Over the weekend, the Chinese government elected to devalue the yuan against other currencies. This means that their export products are more affordable in other markets. They just got cheaper.
In response, to keep the balance closer to "normal", other major currencies followed. It's called 'a race to the bottom' and, in 1989, when Japan, which was then the number one export economy in the world changed it's monetary policy, it triggered a regional financial crisis. One that Japan is still feeling. Wiki has a good article on that (Google Japan Lost Decade and you'll find it), but now back to this.
China's economy, the largest in the world based on population, is slowing. Because the global economy has weakened in the past eight years, people aren't buying as many Chinese exports. As a result, China's debt to GDP ratio is climbing. Weakening their currency is one way of making those exports more affordable thus more competitive against other, similar products. Sell more product, the gap between GDP and debt goes down.
Of course, this puts more pressure on the companies that have debt payments that are valued against the US dollar or the Euro or other, stronger currencies. It makes it that much harder to pay their debt because, in effect, that debt just increased.
Unfortunately, the money games had the effect of creating near panic in the Shanghai stock market. There have already been problems in Shanghai with investors losing their shirts, their pants and their homes since property was recently deemed acceptable as collateral for traders whose losses exceed their monetary worth.
The Shanghai Composite - the Chinese stock market - soared to new heights in June. It reached it's highest level ever, and then it fell. Between June and last Thursday (August 22), the Shanghai Composite lost 30% of its value. On Friday, it fell another 4% and on Monday it dropped another 8% for a whopping "correction" of 42%.
As they do, since they're so closely linked through computers and trading, the world markets followed. Overnight between Sunday and Monday, the NYSE futures were down more than 500 points. As soon as trading opened Monday, the Dow fell almost 1,100 points. Other markets had similar losses but... never fear! The money printers are here!
The People's Bank of China (PBOC) has promised to toss $1.5bn into the Chinese market. That means that there are no new investors. It isn't "real" money that's being generated to hold this balloon up. It's money being printed by the Central Bank system to avoid a worldwide financial panic and/or economic collapse. The effect of this infusion of cash is that the value of the market is artificially pumped up.
Underneath the smoke and mirrors, nothing has changed. There is no fresh infusion of investor's money - it's just more debt. That's what's scary to people who watch this stuff happen and know what's going on. While it looks good on paper, inside there's nothing. The fundamentals that support our currencies and markets are nothing more than helium, hot air and perception. So long as we don't look down, or look behind the curtain, we'll be fine.
That news did what was intended, however. Once China staggered back, the Hang Seng, TOPIX and other Asian markets followed, recovering all or almost all of their losses, too, and soaring back into the stratosphere.
What the vast majority of people watching don't know, is that it wasn't just the PBOC that fired up the printing presses. Everyone did it, and that's why the New York Stock Exchange rebounded nearly 800 points yesterday.
It's called POMO - Permanent Open Market Operations and, in short, it means that when the US stock markets drop, the US Treasury is required by law to buy securities - stocks and bonds - to keep things afloat.
Yep, you read that right: the US Treasury is, by law based upon Central Bank directive, manipulating the stock market.
Don't believe me? Well, read this from the Federal Reserve of New York's webpage:
Permanent OMOs: Treasury
The purchase or sale of Treasury
securities on an outright basis adds or drains reserves available in the
banking system. Such transactions are arranged on a routine basis to offset other
changes in the Federal Reserve's balance sheet in conjunction with efforts to
maintain conditions in the market for reserves consistent with the federal
funds target rate set by the Federal Open Market Committee (FOMC).
On March 18, 2009, the FOMC announced a longer-dated Treasury purchase program with a different operating goal, to help improve conditions in private credit markets. (Note: Ever hear of the bank bailouts?)
On August 10, 2010, the FOMC directed the Open Market Trading Desk at the Federal Reserve Bank of New York to keep constant the Federal Reserve's holdings of securities at their current level by reinvesting principal payments from agency debt and agency mortgage-backed securities in longer-term Treasury securities. (Note: Here's where they pumped up the real estate market in the midst of the housing crisis - after most people had already lost their homes to repossession and foreclosure.)
On November 3, 2010, the FOMC decided to expand the Federal Reserve's holdings of securities in the SOMA to promote a stronger pace of economic recovery and to help ensure that inflation, over time, is at levels consistent with its mandate. (Note: Another Federal Reserve acronym. SOMA means 'System Open Market Account' and it's a means of managing currencies - the US dollar, the Euro, the yuan...)
On June 22, 2011, the FOMC directed the Desk to continue reinvesting principal payments on all domestic securities in Treasury securities to maintain the Federal Reserve's holdings of domestic securities at approximately $2.6 trillion. (Note: In other words, if the NYSE / DOW et al. collapse, the US Central Bank and US Treasury are prepared to throw up to $2.6 trillion dollars at it.)
On March 18, 2009, the FOMC announced a longer-dated Treasury purchase program with a different operating goal, to help improve conditions in private credit markets. (Note: Ever hear of the bank bailouts?)
On August 10, 2010, the FOMC directed the Open Market Trading Desk at the Federal Reserve Bank of New York to keep constant the Federal Reserve's holdings of securities at their current level by reinvesting principal payments from agency debt and agency mortgage-backed securities in longer-term Treasury securities. (Note: Here's where they pumped up the real estate market in the midst of the housing crisis - after most people had already lost their homes to repossession and foreclosure.)
On November 3, 2010, the FOMC decided to expand the Federal Reserve's holdings of securities in the SOMA to promote a stronger pace of economic recovery and to help ensure that inflation, over time, is at levels consistent with its mandate. (Note: Another Federal Reserve acronym. SOMA means 'System Open Market Account' and it's a means of managing currencies - the US dollar, the Euro, the yuan...)
On June 22, 2011, the FOMC directed the Desk to continue reinvesting principal payments on all domestic securities in Treasury securities to maintain the Federal Reserve's holdings of domestic securities at approximately $2.6 trillion. (Note: In other words, if the NYSE / DOW et al. collapse, the US Central Bank and US Treasury are prepared to throw up to $2.6 trillion dollars at it.)
And here's the link to what I just quoted and noted:
http://www.newyorkfed.org/markets/pomo/operations/
Based, on that, the Federal Reserve started with real estate after the collapse of the housing market following 2007 / 2008. Then, seeing how well that worked, they expanded it to securities - stocks and bonds.
Anytime you see a big market drop followed by intra-day bounce back to or above the low, you can count on it's being POMO'd. Whether it's here, through the Federal Reserve and the Treasury, or in Europe through the European Central Bank and its treasuries, it's the exact same thing.
It's fake, not real, not real investors jumping into the fray. It's tax dollars - your money and mine that we have paid to our government out of our paychecks.
Unfortunately, and I mean unfortunately all of this market manipulation - the POMO of the Central Banks - just delays the inevitable.
Somewhere sometime someone will look down, or examine the man behind the curtain and, when they do, economies will start falling the way Greece fell. At that point, there probably won't be anyone, like the ECB, to catch them. The world will be in a world of financial hurt. One that will make the Great Depression where money had almost zero value look like child's play.
So, that's what happened and it's worth doing some reading so, when the time comes, you're not standing there like this guy:
Sorry to burst your bubble or start your day on a downer, but being prepared is better than not.
Best~
Philippa
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