenges for developed western countries and emerging economies. A positive outcome of the meeting is not expected and a negative conclusion can lead to further national economic protectionism.

On the eve of the summit, World Bank president Robert Zoellick said the largest economies “need pro-growth policies, structural reforms, open trade and an anti-protectionist agenda”.

Global economy is a fact and without cooperation every other way leads to loss for all the western economies and emerging economic nations including United States and China.

United States and China have to stand up to the global historic moment of shifting economic power from western developed nations to the massively populated nations with emerging economies and learn cooperation and co-existence. Paranoia will only lead to protectionism.

America has lost its financial canine teeth and China has newly acquired financial canine teeth. Both United States and China have to settle down from gnashing false teeth and grinding baby teeth, as it will hurt the newly lost teeth just as much as it will hurt the newly acquired baby teeth.

The Fed said in a statement “The pace of recovery in output and employment continues to be slow”. The Fed has already spent 1.7 trillion dollars on buying U.S. government debt and mortgage-linked bonds to boost the sluggish economy without much success so far.

The central bank’s Federal Open Market Committee said that it will “purchase a further 600 billion dollars of longer-term Treasury securities by the end of the second quarter of 2011, at a pace of about 75 billion dollars per month.” The Fed has kept the target range for the funds rate at a historic low level of zero to 0.25%.

Justifying their policy the Fed said, “Household spending is increasing gradually, but remains constrained by high unemployment, modest income growth, lower housing wealth, and tight credit. Business spending on equipment and software is rising, though less rapidly than earlier in the year, while investment in non residential structures continues to be weak”.

The policy of second round of quantitative easing raised domestic and global concern for the uncertainty of its effectiveness. Thomas Hoenig, Kansas City Fed President, had expressed concern on October 25 that quantitative easing may lead to another boom and bust cycle calling the proposal “a bargain … with the devil”.

Pointing to double-digit unemployment rate and Fed’s expressed concern of deflation Bernanke criticizes Feds for their failure to keep unemployment and inflation on sustainable levels. Bernanke also points out that Feds have no other tools to boost economic growth.

Martin Feldstein, Harvard University economist, wrote in the Financial Times article published on Wednesday, “The Federal Reserve’s proposed policy of quantitative easing is a dangerous gamble with only a small potential upside benefit and substantial risks of creating asset bubbles that could destabilize the global economy”.

Second round of quantitative easing can further lower the value of the U.S. dollar against other currencies resulting in boost for U.S. exports. Decline of U.S. dollar will also reduce the value of China’s forex reserves of 2.65 trillion dollars.

The campaign for US Congress election has united democrats and republicans in China bashing for all their economic woes. Republicans are expected to win majority seats in Congress and participate in US governance with Democrats to tackle with difficult economic challenges of high unemployment and massive deficit.

United States needs to invest more in research, development and capacity building to create new jobs for Americans, while cutting its defense spending to stall its exponentially growing deficit. Criticizing China for United States economic woes will not help republican and democrat politicians in earnestly focusing on the challenges and resolving them.

US defense spending accounts for 46% of world’s total defense expenses. Two wars in Afghanistan and Iraq have added more than a trillion dollars to American deficit and neither war has yielded any financial dividends for American people.

China can neither be blamed for extraordinary US consumption of 70% of the GDP, nor for providing cheaper labour for US manufacturers. The consumption spree worked for US during 1950s economic downturn and later, transforming US into world’s largest market. US spending on research and development and ‘ease of business’ helped it in becoming the top producer of advanced technology and the biggest manufacturer of industrial goods.

Global communication and global economy today has evolved emerging markets with cheaper skilled labour attracting enterprises to shift their manufacturing base from US to Mexico or China for instance.

Shifting manufacturing bases from US has caused job loss for US skilled workers. When GM motors can pay $7 an hour to Mexican workers for the same job that they have to pay $14 to a US workers, then it makes less economic sense not to move their plants from US to Mexico.

Fareed Zakaria recently published an incising analysis to restore the American dream in Times magazine. He mentions that the American dream is no longer the only dream in the world today. Emerging economies have given birth to new dreams.

Fareed suggests a multi-pronged approach to United States to overcome economic challenges of high un-employment and alarming national debt to restore the American dream.

He recommends a shift from consumption to investment, investing more in research, technology, development and training by controlling health care costs, and pensions at the state level.

Fareed writes “My proposals are inherently difficult because they ask the left and right to come together, cut some spending, pare down entitlements, open up immigration for knowledge workers, rationalize the tax code — and then make large investments in education and training, research and technology, innovation and infrastructure.”

Like all other leading journalists of US mainstream media, Fareed avoids mentioning US defense budget that has ballooned over the years adding exponentially to US deficit.
Democrat and Republican politicians are not discussing curtailment of US defense budget either.

US president Dwight Eisenhower had warned American public of the dangers of developing a huge military industrial complex in his speech in 1961 and his words still resonate. He said, “We annually spend on military security more than the net income of all United States corporations. In the councils of government, we must guard against the acquisition of unwarranted influence, whether sought or unsought, by the military industrial complex. The potential for the disastrous rise of misplaced power exists and will persist.”

The premiere blamed resource and environment bottleneck, enlarging income gap, poor technological innovation, unbalanced industrial structure, and uneven urban and rural development for China’s unbalanced, uncoordinated and unsustainable development.

He said that to boost domestic consumption turning potential demand into actual buying power in the next five years China has to further encourage urbanization, improve income distribution, expand social security network, augment basic public services, and upgrade consumption structure.

Wen said that hastening the transformation of the economic growth would move the country’s economic and social development to a new. He called the move “a profound reform in the country’s economic and social development”.

Wen emphasized a balance approach to guarantee firm and fairly rapid economic development, adjustment of economic structure and avoidance of possible inflation.

Recounting the achievements of the last five years, Wen mentioned that the thousand year old agricultural tax was eliminated, free nine-year compulsory education was attained throughout the country, and a social security system was established in both urban and rural areas in past five years.

He considered it a main assignment of Chinese government during next five years to consolidate and expand upon China’s accomplishment to deal with the adverse effects of the global financial crisis.

The Chinese government released complete transcript of Premier Wen Jiabao’s justification of five year economic and social development plan for the country on Thursday, which was adopted earlier at the Fifth Plenary Session of the 17th CPC Central Committee.

The state Council will draft the new five-year program and it is likely to be reviewed at the fourth session of the eleventh National People’s Congress next year in March.

World is quickly becoming multi-polar as US is losing its hegemony over the world and other global players like Europe Union, and China are pushing for a greater share in global leadership.

US Treasury Secretary Timothy Geithner told Bloomberg Television after G20 ministerial meeting “We’ve had a long period where the major economies, principally Japan, Europe and the United States, bore all the burden of cooperation on exchange rate questions. They dominated all those discussions, but the world’s changed dramatically and it’s very important that we’re discussing these things with China, with India, with Brazil, with the emerging market economies all around the world that are growing so rapidly.”

US treasury secretary had failed to develop consensus among the members of developed western nations to bully China into accepting monetary policy recommended by USA in IMF meeting few weeks ago. Pointing to China Geithner had also demanded that IMF should not accept emerging economies claim to participation in the governance of International Monetary Fund until they rapidly appreciate their currency.

China called US recommended monetary strategy a “shock therapy” and declined to abruptly raise the value of yuan by 40 percent arguing that such a currency appreciation will create social unrest and economic instability in China. Japan and Brazil had intervened to protect their national economic interests by limiting their currency appreciation prior to the IMF meeting.

The IMF meeting had failed to push US agenda, but it had a sobering affect on the global players. German minister severely criticized US monetary policy in a visit to China after the meeting. Emerging economies expressed their fears that USA wants to flood their economies with cheap US dollars.

Economists pointed out that US wants to reduce its debts to China by making them appreciate yuan to shrink its 2.65 trillion forex reserves kept in US dollars. Most of the countries have their forex reserves in US dollars and cheaper dollars will cause their forex reserve to evaporate.

The pronouncement of IMF governance reform to include emerging economies in the joint statement at the end of G20 ministerial summit came as no surprise since at the conclusion of the IMF meeting earlier its chief, Straus Kahn had announced that the Fund is preparing a deal for the participation of emerging economies in the governance of IMF.

US treasury chief Geithner acceded, before heading to China for an unscheduled visit after the Group of 20 meeting, “They’re (China) an independent country, a large economy. They need the flexibility to run their policies in a way that makes sense for China. And that requires that their exchange rate move up over time as they’re now doing and we want to see that continue. They’ve got a ways to go but I think they’re committed to do that.”

Realizing the rapid transfer in economic power from western industrial nations to emerging Asian nations the G20 finance ministers and central bankers in a joint statement said “Key elements includes shifts in quota shares to dynamic emerging markets and developing countries (EMDC) and to underrepresented countries of over 6 percent”.

Finance ministers of G20 countries agreed to refrain from competitive devaluation of their currency to avoid currency and trade war among the 20 major world economies.

Finance ministers meeting succeeded in developing consent to “move towards more market determined exchange rate systems”. The emphasis was added by replacing the earlier used term “market oriented” to “market determined” exchange rate systems.

South Korean Finance Minister Yoon Jeung-Hyun, the chairman of the two-day meeting, declared the meeting successful. He said the meetings have ended the currency row that had created suspicions and volatility in the global economy.

Despite currency disputes and IMF governance reform issue the ministerial meeting finally managed to reach accord as the world leaders worked diligently to settle the differences.

South Korea hosted the two-day meeting of finance ministers and bankers from 20 member countries, and chiefs of International Monetary Fund and World Bank, and the leaders of the five non-member countries.

The released joint statement of the G20 ministerial meeting will provide foundation for the forthcoming G20 summit negotiations on November 11-12 in Seoul.

Photo: Seekingalpha.com

Commodity prices fall as dollar rises and  investors sell off some of their goods for a  profit. The US dollar bounced back in  unstable forex market on Thursday as  investors become vigilant ahead of G20  finance ministers meeting on Friday and  Saturday.

Market analysts forecast a stronger dollar if  the G20 finance minister meeting developed  a consensus not to devalue their currencies.  A stronger dollar turns buyers using foreign currency away from commodities since they are priced in dollars.

Investors are watchful while they wait for Federal Reserve decision next month as how to fuel the economy. Majority of investors are expecting Policy makers to start buying bonds in November that will exert more pressure on the US dollars.

Metals, grains, energy contracts all dropped on Thursday. Gold shed US$18.60 settling at US$1,325.60 an ounce.

In contracts for December, Crude lost US$1.98 to US$80.56 a barrel, Silver dropped 72.5 cents to US$23.139 an ounce, copper lost 1.2 cents to settle at US$3.7815 a pound, and palladium shed US$4.35 to US$586.30 an ounce, wheat dropped 14.25 cents to US$6.6875 a bushel, and corn fell 9.25 cents to US$5.6425 a bushel.

Emerging economies criticize US for enforcing international monetary solution for solving its domestic challenges instead of implementing difficult fiscal measures to bring unemployment down and manage deficit.

After failing to devise and implement a viable strategy to deal with its domestic issues of high unemployment and a huge deficit USA is bringing the whole world down with it.

Jeremy Warner, assistant editor of The Daily Telegraph wrote, “The U.S. has no strategy for the jobless and no strategy for rolling back debt. Little wonder that a renewed sense of gloom has settled on the international policy makers”.

Brazil’s Finance Minister Guido Mantega referring to the continually dropping US dollar against the Thai baht, the Malaysian ringgit, the Singapore dollar, and the Indonesian rupiah since mid-September said, “We are in the midst of an international currency war … Advanced countries are seeking to devalue their currencies”.

The US currency domination has resulted in almost all countries keeping their foreign exchange reserve in US dollars, and the dwindling value of dollars is generating fears among those countries of being filled with cheap dollars.

A Shanghai based economist recently said that the appreciation of Chinese yuan will decrease US debt to China and this will result in shrinking Chinese forex reserve of US $2.65 trillion.

US monetary policy for a weaker dollar for its economic interest and for domestic political gains is pushing the export-dependent emerging and developing economies to take reactionary measures to protect themselves.

The Japanese yen climbed to record high against US dollar on Friday in New York market. Japan publicly intruded in the forex market after 2004.

Brazil’s central bank has implemented monetary measures to limit increase in its exchange rate. Thai government may also intervene publicly to protect its interest in the volatile forex market.

Dominique Strauss-Kahn, chief of International Monetary Fund (IMF), raising alarm against using currency as a ‘policy weapon’ said, “Currency war might be too strong, but the fact the countries want to find domestic solutions to a global problem is really a threat to the recovery”.

The US had also pointed finger at Germany for preferring exports to the interest of its partners. The United States “are on the eve of elections, and have not managed to master their own problems, … my concern is that they are favouring short-term solutions for electoral and partisan reasons,” the minister added.

The minister noted that the trade between Germany and China is expected to hit 100 billion euros this year, and it has facilitated revitalization of German economy.

Bruederle advised Americans to diminish their trade deficit by improving their economic competitiveness.

The yuan has increased by 2.2 percent since June 19th, 2010, after the People’s Bank of China (PBOC), the central bank, announced its decision to reform yuan exchange rate management and to enhance exchange rate flexibility. The yuan has climbed 23 percent since July 2005.

Zhuang Jian, senior economist of the Asian Development Bank (ADB) in China, said, “Foreign exchange rates may not be directly linked to the value of the yuan… China has increased imports, which would help rebalance its international payments.”

Sun Shijian, a Shanghai based economist said “The US is, in a sense, trying to reduce its debt to China through pressuring (China) to appreciate its currency”. US insistence that China quickly raise the value of its currency will result in reducing its immense foreign exchange reserve in dollars that has reached US $2.65 trillion.

Chinese exports are expected to diminish in view of frail employment growth in the US and measures implemented to tighten economy in Europe.

Moody’s Analytics Senior Economist Matt Robinson said, “The government will (instead) try to strike a balance between insulating China’s economy from global weaknesses and keeping the domestic housing market from rebounding.”